A Panel Discussion on DSGE Modelling at Central Banks: Country Practices and How It Is Used in Policy Making by Surach Tanboon Monetary Policy Department Bank of Thailand Presented at the SEACEN-CCBS/BOE-BSP Workshop on Dynamic Stochastic General Equilibrium Modeling and Econometric Techniques November 23–27, 2009 Manila, Philippines

2222 Macro Modeling at Bank of Thailand  Bank of Thailand Macroeconometric Model (BOTMM) –Principal model for forecasting and policy analysis  Small New-Keynesian Model –Used in policy analysis  DSGE Model –Work in progress, currently used to study special issues –Aimed to complement BOTMM in MPC process

Househ olds Domestic Firms  Consume  Hire inputs and produce AGEN T FUNCTIO NS FEATURE S Export Firms Banks  Take deposits from households; lend to firms Governme nt Central Bank  Supply labor to firms and set wage  Deposit funds with banks; trade foreign bonds  Consumption habit persistence  Monopolistic competitive labor market; wage rigidities  Monopolistic competitive local market; price rigidity  Competitive export market  External finance premium  Spend according to fiscal rule  Set interest rate according to monetary policy rule  Fixed proportion of nominal GDP  Inflation targeting  External finance premium 3 Capital Producer  Invest and supply capital to firms  Investment adjustment costs Model Environment  Debt-contingent premium on foreign borrowing

44444 Fir ms Retailer s labor Househ olds Capital producer capita l wholes ale good final good (for investment ) final good (for consumpti on) No Financial Accelerator Fir ms Househ olds capit al Ban ks EXTERNAL FINANCE: loans BALANCE SHEET Capital producer Macro-financial linkage With Financial Accelerator 4 labor Key Mechanism Inverse relationship between borrower’s balance sheet conditions and premium for external finance EXTERNAL FINANCE: deposits

5555 Determinati on of R D Case 1 QK D < N D  No need to seek external finance; External finance premium is zero Case 2 N D < QK D < N D + N BD  Firm needs to borrow & bank can cover firm’s demand with its own internal funds Case 3 QK D > N D + N BD  Bank cannot cover firm’s demand; pays premium when raise external funds; in turn passes this premium onto firms Model Highlight 1: Double financial accelerator Source: Sunirand (2002)

6666 Model Highlight 2: Euler rate puzzle  Canzoneri, Cumby, and Diba (2007) and Reynard and Schabert (2009) –Euler rate is empirically not related to observed policy rates  Here, bank’s external finance premium acts as wedge between policy rate and deposit rate –Hence interest rate at which households use for discounting is different from Euler rate

7777 Equity shock Financial accelerator intensified: external finance premium becomes more sensitive to balance sheet conditions Model insight: Higher degree of monetary policy accommodation during crisis times

8888 Plan Ahead  Start inducting DSGE model in MPC process –Policy analysis –Forecasting  Issues to work out –Estimating the model –Striking balance between simplicity and complexity Communication between modelers and policymakers/sector specialists –Dealing with nonmodeled variables –Incorporating off-model information Large cross-section data, high-frequency indicators, judgment –Introducing risks and uncertainty in model