How the banking system is creating a two-way inflation in an economy

Ahmed Mehedi Nizam

doi:10.1371/journal.pone.0229937

Peer Review History

Original SubmissionDecember 6, 2019
30 Jan 2020 Decision Letter - Juan Carlos Cuestas, Editor PONE-D-19-33792 How the Banking System is Creating a Two-way Inflation in an Economy? PLOS ONE Dear Mr. Nizam, Thank you for submitting your manuscript to PLOS ONE. After careful consideration, we feel that it has merit but does not fully meet PLOS ONE’s publication criteria as it currently stands. Therefore, we invite you to submit a revised version of the manuscript that addresses the points raised during the review process. We would appreciate receiving your revised manuscript by Mar 15 2020 11:59PM. When you are ready to submit your revision, log on to https://www.editorialmanager.com/pone/ and select the 'Submissions Needing Revision' folder to locate your manuscript file. If you would like to make changes to your financial disclosure, please include your updated statement in your cover letter. To enhance the reproducibility of your results, we recommend that if applicable you deposit your laboratory protocols in protocols.io, where a protocol can be assigned its own identifier (DOI) such that it can be cited independently in the future. For instructions see: http://journals.plos.org/plosone/s/submission-guidelines#loc-laboratory-protocols Please include the following items when submitting your revised manuscript: A rebuttal letter that responds to each point raised by the academic editor and reviewer(s). This letter should be uploaded as separate file and labeled 'Response to Reviewers'. A marked-up copy of your manuscript that highlights changes made to the original version. This file should be uploaded as separate file and labeled 'Revised Manuscript with Track Changes'. An unmarked version of your revised paper without tracked changes. This file should be uploaded as separate file and labeled 'Manuscript'. Please note while forming your response, if your article is accepted, you may have the opportunity to make the peer review history publicly available. The record will include editor decision letters (with reviews) and your responses to reviewer comments. If eligible, we will contact you to opt in or out. We look forward to receiving your revised manuscript. Kind regards, Juan Carlos Cuestas Academic Editor PLOS ONE Journal Requirements: When submitting your revision, we need you to address these additional requirements. 1. Please ensure that your manuscript meets PLOS ONE's style requirements, including those for file naming. The PLOS ONE style templates can be found at http://www.journals.plos.org/plosone/s/file?id=wjVg/PLOSOne_formatting_sample_main_body.pdf and http://www.journals.plos.org/plosone/s/file?id=ba62/PLOSOne_formatting_sample_title_authors_affiliations.pdf 2. PLOS requires an ORCID iD for the corresponding author in Editorial Manager on papers submitted after December 6th, 2016. Please ensure that you have an ORCID iD and that it is validated in Editorial Manager. To do this, go to ‘Update my Information’ (in the upper left-hand corner of the main menu), and click on the Fetch/Validate link next to the ORCID field. This will take you to the ORCID site and allow you to create a new iD or authenticate a pre-existing iD in Editorial Manager. Please see the following video for instructions on linking an ORCID iD to your Editorial Manager account: https://www.youtube.com/watch?v=_xcclfuvtxQ [Note: HTML markup is below. Please do not edit.] Reviewers' comments: Reviewer's Responses to Questions Comments to the Author 1. Is the manuscript technically sound, and do the data support the conclusions? The manuscript must describe a technically sound piece of scientific research with data that supports the conclusions. Experiments must have been conducted rigorously, with appropriate controls, replication, and sample sizes. The conclusions must be drawn appropriately based on the data presented. Reviewer #1: Partly Reviewer #2: Partly ******** 2. Has the statistical analysis been performed appropriately and rigorously? Reviewer #1: Yes Reviewer #2: Yes ****** 3. Have the authors made all data underlying the findings in their manuscript fully available? The PLOS Data policy requires authors to make all data underlying the findings described in their manuscript fully available without restriction, with rare exception (please refer to the Data Availability Statement in the manuscript PDF file). The data should be provided as part of the manuscript or its supporting information, or deposited to a public repository. For example, in addition to summary statistics, the data points behind means, medians and variance measures should be available. If there are restrictions on publicly sharing data—e.g. participant privacy or use of data from a third party—those must be specified. Reviewer #1: Yes Reviewer #2: Yes ****** 4. Is the manuscript presented in an intelligible fashion and written in standard English? PLOS ONE does not copyedit accepted manuscripts, so the language in submitted articles must be clear, correct, and unambiguous. Any typographical or grammatical errors should be corrected at revision, so please note any specific errors here. Reviewer #1: Yes Reviewer #2: Yes ****** 5. Review Comments to the Author Please use the space provided to explain your answers to the questions above. You may also include additional comments for the author, including concerns about dual publication, research ethics, or publication ethics. (Please upload your review as an attachment if it exceeds 20,000 characters) Reviewer #1: General comments I have found this paper interesting. In my opinion it is well written and the econometric analysis is properly executed to the best of my knowledge. I have a few comments before I can recommend this paper for publication. The main issue is explained in comments 5., 5.1 and 5.2. I am not able to fully assess the relevance of the proposed model because I feel some issues are not well explained. Specific comments: 1. The Introduction is organized in one single paragraph of 500 words. The introduction is very important in a paper, you should find the way to give a better structure. 2. In section 2, you also have only one paragraph of over 1000 words. It makes more difficult to read your arguments since the reader does not have a natural point to take a break while reading. I think you need to improve readability of section 2 by having shorter paragraphs. Notice this is also in odds with the rest of the paper: sections 3 and 4 have some paragraphs constituted with a single sentence. 3. The review of the literature in section 2 seems also outdated. You do not include any academic paper published since 2002. This does not provide an appropriate framework for your study since it suggests your paper is irrelevant to the current discussion in academia. 4. Is it realistic to set parameter beta as 0<beta<1? 100="" a="" account="" account.="" almost="" also="" any="" bank="" be="" believe="" borrower.="" case="" deposit="" economies="" hard="" in="" is="" it="" loan="" loans="" most="" of="" person="" population="" proportion="" provide="" the="" to="" transferred="" usually="" with="" without="" working="" would=""> 5. In pages 8 and 9, you mention the supply and demand functions. You do not clarify what demand/supply function you are referring to. What is Q? This is important because you then have a supply and demand effects which in turn decide inflation. For a while, I thought they were the supply/demand function in the money market (since the Fisher effect is usually modelled from the money demand function). but you also have the APC which suggest an aggregate supply/demand framework. 5.1. There is no explanation why EM affects the demand curve while the EC affects the supply curve. This may be obvious to you but it is not to me. You only mention the effect on your supply-demand function in the last paragraph of page 8. This is the most important comment I have: it is not clear what Q is and why/how EM affects its demand curve while the EC affects its supply curve. 5.2. Related to this, could you explain what would happen if the supply function where to be vertical? this seems relevant for both the money market and AS-AD framework. This question may not be relevant if the supply and demand functions in your paper are something else. 6. Section 6.2 looks like a recipe without much interpretation of the method. I would recommend to move this to an appendix and make use of section 6.2 for you to explain the procedure with your own words. Since the section would most likely be smaller in size you may also consider to eliminate all subsections and move all three methods in section 6 directly. 7. I was surprised in section 7 to find out you have not included the US. This is the most important economy of the world and it is included in most studies of the fisher equation. If the data is available, the US must be part of your study. 8. Can you please clarify what you mean by VAR representations with inflation, X1, X2 as endogenous variables in page 13? You make this reference to VAR with “endogenous variables” many times. To me, this would mean a VAR with three dependent variables and one equation each, which all variables been transformed to I(0). I expect only lags of the dependent variables are included as regressors. This just described a standard VAR. I would like to check with you if I am missing anything from your VAR specifications. Reviewer #2: The author proposes a new model to study the link between nominal interest rates and inflation with the idea of overcoming the mixed results found when testing for Fisher Effect. The model assumes that nominal deposit and lending interest rates may have different effects on inflation and, also, the intensity of these effects will depend on the volume of deposits and credit. I have some caveats regarding the paper: 1. The paper assumes that borrowers can translate any increase in interest rates to good prices. However, is this a realistic assumption? There is no reference to the good market structure and the feasibility of this pass-through. 2. The paper analyses a set of very open economies. Is there no role for the exchange rate in the interest rate transmission channel? Are interest rates domestically or international determined? Can lenders and borrowers operate in the international financial markets? If this is the case, the link between interest rate, domestic GDP and domestic inflation may be different to the one described in the paper. 3. Is there any role for structural breaks in the cointegration relationship linking interest rates and inflation (plus some other variables)? Are the cointegration relationships stable? Is it possible to estimate any measure of the degree of mean reversion? </beta<1?> ****** 6. PLOS authors have the option to publish the peer review history of their article (what does this mean?). If published, this will include your full peer review and any attached files. If you choose “no”, your identity will remain anonymous but your review may still be made public. Do you want your identity to be public for this peer review?** For information about this choice, including consent withdrawal, please see our Privacy Policy. Reviewer #1: No Reviewer #2: No [NOTE: If reviewer comments were submitted as an attachment file, they will be attached to this email and accessible via the submission site. Please log into your account, locate the manuscript record, and check for the action link "View Attachments". If this link does not appear, there are no attachment files to be viewed.] While revising your submission, please upload your figure files to the Preflight Analysis and Conversion Engine (PACE) digital diagnostic tool, https://pacev2.apexcovantage.com/. PACE helps ensure that figures meet PLOS requirements. To use PACE, you must first register as a user. Registration is free. Then, login and navigate to the UPLOAD tab, where you will find detailed instructions on how to use the tool. If you encounter any issues or have any questions when using PACE, please email us at figures@plos.org. Please note that Supporting Information files do not need this step. https://doi.org/10.1371/journal.pone.0229937.r001
Revision 1
14 Feb 2020 Author Response Response to Reviewer Reviewer 1: 1. Introduction is now segregated into three paragraphs: First one sketches the interaction between nominal deposit rate and demand pull inflation. Second paragraph briefly describes the inter-relation between nominal lending rate and cost push inflation. Finally, paragraph 3 combines the arguments presented in paragraph 1 & 2 and discusses how the article is organized. 2. Section: 2 is now thematically organized around 5 paragraphs each focusing on different clusters of empirical studies regarding Fisher effect. 3. Two more paragraphs about latest state of the art research regarding Fisher effect are appended. Studies earlier than 2002 are cited only to follow the chronological ordering of literature since the inception of Fisher effect in as early as 1930s. 4. Beta represents the portion of credit of those borrowers who do not have deposits with any bank. In practical cases, any customer who has a credit line is also supposed to have a depository account with the bank. Every borrower must have to have either a current/savings/SND account with his/her lending partner. At this point, Beta can be reasonably set to zero. However, the current/savings/SND account of the borrower may have zero balance theoretically. In this hypothetical but plausible scenario, Beta can not be zero. 5. We are concerned here with the Aggregate Demand – Aggregate Supply (AD-AS) model. Hence, Q represents total output. 5.1. EM and EC are indeed the two sides of the same coin: EM faces the depositors while EC faces the borrowers (producers). EM is actually a portion of nominal interest income while EC corresponds to a portion of nominal interest expense. Like every other transaction, payment of interest involves two parties: One pays and another receives. Hence, changing EM will change the depositors’ income and thus affects aggregate demand curve accordingly. On the other hand, changes in EC will be translated into a change in cost of production (as interest expense is usually considered as a cost of production. See for example, [1], [2], [3]). As cost of production changes so does the aggregate supply. 5.2. Long Run Aggregate Supply (LRAS) is usually considered to be vertical. Hence, although changes in EM and EC may distort the equilibrium in the short run, the economy will eventually lean back to its original full employment level with a different price tag. We have appended a new section (Section: 6) in the article regarding this. 6. We move the step by step algorithm followed for Toda-Yamamoto approach of testing Granger Causality in the context of non-stationary time series to the appendix. We also reorganize ‘Methodology’ section with no sub-section. 7. We omit US from our analysis only because US deposit rate data are not publicly available. We collect annual deposit rate data of commercial banks from World Bank data warehouse and US data are missing there. Moreover, US deposit rate data are not available in other popular public databases like Fed St. Louis economic data, IMF database or OECD statistics. 8. Reviewer’s understanding in this regard is similar to authors’ one. Reviewer 2: 1. Reviewer has rightly pointed out that the borrowers are not the price setters unless it’s a monopoly. We apologize for the ambiguity we created here in the narratives. Our intended meaning in this regard is as follows: When the economy is growing at a rate g, we can assume that the producers of goods and services as a whole also get a g percentage point growth in their production, revenue and profit. If loans in the borrowers' account and output in real terms grow at the same pace (i.e., if g = l) then the accruals in loans can be served effectively by the enhancement in profit. If however g < l then the borrowers have to manage extra money for interest servicing which can not be obtained from the growth in profit. As this is an economy-wide phenomenon not just for one single producer, the aggregate supply curve moves upward accordingly (as we recall interest expense as an inevitable cost of production [1], [2], [3]) and a higher equilibrium price level is set. Assuming a perfect competition, the borrowers/producers just have to follow the new equilibrium price thus set. In this regard, we have completely rewritten Section: 4 of the article. 2. Interest rate, inflation and exchange rate dynamics may be discussed under the following broad heads: A. Many factors add to interest rate. B. Interest rate adds to inflation. C. Inflation adds to exchange rate through international Fisher effect. Here, we confine ourselves to point B. Detailing point A and C simultaneously along with point B may go beyond the scope of a single study. 3. a) In the current study, structural breaks in the time series data are not taken into account. Incorporating structural break in our analysis at this point will irrevocably nullify all the testings that have been done, from unit roots to Block Exogeneity to ARDL. The study will then require new estimation techniques and may pose different results and interpretations which we think will go beyond the scope of a “Revise and Resubmit”. b) Now, we have reported the results of CUSUM test to judge the stability of the selected ARDL models which were not included in the previous submission. Results suggest that most of the ARDL models are stable. c) Now, we have reported the speed of adjustment and corresponding p-values for our selected ARDL models. Speed of adjustments are found to be negative in all the cases which implies some sort of mean reversion in the process and the corresponding p-values are found to be significant in almost all the reported cases of cointegration. References: [1] Barth, M. and V. Ramey, 2001, The Cost Channel of Monetary Transmission, NBER Macroeconomics Annual 2001, Cambridge, MIT Press, pp. 199-240. [2] Dedola, L., Lippi, F., 2005, The monetary transmission mechanism: evidence from the industries of five OECD countries, European Economic Review 49, 1543-1569. [3] Gaiotti, E., Secchi, A. (2006), Is there a cost channel of monetary policy transmission? An investigation into the pricing behaviour of 2,000 firms, Journal of Money, Credit and Banking, v. 38, 8, pp. 2013-2038. Attachments Attachment Submitted filename: Response-2-Reviewers.pdf https://doi.org/10.1371/journal.pone.0229937.r002
19 Feb 2020 Decision Letter - Juan Carlos Cuestas, Editor How the Banking System is Creating a Two-way Inflation in an Economy? PONE-D-19-33792R1 Dear Dr. Nizam, We are pleased to inform you that your manuscript has been judged scientifically suitable for publication and will be formally accepted for publication once it complies with all outstanding technical requirements. Within one week, you will receive an e-mail containing information on the amendments required prior to publication. When all required modifications have been addressed, you will receive a formal acceptance letter and your manuscript will proceed to our production department and be scheduled for publication. Shortly after the formal acceptance letter is sent, an invoice for payment will follow. To ensure an efficient production and billing process, please log into Editorial Manager at https://www.editorialmanager.com/pone/, click the "Update My Information" link at the top of the page, and update your user information. If you have any billing related questions, please contact our Author Billing department directly at authorbilling@plos.org. If your institution or institutions have a press office, please notify them about your upcoming paper to enable them to help maximize its impact. If they will be preparing press materials for this manuscript, you must inform our press team as soon as possible and no later than 48 hours after receiving the formal acceptance. Your manuscript will remain under strict press embargo until 2 pm Eastern Time on the date of publication. For more information, please contact onepress@plos.org. With kind regards, Juan Carlos Cuestas Academic Editor PLOS ONE Additional Editor Comments (optional): Reviewers' comments: https://doi.org/10.1371/journal.pone.0229937.r003
Formally Accepted
24 Feb 2020 Acceptance Letter - Juan Carlos Cuestas, Editor PONE-D-19-33792R1 How the Banking System is Creating a Two-way Inflation in an Economy? Dear Dr. Nizam: I am pleased to inform you that your manuscript has been deemed suitable for publication in PLOS ONE. Congratulations! Your manuscript is now with our production department. If your institution or institutions have a press office, please notify them about your upcoming paper at this point, to enable them to help maximize its impact. If they will be preparing press materials for this manuscript, please inform our press team within the next 48 hours. Your manuscript will remain under strict press embargo until 2 pm Eastern Time on the date of publication. For more information please contact onepress@plos.org. For any other questions or concerns, please email plosone@plos.org. Thank you for submitting your work to PLOS ONE. With kind regards, PLOS ONE Editorial Office Staff on behalf of Professor Juan Carlos Cuestas Academic Editor PLOS ONE https://doi.org/10.1371/journal.pone.0229937.r004

Open letter on the publication of peer review reports

PLOS recognizes the benefits of transparency in the peer review process. Therefore, we enable the publication of all of the content of peer review and author responses alongside final, published articles. Reviewers remain anonymous, unless they choose to reveal their names.

We encourage other journals to join us in this initiative. We hope that our action inspires the community, including researchers, research funders, and research institutions, to recognize the benefits of published peer review reports for all parts of the research system.

Learn more at ASAPbio .