nep-mac New Economics Papers
on macroeconomics
Issue of 2005‒01‒02
forty-nine papers chosen by
Soumitra K Mallick
Indian Institute of Social Welfare and Bussiness Management

  1. Money As An Inflation Indicator In Chile – Does P* Still Work? By Tobias Broer; Rodrigo Caputo
  2. Labor Market Institutions, Wages and Investment By Jörn-Steffen Pischke
  3. Excess Sensitivity and Volatility of Long Interest Rates: The Role of Limited Information in Bond Markets By Beechey, Meredith
  4. State Dependent Pricing and Exchange Rate Pass-Through By Flodén, Martin; Wilander, Fredrik
  5. Firm-Specific Capital, Nominal Rigidities and the Business Cycle By Altig, David; Christiano, Lawrence; Eichenbaum, Martin; Lindé, Jesper
  6. Capital Utilization and the Foundations of Club Convergence By Michael M. Hutchison
  7. Inflation, Money Growth, and I(2) Analysis By Katarina Juselius
  8. Financial Integration, Growth, and Volatility By Anne Epaulard; Aude Pommeret
  9. Macroeconomic Conditions, Health and Mortality By Christopher J. Ruhm
  10. Labor Income Dynamics at Business-Cycle Frequencies: Implications for Portfolio Choice By Anthony W. Lynch; Sinan Tan
  11. The Macroeconomics of Subsistence Points By Morten O. Ravn; Stephanie Schmitt-Grohe; Martin Uribe
  12. Crises and Prices: Information Aggregation, Multiplicity and Volatility By George-Marios Angeletos; Ivan Werning
  13. Incomplete Market Dynamics in a Neoclassical Production Economy By Goerge-Marios Angeletos; Laurent-Emmanuel Calvet
  14. Monetary Policy, Endogenous Inattention, and the Volatility Trade-off By Wiliam Branch; John Carlson; George W. Evans; Bruce McGough
  15. Are Business Cycles All Alike? A Bandpass Filter Analysis of Italian and US Cycles By Mauro Napoletano, Andrea Roventini, Sandro Sapio
  16. Identifying the Cycle of a Macroeconomic Time-Series Using Fuzzy Filtering By David E. Giles; Chad N. Stroomer
  17. Long-term interest rates, wealth and consumption By Roy Cromb; Emilio Fernandez-Corugedo
  19. The Effects of Heterogeneity in Price Setting on Price and Inflation Inertia By Carlos Viana de Carvalho
  20. Jobless Recoveries By David Andolfatto; Glenn MacDonald
  21. Quantifying Inflation Pressure and Monetary Policy Response in the United States By Diana N. Weymark; Mototsugu Shintani
  22. Unemployment in Britain: A European Success Story By Christopher A. Pissarides
  23. Some Results on the Solution of the Neoclassical Growth Model By Jesus Fernandez-Villaverde; Juan F. Rubio-Ramirez
  24. Comparing Solution Methods for Dynamic Equilibrium Economies By Jesus Fernandez-Villaverde; Juan F. Rubio-Ramirez; S. Boragan Aruoba
  25. Collateral Value and Forbearance Lending By Nan-Kuang Chen; Hsiao-Lei Chu
  26. Rising Occupational and Industry Mobility in the United States:1968-1993 By Gueorgui Kambourov; Iourii Manovskii
  27. Evaluating Labor Market Reforms: A General Equilibrium Approach By César Alonso-Borrego; Jesús Fernández-Villaverde; José E. Galdón-Sánchez
  28. Occupational Mobility and Wage Inequality, Second Version By Gueorgui Kambourov; Iourii Manovskii
  29. Convergence Properties of the Likelihood of Computed Dynamic Models By Jesus Fernandez-Villaverde; Juan F. Rubio-Ramirez; Manuel Santos
  30. Inflation and unemployment in OECD countries: The role of political ideologies, Central Bank independance and industrial relations By Borghijs Alain; Di Bartolomeo Giovanni; Merlevede Bruno
  31. Publicity of Debate and the Incentive to Dissent: Evidence from the US Federal Reserve By Ellen E. Meade; David Stasavage
  32. Reform reversals and output growth in transition economies By Merlevede Bruno
  33. Macroeconomic stabilisation policies in the EMU: Spillovers, asymmetries and institutions By Di Bartolomeo Giovanni; Engwerda J.; Plasmans Jozef; Van Aarle Bas
  34. Fiscal and Monetary Interaction: The Role of Asymmetries of the Stability and Growth Pact in EMU By Matteo Governatori; Sylvester Eijffinger
  35. Public Enterprises and Labor Market Performance By Johannes Hörner; Rachel Ngai; Claudia Olivetti
  36. The Effect of Monetary Policy on Economic Output By Joe Haslag; R.W. Hafer; Garett Jones
  37. Inflation Contracts, Inflation and Exchange Rate Targeting, and Uncertain Central Bank Preferences By Ronald A. Ratti; Sang-Kun Bae
  38. Conservative Central Banks, and Nominal Growth, Exchange Rate and Inflation Targets By Ronald A. Ratti; Sang-Kun Bae
  39. Understanding the Roles of Money, or When is the Friedman Rule Optimal, and Why? By Joe Haslag; Joydeep Bhattacharya; Steven Russell
  40. Optimality of the Friedman Rule in Overlapping Generations Model with Spatial Separation By Joe Haslag; Antoine Martin
  41. Sub-Optimality of the Friedman Rule in Townsend’s Turnpike and Limited Communication Models of money: Do finite lives and initial dates matter? By Joseph H. Haslag; Joydeep Bhattacharya; Antoine Martin
  42. Who is Afraid of the Friedman Rule? By Joseph H. Haslag; Joydeep Bhattacharya; Antoine Martin; Rajesh Singh
  43. Short Job Tenures and Firing Taxes in the Search Theory of Unemployment By Vasileios Gkionakis
  44. Price-setting behaviour, competition, and mark-up shocks in the New Keynesian model By Hashmat Khan
  45. Monetary Policy and Welfare in a Small Open Economy By Bianca De Paoli
  46. Anticipation of monetary policy in UK financial markets By Peter Lildholdt; Anne Vila Wetherilt
  47. Core inflation: a critical guide By Alan Mankikar; Jo Paisley
  48. Inflation, Inequality and Social Conflict By Christopher Crowe
  49. Financial System and Economic Growth in Chile. By Leonardo Hernández; Fernando Parro

  1. By: Tobias Broer; Rodrigo Caputo
    Abstract: This paper analyses the information content of monetary aggregates for inflation in Chile. In particular, we adopt the P* framework that separates the effect of an estimated money overhang from those of the output gap. We use two variants of the model, the original Hallman et al (1991), and Gerlach and Svensson (2003), that conditions on an inflation target. We estimate both models for 6 different monetary aggregates, and 2 alternative estimates of equilibrium velocity. We find that over the estimation period, deviations of velocity from its equilibrium have significant effects on inflation, across models and definitions of the money gap, and for both narrow and broad money. The usual Chilean aggregate M1A, although it has some indicator properties, is outperformed by other money aggregates, first of all cash in the hands of the public, and a broad money aggregate containing time and foreign currency deposits. However, out-of sample forecasts show that over the recent past, most money gaps do not improve inflation forecasts. Also, inflation forecasts from broad and narrow money aggregates diverge in opposite directions in recent years, reflecting the estimated gaps that are large both for M1A and broader definitions of money, but opposite in sign. This finding puts a question mark behind the stability of money demand in recent times of stable and low inflation.
    Date: 2004–12
  2. By: Jörn-Steffen Pischke
    Abstract: Labor market institutions, via their effect on the wage structure, affect the investmentdecisions of firms in labor markets with frictions. This observation helps explain rising wageinequality in the US, but a relatively stable wage structure in Europe in the 1980s. Thesedifferent trends are the result of different investment decisions by firms for the jobs typicallyheld by less skilled workers. Firms in Europe have more incentives to invest in less skilledworkers, because minimum wages or union contracts mandate that relatively high wages haveto be paid to these workers. I report some empirical evidence for investments in training andphysical capital across the Atlantic, which is roughly in line with this theoretical reasoning.
    Keywords: Frictional labor markets, human capital, changes in wage inequality
    JEL: E22 E24 J23 J24 J31
    Date: 2004–09
  3. By: Beechey, Meredith (Department of Economics, University of California, Berkeley)
    Abstract: Asymmetric information between the central bank and bond markets creates an inference problem that affects the behaviour of long interest rates. This paper employs a simple macroeconomic model with a time-varying infation target to illustrate the implications of asymmetry for the sensitivity of long rates and volatility of bond returns. When the central bank's infation target is not communicated and macroeconomic shocks are imperfectly observed, bond markets infer the value of the target from noisy signals. This heightens the sensitivity of long-run infation expectations to transitory shocks, thereby raising the measured reaction of long rates to monetary policy and to infation surprises. Calibrated coe±cients from such regressions are more than twice as large when bond markets lack knowledge of the target compared with a full information scenario. Time variation in the infation target is the main source of volatility, but learning adds to the ability of the model to explain the observed volatility of returns along the yield curve.
    Keywords: Term structure of interest rates; yield curve; limited information; learning; excess sensitivity; excess volatility.
    JEL: E43 E52
    Date: 2004–12–01
  4. By: Flodén, Martin (Department of Economics, Stockholm School of Economics); Wilander, Fredrik (Department of Economics, Stockholm School of Economics)
    Abstract: We analyze exchange rate pass-through and volatility of import prices in a dynamic framework where firms are subject to menu costs and decide on price adjustments in response to exchange rate innovations. The exchange rate pass-through and import price volatility then depend on the pricing convention in combination with functional forms of cost and demand functions. In particular, there is lower pass-through, less frequent price adjustments, lower price volatility, and slightly lower average prices when prices are set in the importer’s currency than when prices are set in the exporter’s currency. The degree of pass-through also depends on the magnitude of exchange rate innovations. Large exchange rate innovations raise pass-through if prices are set in the importer’s currency but reduce pass-through if prices are set in the exporter’s currency. Finally, the presence of inflation can generate a substantial asymmetry in price adjustments. This asymmetry could lead to pitfalls when empirically estimating pass-through, and we present some potential resolutions to this estimation problem.
    Keywords: Exchange rate pass-through; Nominal rigidities; Invoicing; State dependent pricing
    JEL: D40 E30 F31 F40
    Date: 2004–12–01
  5. By: Altig, David (Federal Reserve Bank of Cleveland); Christiano, Lawrence (Northwestern University); Eichenbaum, Martin (Northwestern University); Lindé, Jesper (Research Department, Central Bank of Sweden)
    Abstract: Macroeconomic and microeconomic data paint conflicting pictures of price behavior. Macroeconomic data suggest that inflation is inertial. Microeconomic data indicate that firms change prices frequently. We formulate and estimate a model which resolves this apparent micro - macro conflict. Our model is consistent with post-war U.S. evidence on inflation inertia even though firms re-optimize prices on average once every 1.5 quarters. The key feature of our model is that capital is firm-specific and predetermined within a period.
    Keywords: Technology shocks; Firm-specific capital; Monetary policy; Nominal rigidities; Real rigidities; Business cycles
    JEL: E30 E40 E50
    Date: 2004–12–01
  6. By: Michael M. Hutchison (University of California, Santa Cruz)
    Abstract: Questions over the role of the IMF in the economic development and adjustment in developing countries have been the topic of intensive research and debate in recent years. Although most studies find that participation in an IMF program helps facilitate balance of payments adjustment, research in this area almost uniformly finds that growth is reduced at the same time (e.g. Bordo and Schwartz, 2000; Przeworski and Vreeland, 2000). In this paper we emphasize that the evaluation of the benefits and costs of participating in IMF-sponsored stabilization programs is complicated by the fact that countries typically enter into an agreement with the IMF only when facing dire economic problems. We argue that the sample selection bias is mainly responsible for the common perception that real output growth declines because countries choose to participate in IMF programs. This article uses four recently developed “matching” statistical methods (e.g. Heckman et al., 1997 and 1998; Rubin and Thomas, 1992; and others), based on the “selection on observables” bias, to estimate the growth effects of IMF program participation. In contrast with the extant literature, none of the matching method results (nearest neighbor, strata, radius and regression-adjusted) find an adverse growth effect. Rather, there is some evidence of a positive impulse to economic growth when countries entering IMF programs are compared to the appropriate counter-factual (i.e. non-participating countries with similar characteristics).
    JEL: E63 F34 F41 O19
    Date: 2004–06
  7. By: Katarina Juselius (Institute of Economics, University of Copenhagen)
    Abstract: The paper discusses the dynamics of inflation and money growth in a stochastic framework, allowing for double unit roots in the nominal variables. It gives some examples of typical I(2) ’symptoms’ in empirical I(1) models and provides both a nontechnical and a technical discussion of the basic differences between the I(1) and the I(2) model. The notion of long-run and medium-run price homogeneity is discussed in terms of testable restrictions on the I(2) model. The Brazilian high inflation period of 1977:1-1985:5 illustrates the applicability of the I(2) model and its usefulness to address questions related to inflation dynamics.
    Keywords: cointegrated VAR; price homogeneity; Cagan model; hyper inflation
    JEL: C32 E41 E31
    Date: 2004–12
  8. By: Anne Epaulard; Aude Pommeret
    Abstract: The aim of the paper is to evaluate the welfare gains from financial integration for developing and emerging economies. To do so, we build a stochastic endogenous growth model for a small open economy that can (i) borrow from the rest of the world, (ii) invest in foreign assets, and (iii) receive FDI. The model is calibrated on 32 emerging and developing economies for which we evaluate the upper bound for the welfare gain from financial integration. For plausible values of preference parameters and actual levels of financial integration, the mean welfare gain from financial integration is about 10 percent of the existing wealth. Compared to financial autarky, actual levels of financial integration translate into slightly higher annual growth rates (around 0.4 percentage points per year.)
    Keywords: financial integration; risk-sharing; endogenous growth; stochastic growth
    JEL: E13 F20 F36 F3 F43 O41
    Date: 2004–12
  9. By: Christopher J. Ruhm
    Abstract: Although health is conventionally believed to deteriorate during macroeconomic downturns, the empirical evidence supporting this view is quite weak and comes from studies containing methodological shortcomings that are difficult to remedy. Recent research that better controls for many sources of omitted variables bias instead suggests that mortality decreases and physical health improves when the economy temporarily weakens. This partially reflects reductions in external sources of death, such as traffic fatalities and other accidents, but changes in lifestyles and health behaviors are also likely to play a role. This paper summarizes our current understanding of how health is affected by macroeconomic fluctuations and describes potential mechanisms for the effects.
    JEL: E32 I12
    Date: 2004–12
  10. By: Anthony W. Lynch; Sinan Tan
    Abstract: A large recent literature has focused on multiperiod portfolio choice with labor income, and while the models are elaborate along several dimensions, they all assume that the joint distribution of shocks to labor income and asset returns is i.i.d.. Calibrating this joint distribution to U.S. data, these papers obtain three results not found empirically for U.S. households: young agents choose a higher stock allocation than old agents; young agents choose a higher stock allocation when poor than when rich; and, young agents always hold some stock. This paper asks whether allowing the conditional joint distribution to depend on the business cycle can allow the model to generate equity holdings that better match those of U.S. households, while keeping the unconditional distribution the same as in the data. Calibrating the business-cycle variation in the first two moments of labor income growth to U.S. data leads to large reductions in stock holdings by young agents with low wealth-income ratios. The reductions are so large that young, poor agents now hold less stock than both young, rich agents and old agents, and also hold no stock a large fraction of the time. Our results suggest that the predictability of labor-income growth at a business-cycle frequency plays an important role in a young agent's decision-making about her portfolio's stock holding.
    JEL: G11 G12
    Date: 2004–12
  11. By: Morten O. Ravn; Stephanie Schmitt-Grohe; Martin Uribe
    Abstract: This paper explores the macroeconomic consequences of preferences displaying a subsistence point. It departs from the existing related literature by assuming that subsistence points are specific to each variety of goods rather than to the composite consumption good. We show that this simple feature makes the price elasticity of demand for individual goods procyclical. As a result, markups behave countercyclically in equilibrium. This implication is in line with the available empirical evidence.
    JEL: D10 D12 D42 E30
    Date: 2004–12
  12. By: George-Marios Angeletos; Ivan Werning
    Abstract: Many argue that crises %u2013 such as currency attacks, bank runs and riots %u2013 can be described as times of non-fundamental volatility. We argue that crises are also times when endogenous sources of information are closely monitored and thus an important part of the phenomena. We study the role of endogenous information in generating volatility by introducing a financial market in a coordination game where agents have heterogeneous information about the fundamentals. The equilibrium price aggregates information without restoring common knowledge. In contrast to the case with exogenous information, we find that uniqueness may not be obtained as a perturbation from common knowledge: multiplicity is ensured when individuals observe fundamentals with small idiosyncratic noise. Multiplicity may emerge also in the financial price. When the equilibrium is unique, it becomes more sensitive to non-fundamental shocks as private noise is reduced.
    JEL: D8 E5 F3 G1
    Date: 2004–12
  13. By: Goerge-Marios Angeletos; Laurent-Emmanuel Calvet
    Abstract: We investigate a neoclassical economy with heterogeneous agents, convex technologies and idiosyncratic production risk. Combined with precautionary savings, investment risk generates rich effects that do not arise in the presence of pure endowment risk. Under a finite horizon, multiple growth paths and endogenous fluctuations can exist even when agents are very patient. In infinite-horizon economies, multiple steady states may arise from the endogeneity of risktaking and interest rates instead of the usual wealth effects. Depending on the economy's parameters, the local dynamics around a steady state are locally unique, totally unstable or locally undetermined, and the equilibrium path can be attracted to a limit cycle. The model generates closed-form expressions for the equilibrium dynamics and easily extends to a variety of environments, including heterogeneous capital types and multiple sectors.
    JEL: D51 D52 D92 E20 E32
    Date: 2004–12
  14. By: Wiliam Branch (University of Californis - Irvine); John Carlson (Federal Reserve Bank of Cleveland); George W. Evans (University of Oregon Economics Department); Bruce McGough (Oregon State University)
    Abstract: This paper addresses the output-price volatility puzzle by studying the interaction of optimal monetary policy and agents' beliefs. We assume that agents choose their information acquisition rate by minimizing a loss function that depends on expected forecast errors and information costs. Endogenous inattention is a Nash equilibrium in the information processing rate. Although a decline of policy activism directly increases output volatility, it indirectly anchors expectations, which decreases output volatility. If the indirect effect dominates then the usual trade-off between output and price volatility breaks down. This provides a potential explanation for the "Great Moderation" that began in the 1980's.
    Keywords: expectations, optimal monetary policy, bounded rationality, economic stability, adaptive learning
    JEL: E52 E31 D83 D84
    Date: 2004–12–07
  15. By: Mauro Napoletano, Andrea Roventini, Sandro Sapio
    Abstract: In this paper, we apply the bandpass filter to the main Italian and US macroeconomic variables, we estimate cross-correlations with respect to a benchmark indicator of the business cycle, and we compare results with previous empirical analyses. The aim is to investigate on the existence of specific patterns and more general regularities, in order to provide further insights as to what facts macroeconomic theories are supposed to predict and explain, and new hints at the underlying generating mechanisms. Our results underline the existence of significant specificities of the Italian business cycle with respect to the US. Certain macroeconomic relations - such as those between consumption, investments, exports, stock market variables, and the real GDP - do not robustly hold. This is a clear signal that which variables prompt and which respond to business cycles depends on country- specific characteristics.
    Keywords: Business Cycles, Bandpass Filter, Cross Correlations, Italian Economy, Macroeconomics.
  16. By: David E. Giles (Department of Economics, University of Victoria); Chad N. Stroomer (Department of Economics, University of Victoria)
    Abstract: This paper presents a new method for extracting the cycle from an economic time series. This method uses the fuzzy c-means clustering algorithm, drawn from the pattern recognition literature, to identify groups of observations. The time series is modeled over each of these sub-samples, and the results are combined using the “degrees of membership” for each data-point with each cluster. The result is a totally flexible model that readily captures complex non-linearities in the data. This type of “fuzzy regression” analysis has been shown by Giles and Draeseke (2003) to be highly effective in a broad range of situations with economic data. The fuzzy filter that we develop here is compared with the well-known Hodrick-Prescott (HP) filter in a Monte Carlo experiment, and the new filter is found to perform as well as, or better than, the HP filter. The advantage of the fuzzy filter is especially pronounced when the data have a deterministic, rather than stochastic, trend. Applications with real time-series illustrate the different conclusions that can emerge when the fuzzy regression filter and the HP filter are each applied to extract the cycle.
    Keywords: Fuzzy filter, fuzzy clustering, business cycle, trend extraction, HP filter
    JEL: C19 C22 E32
    Date: 2004–12–29
  17. By: Roy Cromb; Emilio Fernandez-Corugedo
    Abstract: This paper examines the sensitivity of the level of consumption to interest rates in a standard partial equilibrium theoretical framework with no uncertainty. Using a multi-period framework, the consumption function is derived and interest rate effects are decomposed into substitution, income and wealth effects. Drawing on parallels with the finance literature, the paper illustrates two key implications of the theory that are not typically emphasised in the economics literature. First, it shows that wealth effects mean that consumption is much more likely to be negatively related to interest rates than the simple two-period textbook model might suggest. Second, it demonstrates that long-term interest rates are more important than short-term rates - the sensitivity of consumption to interest rate changes depends crucially on how long these are expected to persist. Numerical calibrations provide an indication of the sensitivity of the results to key parameters.
  18. By: Stanley C. W. Salvary
    Abstract: While economies in transition are not devoid of monetary policy, changes desired in the functioning of these economies may necessitate innovations to administer monetary policy consistent with newly established goals. Although some goals may essentially be the same (e.g., full employment or price stability), the instruments for achieving those goals may not be present. A variety of approaches to monetary policy are presented; however, while several operating models are discussed, it is made clear that the approach adopted, by an economy in transition, has to be consistent with the institutional structures in place. The recommended path for policymaking begins with an assessment of the institutional setting and the economic philosophy of the country in transition; this is followed by an information approach, which focuses on: objectives and goal variables, monetary policy models, the effect of changing conditions, the role of central banks, integration of monetary and fiscal policies, institutional design for monetary stability, alternative model variables, implications of monetarism, and a concluding caveat on monetary control.
    Keywords: sustainable economic growth, emerging market economies, monetary control, foreign exchange rate, price stability.
    JEL: E
    Date: 2004–12–24
  19. By: Carlos Viana de Carvalho (Princeton University)
    Abstract: This paper analyzes the implications of heterogeneity in price setting for both price and inflation inertia. Standard models based on Taylor- or Calvo-style price setting usually assume ex-ante identical firms, while Calvo’s approach implies only ex-post heterogeneity. While it is known that these models have different implications in terms of the dynamic effects of monetary shocks, the role of heterogeneity has not yet been properly explored. In a simple framework, this paper provides analytical results which suggest that ex-ante heterogeneity should have a larger role in models which attempt to understand price and inflation inertia, particularly in low inflation environments.
    Keywords: Heterogeneity, Price-setting, Inflation Inertia
    JEL: E
    Date: 2004–12–25
  20. By: David Andolfatto (Simon Fraser University); Glenn MacDonald (Washington University in St. Louis)
    Abstract: Historically, when an economy emerges from recession, employment grows with, or soon after, the resumption of GDP growth. However, following the two most recent recessions in the United States, employment growth has lagged the recovery in GDP by several quarters, a phenomenon thathas been termed the 'jobless recovery.' To many, a jobless recovery defies explanation since it violates both historical patterns and the predictions of traditional macro theory. We show that a recession followed by a jobless recovery is precisely what neoclassical theory predicts when new technology impacts different sectors of the economy unevenly and is slow to diffuse, and sectoral adjustments in the labor market take time to unfold.
    JEL: E
    Date: 2004–12–30
  21. By: Diana N. Weymark (Department of Economics, Vanderbilt University); Mototsugu Shintani (Department of Economics, Vanderbilt University)
    Abstract: We propose a methodology for constructing operational indices of inflation pressure, the monetary authority's effort to reduce this pressure, and the degree to which inflation pressure is alleviated. We begin with model independent definitions of these concepts. When our definitions are applied to a specific model we obtain model-specific functional forms for these indices. We apply our methodology to a micro-founded aggregate model with rational expectations. GMM estimates of the model are used to obtain quarterly time series of our indices for the United States from 1966 to 2002.
    Keywords: Inflation pressure, monetary policy, stabilization policy
    JEL: E52
    Date: 2004–12
  22. By: Christopher A. Pissarides
    Abstract: Unemployment in Britain has fallen from high European-style levels to US levels. I argue that the key reasonsare first the reform of monetary policy, in 1993 with the adoption of inflation targeting and in 1997 with theestablishment of the independent Monetary Policy Committee, and second the decline of trade union power. Iinterpret the reform of monetary policy as an institutional change that reduced inflationary expectations in theface of falling unemployment. The decline of trade union power contributed to the control of wage inflation.The major continental economies failed to match UK performance because of institutional rigidities, despite lowinflation expectations.
    Keywords: unemployment in UK, monetary policy, Beveridge curve, Phillips curve
    JEL: E5 J5 J64
    Date: 2003–12
  23. By: Jesus Fernandez-Villaverde (Department of Economics, University of Pennsylvania); Juan F. Rubio-Ramirez (Federal Reserve Bank of Atlanta)
    Abstract: This paper presents some new results on the solution of the stochastic neoclassical growth model with leisure. We use the method of Judd (2003) to explore how to change variables in the computed policy functions that characterize the behavior of the economy. We find a simple close-form relation between the parameters of the linear and the loglinear solution of the model. We extend this approach to a general class of changes of variables and show how to find the optimal transformation. We report how in this way we reduce the average absolute Euler equation errors of the solution of the model by a factor of three. We also demonstrate how changes of variables correct for variations in the volatility of the economy even if we work with first order policy functions and how we can keep a linear representation of the laws of motion of the model if we use a nearly optimal transformation.
    Keywords: Dynamic Equilibrium Economies, Computational Methods, Changes of Variables, Linear and Nonlinear Solution Methods.
    JEL: C63 C68 E37
    Date: 2003–11–23
  24. By: Jesus Fernandez-Villaverde (Department of Economics, University of Pennsylvania); Juan F. Rubio-Ramirez (Federal Reserve Bank of Atlanta); S. Boragan Aruoba (Department of Economics, University of Maryland)
    Abstract: This paper compares solution methods for dynamic equilibrium economies. We compute and simulate the stochastic neoclassical growth model with leisure choice using Undetermined Coefficients in levels and in logs, Finite Elements, Chebyshev Polynomials, Second and Fifth Order Perturbations and Value Function Iteration for several calibrations. We document the performance of the methods in terms of computing time, implementation complexity and accuracy and we present some conclusions about our preferred approaches based on the reported evidence.
    Keywords: Dynamic Equilibrium Economies, Computational Methods, Linear and Nonlinear Solution Methods
    JEL: C63 C68 E37
    Date: 2003–11–23
  25. By: Nan-Kuang Chen; Hsiao-Lei Chu
    Abstract: We investigate the foreclosure policy of collateral-based loans in which the endogenous collateral value plays acrucial role. If creditors are able to commit, then the equilibrium arrangement is more likely to featureforebearance lending by specifying a lower level of liquidation (or roll over all of the loans) relative to the expostefficiency criterion for each realization of the interim signal. The key is that collateral value may drop toolow when banks call in loans by auctioning off borrowers¿ collateral and this makes clearing up non-performingloans less attractive. We attribute the banks¿ leniency as we have observed in Japan during the 1990s to anequilibrium arrangement where banks can commit due to either relationship banking or an implicit lenderborrowercontract, such as the arrangement under Japan¿s main-bank system.
    Keywords: Collateral value, forbearance lending, government guarantee.
    JEL: E44 E51 G3
    Date: 2003–12
  26. By: Gueorgui Kambourov (Department of Economics, University of Toronto); Iourii Manovskii (Department of Economics, University of Pennsylvania)
    Abstract: We analyze the dynamics of worker mobility in the United States over the 1968-1993 period at various levels of occupational and industry aggregation. We find a substantial overall increase in occupational and industry mobility over the period and document the levels and time trends in mobility for various age-education subgroups of the population. To control for measurement error in occupation and industry coding, we develop a method that utilizes the newly released, by the Panel Study of Income Dynamics, Retrospective Occupation-Industry Supplemental Data Files. We emphasize the importance of the findings for understanding a number of issues in macro and labor economics, including changes in wage inequality, productivity, life-cycle earnings profiles, job stability and job security.
    Keywords: Occupational Mobility, Industry Mobility, Career Mobility, Sectoral Real-location
    JEL: E20 J21 J24 J44 J45 J62 J63
    Date: 2001–05–04
  27. By: César Alonso-Borrego (Department of Economics,Universidad Carlos III de Madrid); Jesús Fernández-Villaverde (Department of Economics, University of Pennsylvania); José E. Galdón-Sánchez (Department of Economics,Universidad Publica de Navarra)
    Abstract: Job security provisions are commonly invoked to explain the high and persistent European unemployment rates. This belief has led several countries to reform their labor markets and liberalize the use of fixed-term contracts. Despite how common such contracts have become after deregulation, there is a lack of quantitative analysis of their impact on the economy. To fill this gap, we build a general equilibrium model with heterogeneous agents and firing costs in the tradition of Hopenhayn and Rogerson (1993). We calibrate our model to Spanish data, choosing in part parameters estimated with firm-level longitudinal data. Spain is particularly interesting, since its labor regulations are among the most protective in the OECD, and both its unemployment and its share of fixed-term employment are the highest. We find that fixed term contracts increase unemployment, reduce output, and raise productivity. The welfare effects are ambiguous.
    Keywords: Fixed-term contracts, Firing costs, General equilibrium, Heterogeneous agents
    JEL: E24 C68 J30
    Date: 2004–04–24
  28. By: Gueorgui Kambourov (Department of Economics, University of Toronto); Iourii Manovskii (Department of Economics, University of Pennsylvania)
    Abstract: In this study we argue that wage inequality and occupational mobility are intimately related. We are motivated by our empirical findings that human capital is occupation-specific and that the fraction of workers switching occupations in the United States was as high as 16% a year in the early 1970s and had increased to 19% by the early 1990s. We develop a general equilibrium model with occupation-specific human capital and heterogeneous experience levels within occupations. We argue that the increase in occupational mobility was due to the increase in the variability of productivity shocks to occupations. The model, calibrated to match the increase in occupational mobility, accounts for over 90% of the increase in wage inequality over the period. A distinguishing feature of the theory is that it accounts for changes in within-group wage inequality and the increase in the variability of transitory earnings.
    Keywords: Occupational Mobility, Wage Inequality, Within-Group Inequality, Human Capital, Sectoral Reallocation
    JEL: E20 E24 E25 J24 J31 J62
    Date: 2000–01–15
  29. By: Jesus Fernandez-Villaverde (Department of Economics, University of Pennsylvania); Juan F. Rubio-Ramirez (Federal Reserve Bank of Atlanta); Manuel Santos (College of Business, Arizona State University)
    Abstract: This paper studies the econometrics of computed dynamic models. Since these models generally lack a closed-form solution, economists approximate the policy functions of the agents in the model with numerical methods. But this implies that, instead of the exact likelihood function, the researcher can evaluate only an approximated likelihood associated with the approximated policy function. What are the consequences for inference of the use of approximated likelihoods? First, we show that as the approximated policy function converges to the exact policy, the approximated likelihood also converges to the exact likelihood. Second, we prove that the approximated likelihood converges at the same rate as the approximated policy function. Third, we find that the error in the approximated likelihood gets compounded with the size of the sample. Fourth, we discuss convergence of Bayesian and classical estimates. We complete the paper with three applications to document the quantitative importance of our results.
    Keywords: computed dynamic models, likelihood inference, asymptotic properties
    JEL: C1 C5 E1
    Date: 2004–08–31
  30. By: Borghijs Alain; Di Bartolomeo Giovanni; Merlevede Bruno
    Abstract: This paper considers the effects of central bank independence, labor market institutions and the political partisanship on economic performance. In particular, we test if the partisanship of the government and the degree of central bank independence affect the relationship between labor market institutions and economic performance. We find evidence of interaction effects between the government’s partisanship and the labor market institutions. An increase in union density favors a left-wing government, while an increase in coordination favors a right-wing government. We also find that changes in the partisanship of the government have a larger impact on inflation and unemployment when the labor market is more institutionalized.
    Date: 2003–02
  31. By: Ellen E. Meade; David Stasavage
    Abstract: When central banks are transparent about their decision making, there may be clear benefits in terms ofcredibility, policy effectiveness, and improved democratic accountability. While recent literature has focusedon all of these advantages of transparency, in this paper we consider one potential cost: the possibility thatpublishing detailed records of deliberations will make members of a monetary policy committee more reluctantto offer dissenting opinions. Drawing on the recent literature on expert advisors with ¿career concerns¿, weconstruct a model that compares incentives for members of a monetary policy committee to voice dissent whendeliberations occur in public, and when they occur in private. We then test the implications of the model usingan original dataset based on deliberations of the Federal Reserve¿s Federal Open Market Committee, askingwhether the FOMC¿s decision in 1993 to begin releasing full transcripts of its meetings has altered incentivesfor participants to voice dissenting opinions. We find this to be the case with regard to both opinions on shortterminterest rates and on the ¿bias¿ for future policy.
    Keywords: transparency, central banking, career concerns
    JEL: E42 E58 E65
    Date: 2004–01
  32. By: Merlevede Bruno
    Abstract: This paper tests whether there is a macroeconomic cost of a reform reversal during transition. A reform reversal is defined as a downgrading in the level of an average reform indicator. This is important both from an empirical and a theoretical point of view. In the standard empirical framework the current level of reform a.ects growth negatively, while the lagged level a.ects growth positively. This nonlinear e.ect is shown to imply a counterintuitive, short-lived, or at best an insignificant, positive e.ect of a reversal. From a theoretical point of view however, most models assume a reversal to be costly. The existence of reversal costs is even crucial for gradualist strategies to dominate big bang strategies in the presence of aggregate uncertainty. In a simultaneous equation system with growth and the level of reform as dependent variables we explicitly introduce a reversal parameter. Empirical results suggest that a reversal generates an immediate negative contribution to real output growth. Taking into account the level of reform a country achieved, a reversal is found to be more costly at higher levels of the reform indicator.
    Date: 2003–06
  33. By: Di Bartolomeo Giovanni; Engwerda J.; Plasmans Jozef; Van Aarle Bas
    Abstract: This paper studies the spillover sizes and signs and the institutional design of the co-ordination of macroeconomic stabilisation policies within the European Economic and Monetary Union (EMU). Moreover, in a dynamic setup, the consequences of this institutional design on macroeconomic outcomes and policies are analysed. We distinguish two types of co-ordination: ex-ante - related to the institutional framework; and ex-post concerning the actual policy decisions. The first type is modeled as the result of an endogenous coalition formation process that leads to the formation of policymakers’ coalitions. Ex-post co-ordination implies then the implementation by each coalition of its internally co-ordinated macroeconomic stabilisation policies in a non-cooperative dynamic game with the other coalitions, and subject to the constraints of the internal dynamics of the EMU economy. The paper shows that the institutional setting of macroeconomic policy co-ordination is of crucial importance in reaching the Pareto-optimal equilibrium of the game, especially when the number and the magnitude of asymmetries increase. The specific recommendations depend on the particular characteristics of the shocks and the economic structure. In the case of a common shock, fiscal co-ordination is counterproductive but full policy co-ordination is desirable. When asymmetric shocks are considered, fiscal co-ordination improves the performance but full policy co-ordination doesn’t produce further gains in policymakers’ welfare. In general, structural asymmetries reduce the gains from co-operation so that in many cases co-operation cannot be supported without introduction of exogenous factors, e.g. a transfer system.
    Date: 2003–06
  34. By: Matteo Governatori; Sylvester Eijffinger
    Abstract: The paper builds a simplified model describing the economy of a currency union with decentralised national fiscal policy, where the main features characterising the policy-making are similar to those in EMU. National governments choose the size of deficit taking into account the two main rules of the Stability and Growth Pact on public finance. Unlike previous literature the asymmetric working of those rules is explicitly modelled in order to identify its impact on the Nash equilibrium of deficits arising from a game of strategic interaction between fiscal authorities in the union.
    Keywords: Stability and Growth Pact, EMU, asymmetric fiscal rules, decentralised fiscal policy
    JEL: E61 H30 H60 H70
    Date: 2004
  35. By: Johannes Hörner; Rachel Ngai; Claudia Olivetti
    Abstract: This paper shows that state control of some industries may have contributed to theincrease in European unemployment from the 1970s to the early 1990s. We develop asimple model with both publicly-run and privately-run enterprises and show that wheneconomic turbulence increases, higher unemployment rates may result in economies thathave a larger public sector.
    Keywords: European Unemployment, Public Sector Employment
    JEL: E24 J45 J64
    Date: 2004–01
  36. By: Joe Haslag (Department of Economics, University of Missouri-Columbia); R.W. Hafer (Southern Illinois University Edwardsville); Garett Jones (Southern Illinois University Edwardsville)
    Abstract: There is substantial research effort devoted to identifying a sufficient statistic for monetary policy. The purpose of this paper is to broaden the scope of the on-going investigation along three dimensions. First, we follow up the Rudebusch-Svensson claim of parameter instability in the output regressions by examining the statistical stability of the parameter estimates with post-1996 data. Second, we examine whether alternative measures of the cyclical component affect the correlation between money supply, interest rates and output. Third, we consider alternative measures of the money supply, permitting us to assess the distinct roles of inside and outside money in terms of the correlation between each component and output.
    JEL: E31 E52 E61
    Date: 2004–12–27
  37. By: Ronald A. Ratti (Department of Economics, University of Missouri-Columbia); Sang-Kun Bae
    Abstract: When central bank preferences are uncertain, delegation implemented by inflation or exchange rate targeting may be superior to delegation implemented through an inflation contract combined with an optimal inflation target. Distortion introduced by uncertainty about preferences into stabilization of shocks is largest under the contract regime. With targeting regimes this distortion is reduced by government increasing incentives to stabilize the targeted variable if uncertainty about preferences increases. A central banker with a populist bias improves outcomes under exchange rate targeting and the contract/optimal inflation target regime by reducing the distortion in stabilization induced by uncertain preferences.
    JEL: E42 E52 E58 F41
    Date: 2004–12–21
  38. By: Ronald A. Ratti (Department of Economics, University of Missouri-Columbia); Sang-Kun Bae
    Abstract: A framework is developed in which inflation biases with different target variables are compared. A nominal growth target measured in consumer prices yields less stabilization bias than a nominal income growth target. Exchange rate and inflation targets result in less stabilization bias in absolute value than an income growth target the more government cares about real exchange rate stabilization and the more open the economy. A conservative central bank may not be best under exchange rate and nominal growth targets. Greater openness reduces biases of discretionary policy and raises the chance that a conservative central bank is optimal in replication of commitment equilibrium.
    JEL: E52 E58 F41
    Date: 2004–12–21
  39. By: Joe Haslag (Department of Economics, University of Missouri-Columbia); Joydeep Bhattacharya (Iowa State University); Steven Russell (IUPUI)
    Abstract: In this paper, we study the optimal steady state monetary policy in overlapping generations (OG) models. In contrast to economies populated by inÞnitely-lived representative agents (ILRA), the Friedman Rule is frequently not the policy that maximizes the welfare of two-period lived consumers. Our principal goal is to understand why the Friedman Rule is suboptimal in OG economies. To this end, we construct a mechanism.speciÞcally, a monetary policy regime.that renders money useless in the sense of executing intergenerational transfers. Under this governmental regime, we show that the optimal monetary policy is the Friedman Rule. Our Þnding is robust to alternative rationales for valued Þat money; speciÞcally, whether money is held voluntarily or involuntarily.
    JEL: E31 E51 E58
    Date: 2004–12–27
  40. By: Joe Haslag (Department of Economics, University of Missouri-Columbia); Antoine Martin (Research Department, Federal Reserve Bank of Kansas City)
    Abstract: Recent papers suggest that when intermediation is analyzed seriously, the Friedman rule does not maximize social welfare in overlapping generations model in which money is valued because of spatial separation and limited communication. These papers emphasize a trade-off between productive efficiency and risk sharing. We show financial intermediation or a trade-off between productive efficiency and risk sharing are neither necessary nor sufficient for that result. We give conditions under which the Friedman rule maximizes social welfare and show any feasible allocation such that money grows faster than the Friedman rule is Pareto dominated by a feasible allocation with the Friedman rule. The key to the results is the ability to make intergenerational transfers.
    JEL: E31 E51 E58
    Date: 2004–12–27
  41. By: Joseph H. Haslag (Department of Economics, University of Missouri-Columbia); Joydeep Bhattacharya; Antoine Martin
    Abstract: We construct an economy populated with infinitely-lived agents and show that the Friedman rule is suboptimal. We do that by showing that our economy and an overlapping generations model in which the Friedman rule is known to be suboptimal are homomorphic. We also discuss the importance of whether or not the economy has an initial date for this result.
    Keywords: Friedman rule; monetary policy; overlapping generations; turnpike.
    JEL: E31 E51 E58
    Date: 2004–12–21
  42. By: Joseph H. Haslag (Department of Economics, University of Missouri-Columbia); Joydeep Bhattacharya; Antoine Martin; Rajesh Singh
    Abstract: In this paper, we explore the connection between optimal monetary policy and heterogeneity among agents. We study a standard monetary economy with two types of agents in which the stationary distribution of money holdings is non-degenerate. Sans type-specific fiscal policy, we show that the zero-nominal-interest rate policy (the Friedman rule) does not maximize type-specific welfare; it may not maximize aggregate social welfare either. Indeed, one or, more surprisingly, both types may benefit if the central bank deviates from the Friedman rule. Our results suggest a positive explanation for why central banks around the world do not implement the Friedman rule.
    Keywords: Friedman rule, monetary policy, money-in-the-utility-function
    JEL: E31 E51 E58
    Date: 2004–12–21
  43. By: Vasileios Gkionakis
    Abstract: This paper studies the effects of firing taxes on the job destruction rate, when probationperiod - or temporary contract - policies are implemented in an otherwise exogenous jobseparation search model. It is shown that contrary to conventional wisdom, firing taxescan amplify the job turnover rate by providing incentives to destroy surviving matches atthe end of the probation period. Moreover, low skill workers are shown to be moreseverely affected while wage inequality across different productivity groups mayincrease.
    Keywords: Labor market policies, Firing taxes, Probation period, Temporary contracts, Unemployment
    JEL: J64 J63 E24
    Date: 2004–04
  44. By: Hashmat Khan
    Abstract: Recent research and policy discussions have noted that the potentially increased competition among firms since the 1990s may affect inflation and economic activity. This paper considers the implications of this structural change on short-run inflation dynamics, and for assessing shocks to inflation and output. The importance of firms' price-setting behaviour is highlighted in this context using a standard New Keynesian model with microfoundations. It is well known that both Rotemberg and Calvo price-setting assumptions imply the same reduced-form New Keynesian Phillips Curve (NKPC). Increased competition among firms, however, increases price flexibility in the former, and has either no effect or decreases price flexibility in the latter. The effects of mark-up shocks on inflation and output are small when firms' price-setting behaviour incorporates concerns about potential loss of market share. These effects are further dampened in an environment of more intense competition. Under the assumption of increased competition, both models lead to unambiguous predictions about the direction of change in the slope of the Phillips curve. Rolling estimates of the NKPC indicate that the slope has declined or flattened for several countries since the 1990s. This evidence is consistent with the prediction of the Calvo model.
  45. By: Bianca De Paoli
    Abstract: This paper characterizes welfare in a small open economy and derives the optimal monetarypolicy rule. It shows that the utility-based loss function for a small open economy is aquadratic expression on domestic inflation, the output gap and the real exchange rate. Incontrast to previous works, this paper demonstrates that a small open economy, completelyintegrated with the rest of the world, should be concerned about exchange rate variability.Therefore, the optimal policy in a small open economy is not isomorphic to a closed economyand does not prescribe a pure floating exchange rate regime. Domestic inflation targeting isoptimal only under a particular parameterization, where the only relevant distortion in theeconomy is price stickiness. When inefficient steady state output and trade imbalances arepresent, exchange rate targeting arises as part of the optimal monetary plan.
    Keywords: Welfare, Optimal Monetary Policy, Small Open Economy
    JEL: F41 E52 E58 E61
    Date: 2004–05
  46. By: Peter Lildholdt; Anne Vila Wetherilt
    Abstract: This paper examines the question of whether the ability of market interest rates to predict future policy rate changes in the United Kingdom has changed markedly over the period 1975-2003. Such improvements in predictability could arise from greater transparency in the monetary policy process, together with greater credibility of the Bank of England. Empirical tests, using a simple term structure model, show that predictability has indeed improved over the sample period as a whole, and most markedly after the introduction of inflation targeting in 1992. But closer inspection of the data reveals that predictability did not rise smoothly over time, nor is it possible to generalise this result across maturities. Furthermore, attempts to identify structural breakpoints in a formal way were on the whole unsuccessful. Nonetheless, the paper concludes that, over the longer sample period, the data show a clear improvement in the ability of market participants to predict policy rate changes by the Bank of England.
  47. By: Alan Mankikar; Jo Paisley
    Abstract: The term 'core inflation' is widely used by academics and central bankers. But despite its prevalence, there is neither a commonly accepted theoretical definition nor an agreed method of measuring it. The range of conceptual bases is potentially confusing, and can make the large number of available measures of core inflation difficult to interpret, particularly when they display different trends. Nevertheless, measures of core inflation can be helpful if they increase the signal to noise ratio in measured inflation. This paper examines a range of measures of core inflation for the United Kingdom, both conceptually and empirically, setting out their motivation and highlighting their potential limitations. No single measure performs well across the board, but a compromise conclusion on the usefulness of measures of core inflation is that each one may provide a different insight into the inflation process. There can be value in looking at a range of measures, as long as one bears in mind what information each type of indicator is best at providing. When all measures are giving the same message then, in a sense, monetary policy makers can reasonably consider that these measures are providing a reliable guide to inflationary pressures. It is when the measures start to diverge that policymakers need to take a much closer look at the reasons for those divergences.
  48. By: Christopher Crowe
    Abstract: This paper presents a political economy model of inflation as a result of social conflict. Agents are heterogeneous in terms of income. Agents' income levels determine their ability to hedge against the effects of inflation. The interaction of heterogeneous cash holdings and preferences over fiscal policy leads to conflict over how to finance government expenditure. The model makes a number of predictions concerning which environments are conducive to the emergence of inflation. Inflation will tend to be higher in countries with higher inequality and with greater pro-rich bias in the political system. Conversely, the use of income tax will be higher in countries with lower inequality and less pro-rich bias. The model also predicts that although inequality and political bias will have an impact on the composition of revenue, it will have no effect on the overall level of government spending (assuming that spending is on public goods only). These results are largely confirmed by the empirical portion of the paper. The paper's novel features are its simplifications at the household level which allow for richer treatment of the income distribution and political process than in the related literature. The paper also gives unequivocal comparative statics results under relatively undemanding assumptions.
    Keywords: probabilistic voting, distributional conflict, fiscal policy, inequality, inflation
    JEL: D31 D72 E31 E50 E60 H20 H30
    Date: 2004–11
  49. By: Leonardo Hernández; Fernando Parro
    Abstract: This paper presents a brief overview of the current state of financial development in Chile, comparing it with other countries. After providing a short summary of the most important financial reforms of past decades, we highlight the main strengths and weaknesses of Chile’s financial markets. Next, we focus on some of the currently most pressing issues, namely, stock market liquidity, financial derivatives and venture capital, and discuss whether or not recent reforms and proposed ones properly address them.
    Date: 2004–12

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