nep-mac New Economics Papers
on Macroeconomics
Issue of 2005‒07‒11
34 papers chosen by
Soumitra K Mallick
Indian Institute of Social Welfare and Bussiness Management

  1. Can option smiles forecast changes in interest rates? An application to the US, the UK and the euro area By Marcello Pericoli
  2. How Do Banks Set Interest Rates? By Leonardo Gambacorta
  3. Euroland, Euro and Dollar - Trilogy or Trilemma? By Elke Muchlinski
  4. Inflation inertia and the optimal hybrid inflation/price-level target By Øistein Røisland
  6. MILITARY EXPENDITURE AND ECONOMIC ACTIVITY:The Colombian Case By Andrés Arias; Laura Ardila
  7. DETERMINANTS AND CONSEQUENCES OF FOREIGN INDEBTEDNESS IN COLOMBIAN FIRMS By Juan Carlos Echeverry; Leopoldo Fergusson; Roberto Steiner; Camila Aguilar
  9. China's exchange rate policy: the case against abandoning the dollar PEG By Laurenceson,James; Qin,Fengming
  10. Productivity and the Business Cycle in Japan -Evidence from Japanese Industry Data - By Tsutomu Miyagawa; Yukie Sakuragawa; Miho Takizawa
  11. Monetary integration and the cost of borrowing By Marta Gómez-Puig
  12. Bienes comerciables y no comerciables en la economía española: Un enfoque de ciclo real By José Mª Martín Moreno; Jesús Ruiz
  13. Simulating the effects of the European single market: a CGE analysis for Spain By Oscar Bajo-Rubio; Antonio G. Gómez-Plana
  14. Monetary policy rules, credibility and inflation: The Spanish experience By Carmen Díaz-Roldán; Alberto Montero Soler
  15. An Overview of Some Historical Brazilian Macroeconomic Series and Some Open Questions By Rubens Penha Cysne
  16. Intrinsic and inherited inflation persistence By Jeff Fuhrer
  17. The Eurosystem money market auctions: a banking perspective By Nikolaus Bartzsch; Ben Craig; Falko Fecht
  18. The U.K.'s rocky road to stability By Nicoletta Batini; Edward Nelson
  19. A critique of structural VARs using business cycle theory By V. V. Chari; Patrick J. Kehoe; Ellen R. McGrattan
  20. Real Wage Cyclicality of Job Stayers, Within-Company Job Movers, and Between-Company Job Movers By Paul J. Devereux; Robert A. Hart
  21. Measuring cyclically-adjusted budget balances for OECD countries By Nathalie Girouard; Christophe André
  22. Foreign and Domestic Bank Performances: An Ideal Decomposition of Industry Dynamics By Yongil Jeon; Stephen M. Miller
  23. Equity Markets, the Money Market, and Long-Run Monetary Neutrality By Stephen M. Miller
  24. Bank Performance: Market Power or Efficient Structure? By Yonjil Jeon; Stephen M. Miller
  25. A Parsimonious Macroeconomic Model for Asset Pricing: Habit Formation of Cross-sectional Heterogeneity? By Fatih Guvenen
  26. Effects of changes in flows of funds between Government and households.A SAM approach to Portugal. By Susana Santos
  27. The Fed and the Stock Market By Antonello D'Agostino; Luca Sala; Paolo Surico
  28. Tax Policy and Human Capital Formation with Public Investment in Education By Simone Valente
  29. Learning Your Earning: Are Labor Income Shocks Really Very Persistent? By Fatih Guvenen
  30. Reconciling Conflicting Evidence on the Elasticity of Intertemporal Substitution: A Macroeconomic Perspective By Fatih Guvenen
  31. ESPAÑA EN LA UNIÓN MONETARIA Una aproximación a sus costes y beneficios By Enrique Alberola
  33. Regulation and the Macroeconomy: A Cointegration Approach By John W. Dawson
  34. Is There a Direct Effect of Money?: Money's Role in an Estimated Monetary Business Cycle Model of the Japanese Economy By Ippei Fujiwara

  1. By: Marcello Pericoli (Bank of Italy, Economic Research Department)
    Abstract: This paper evaluates the use of risk-neutral probability density functions implied in 3-month interest-rate futures options to assess market perceptions regarding future monetary policy moves options allow the information content implied in simpler derivatives to be extended by providing indicators for asymmetry and extreme values. First, a cubic spline is implemented to evaluate the densities. Second, the methodology is applied to quotes on deposits denominated in US dollars, euros and sterling from January 1999 toMay 2004 results show that markets correctly forecast the monetary easing of 2001 in the United States in the course of the second half of 2000, but not in the euro area and the United Kingdom. The evidence for the tightening cycle of 1999 is mixed: markets expected an increase in euro area policy rates at the beginning of 1999 expectations were less clear for the United States’ interest-rate increases. In the case of the United Kingdom the increase was not foreseen.
    Keywords: risk-neutral density, cubic spline, monetary policy, interest-rate futures options
    JEL: C52 E58 G13 G14 G15
    Date: 2005–02
  2. By: Leonardo Gambacorta (Bank of Italy, Economic Research Department)
    Abstract: The aim of this paper is to study cross-sectional differences in banks interest rates. It adds to the existing literature in two ways. First, it analyzes systematically the micro and macroeconomic factors that influence the price-setting behaviour of banks. Second, by using banks’ prices (rather than quantities) it provides an alternative way of disentangling loan supply from loan demand shift in the bank lending channel literature. The results, derived from a sample of Italian banks, suggest that heterogeneity in the banking rates pass-through exists only in the short run. Consistently with the literature, interest rates on short-term lending of liquid and well-capitalized banks react less to changes in money market rates. Also banks with a high proportion of long-term lending tend to modify their prices less. Heterogeneity in the pass-through on the interest rate on current accounts depends mainly on banks’ liability structure. Bank size is never relevant.
    Keywords: monetary policy transmission; interest rates; bank lending channel
    JEL: E44 E51 E52
    Date: 2005–02
  3. By: Elke Muchlinski (Free University of Berlin, Department of Economics)
    Abstract: This paper argues that Euroland is a representation of a monetary union with a heterogeneous capital market, tax system, regulation of consumer savings, and methods of financing investments. Contrary to that, the Dollar represents a homogeneous capital market. Euroland and the Euro as an anchor currency will not be a representation of a unified economic performance, as for instance the Dollar was in 1944 implemented by the Bretton Woods Agreements. According to a trilogy composed three parts of a work as a whole, the relationship between Euroland, Euro (as an anchor currency) and Dollar could be interpreted as a workable unity. This required the perception of the inherent fragility of this triad. It is the result of all the different functions held by each part.
    Keywords: Central banking, monetary policy regimes and arrangements
    JEL: F02 F33 E58
  4. By: Øistein Røisland (Norges Bank; Norges Bank)
    Abstract: A hybrid inflation/price-level target combines elements of both inflation and price-level targets. The paper derives a hybrid target within a new Keynesian model with inflation persistence due to price indexation. The result generalizes a result by Vestin (2005) that the optimal policy could be implemented with a price-level targeting regime. We show that the optimal price-level drift in the hybrid target is equal to the degree of price indexation.
    Keywords: Price-level target, Inflation persistence, Commitment
    JEL: E52 E61 E63
    Date: 2005–07–04
  5. By: Andres Fernández
    Abstract: Las reformas estructurales de principios de los noventas tuvieron un “impacto” macroeconómico relevante: el producto colombiano es más volátil que antes y parece exhibir un ciclo económico más corto y pronunciado. En el trabajo se documenta este hecho estilizado a partir de una muestra de datos trimestrales que abarca un período antes y otro después de las reformas estructurales. Se emplearon dos metodologías alternativas. En primer lugar, se emplea la metodología de VAR en forma reducida y VAR estructural propuesta por Christiano, Eichenbaum y Evans (1998) para descomponer los choques estructurales y sus mecanismos de propagación en la economía colombiana. En segundo lugar, se recurre a un enfoque seminarrativo siguiendo a Romer y Romer (1989) y Echeverry (1996) para documentar la conducción de la política por parte del Emisor durante este período y su relevancia en la explicación de los hechos estilizados. La evidencia muestra que la mayor volatilidad real no se explica porque el Emisor haya dejado de realizar política contracíclica. Un ejemplo de esto son las recesiones de 1996 y 1999, donde se documenta la política expansionista realizada por del Banco de la República dentro de los límites impuestos por el nuevo mandato constitucional antiinflacionario. Más bien, la explicación está en que, a pesar de este comportamiento, el Banco Emisor no está en capacidad de amortiguar como antes, primero, el ciclo de un producto que se muestra más vulnerable por mayores choques estructurales de oferta y demanda; y, segundo, una economía cuyos mecanismos de transmisión parecen haberse vuelto más sensible a estos choques.
    Keywords: Ciclo económico
    JEL: E32
    Date: 2003–08–15
  6. By: Andrés Arias; Laura Ardila
    Abstract: We enhance a standard RBC model to account for military expenditure and the costs of an internal conflict or war. The model captures the natural trade-off in military expenditure: crowding out of private consumption and investment but less destruction (and, therefore, higher marginal productivity) of private capital (and labor). Hence, military expenditure below (above) a certain threshold generates a positive (negative) net benefit in terms of output. The model is calibrated to an annual frequency using Colombian data. We find that an increase in military expenditure of 1 % GDP (the current policy of Colombian authorities) increases investment and output above the steady state during several periods, before the shock fades away. Even though consumption falls on impact (to open up space for the additional military expenditure and private investment), it increases above its stationary trend after three periods, remains on positive grounds thereafter, and the cumulated net gain is positive.
    Keywords: Real business cycle
    JEL: E6
    Date: 2003–08–15
  7. By: Juan Carlos Echeverry; Leopoldo Fergusson; Roberto Steiner; Camila Aguilar
    Abstract: During the nineties the performance of many emerging economies was linked to their access to foreign capital and its impact on the real exchange rate. Colombia was not an exception, as it experienced a sharp boom and bust cycle during the period. Although a number of studies have attempted to explain the recent underperformance of the Colombian economy, few attempts have been made at analyzing firm-level data. In this paper, we rely on information for a large sample of firms during 1995-2001 (nearly 8000 firms on average) and examine the determinants of foreign indebtedness as well as the effects on firm performance of holding dollar debt amid changes in the real exchange rate (i.e. the so called “balance sheet effect”). While size is the most robust determinant of dollar indebtedness, matching seems to take place, to the extent that firms in more open sectors and exporting firms have higher shares of dollar debt. In spite of the limited amount of dollar indebtedness of Colombian firms in general, our estimations suggest there is a negative balance sheet effect on firms’ performance (i.e. on profitability). On the other hand, the interaction of dollar indebtedness with the real exchange rate is generally not significant in our investment regressions.
    Keywords: Colombia
    JEL: E22
    Date: 2003–09–15
  8. By: Andrés Arias
    Abstract: The Kiyotaki-Moore (1997) framework is a prominent macro model that features credit constraints as an important factor that propagates and magnifies the effects of shocks. However, the quantitative importance of these constraints in this setup remains an open question. This paper introduces the Kiyotaki-Moore (1997) setup into an otherwise standard dynamic general equilibrium model to explore the quantitative properties of credit constraints. I take a Hansen (1985)- type RBC model and introduce a banking sector that intermediates savings and investment. After calibrating the model to post-1959 U.S. data, I evaluate the propagation and magnification effects of a standard TFP shock to the aggregate economy. I find that the quantitative importance is very small. I then ask if the propagation and magnification effects are stronger if the shock originates in the banking sector. I therefore introduce TFP shocks into financial intermediation. I find that the constraints are also quantitatively unimportant. I conclude that the quantitative significance of the credit constraint in the Kiyotaki-Moore setup is small. The reason underlying this result has to do, theoretically, with asset market dynamics and, empirically, with the low participation of loans in economic activity in the U.S.
    Keywords: credit constraint
    JEL: E32
    Date: 2003–11–15
  9. By: Laurenceson,James; Qin,Fengming (Tilburg University, Center for Economic Research)
    Abstract: This paper critically evaluates the policy literature surrounding China's exchange rate regime. It first discusses several popularly raised contentions in relation to the dollar peg employed by China, which in fact are poorly grounded in evidence. These include notions that the RMB is clearly undervalued and that its value is a prominent cause of the U.S trade deficit. The paper then describes a consensus position that has emerged which argues that China should abandon the peg in favour of a flexible exchange rate regime. We see numerous weaknesses in this position but a few stand out. Moving to a flexible regime is far from the most proximate policy response to the problems that the consensus literature itself identifies in China's economy. Institutional realities that make moving to a flexible regime difficult also appear to have been seriously overlooked. The paper concludes by noting that in the longer term moving to a managed float may be in China's best interests - but for now the focus needs to be firmly in the area of domestic financial reform.
    JEL: E58 F31
    Date: 2005
  10. By: Tsutomu Miyagawa; Yukie Sakuragawa; Miho Takizawa
    Abstract: Constructing thirty-seven industries database, we examines whether measured productivity in Japan is procyclical and investigates the sources of that procyclicality using the production function approach employed by Hall (1990) and Basu and Fernald (1995). At the aggregate level, the measured Solow residual shows procyclicality. Large numbers of industries show constant returns to scale. No significant evidence for the presence of thick-market externalities is found. Our results also hold when we consider labor hoarding, part-time employment, and the adjustment cost of investment. The results suggest policies to revitalize the Japanese economy should concentrate on promoting productivity growth.
    Date: 2005–07
  11. By: Marta Gómez-Puig
    Abstract: With the beginning of the European Monetary Union (EMU), euro-area sovereign securities’ adjusted spreads over Germany (corrected from the foreign exchange risk) experienced an increase that caused a lower than expected decline in borrowing costs. The objective of this paper is to study what explains that rising. In particular, if it took place a change in the price assigned by markets to domestic (credit risk and/or market liquidity) or to international risk factors. The empirical evidence supports the idea that a change in the market value of liquidity occurred with the EMU. International and default risk play a smaller role.
  12. By: José Mª Martín Moreno; Jesús Ruiz
    Abstract: En este trabajo se analizan las consecuencias de incorporar bienes comerciables, no comerciables y de inversión en un modelo de ciclo real para una economía abierta y pequeña aplicado a la economía española. La simulaciones estocásticas del modelo bajo el supuesto de expectativas racionales y su comparación con los datos de la economía española muestran que el modelo teórico explica algunos hechos estilizados de dicha economía como son: i) el puzzle Dolado et al. es decir, la alta volatilidad del consumo privado para nuestra economía, y ii) las características cíclicas del fenómeno conocido como “inflación dual”. Además el modelo teórico explica adecuadamente gran parte de las otras propiedades cíclicas de las variables macroeconómicas españolas tanto a nivel agregado como sectorial.
  13. By: Oscar Bajo-Rubio; Antonio G. Gómez-Plana
    Abstract: In this paper we provide an empirical assessment of two of the measures proposed in the context of the European Single Market, namely, easing the provision of domestic and foreign services, and modifying the rules of public procurement, for the case of Spain. We build and simulate a computable general equilibrium (CGE) model, which incorporates three particular features: (i) increasing returns to scale and a noncompetitive price rule; (ii) sectoral export demand functions; and (iii) equilibrium unemployment according to a matching function approach.
  14. By: Carmen Díaz-Roldán; Alberto Montero Soler
    Abstract: Starting from inflation rates above the European average, Spain was able to conduct her monetary policy and control inflation in order to join the EMU from its start. In this paper we explore whether the credibility of the monetary policy performed by the Bank of Spain would have contributed to these developments.
  15. By: Rubens Penha Cysne (EPGE/FGV)
    Date: 2005–06
  16. By: Jeff Fuhrer
    Abstract: In the now conventional view of the inflation process, the New Keynesian Phillips Curve (NKPC) captures most of the persistence in inflation. The sources of persistence are twofold. First, the “driving process” for inflation—the output gap or, more commonly, real marginal cost—is itself quite persistent, and a casual inspection of the NKPC reveals that inflation must “inherit” this persistence. Second, a modest amount of backward-looking or indexing behavior imparts some “intrinsic” persistence to inflation. This latter source is generally thought to be of less importance than the former, as the degree of autocorrelation in the driving processes is substantial. This paper shows that in practice inflation in the NKPC inherits very little of the persistence of the driving process, and, contrary to conventional wisdom, it is intrinsic persistence that constitutes the dominant source of persistence. The paper explores the reasons for this and links them to two empirical observations. First, it has been difficult to develop a sizable coefficient on the driving process in NKPCs. Second, the shock that enters the NKPC, while often difficult to motivate economically, is large and is critical in distinguishing the sources of inflation persistence. While these observations help to clarify the behavior of inflation in NKPCs, they raise other fundamental questions about how to model inflation.
    Keywords: Inflation (Finance)
    Date: 2005
  17. By: Nikolaus Bartzsch; Ben Craig; Falko Fecht
    Abstract: This paper analyzes the individual bidding behavior of German banks in the money market auctions conducted by the ECB from the beginning of the third quarter of 2000 to the end of the first quarter of 2001. Our approach takes a variety of characteristics of the individual banks into account. In particular, we consider variables that capture the different use of liquidity and the different attitude towards liquidity risk of the individual banks. It turns out that these characteristics are reflected in the banks’ respective bidding behavior to a large extent. Thus our study contributes to a deeper understanding of the way liquidity is managed in the banking sector.
    Keywords: Banks and banking, Central ; Bank liquidity ; European Central Bank
    Date: 2005
  18. By: Nicoletta Batini; Edward Nelson
    Abstract: This paper provides an overview, using extensive documentary material, of developments in U.K. macroeconomic policy in the last half-century. Rather than focusing on well-known recent changes in policy arrangements (such as the introduction of inflation targeting in 1992 or central bank independence in 1997), we instead take a longer perspective, which characterizes the favorable economic performance in the 1990s and 2000s as the culmination of an overhaul of macroeconomic policy since the late 1970s. We stress that policymaking in recent decades has discarded various misconceptions about the macroeconomy and the monetary transmission mechanism that officials held in earlier periods. The misconceptions included: an underestimation of the importance of monetary policy in demand management until 1970; a failure to distinguish real and nominal interest rates until the late 1960s; the deployment until the mid-1980s of ineffective monetary control devices that did not alter the monetary base; and the adherence by policymakers in the 1960s and 1970s to nonmonetary views of the inflation process. We also consider developments in fiscal policy in light of changes in the doctrines underlying U.K. macroeconomic decisions.
    Keywords: Monetary policy - Great Britain ; Inflation (Finance) - Great Britain
    Date: 2005
  19. By: V. V. Chari; Patrick J. Kehoe; Ellen R. McGrattan
    Abstract: The main substantive finding of the recent structural vector autoregression literature with a differenced specification of hours (DSVAR) is that technology shocks lead to a fall in hours. Researchers have used these results to argue that business cycle models in which technology shocks lead to a rise in hours should be discarded. We evaluate the DSVAR approach by asking, is the specification derived from this approach misspecified when the data are generated by the very model the literature is trying to discard? We find that it is misspecified. Moreover, this misspecification is so great that it leads to mistaken inferences that are quantitatively large. We show that the other popular specification that uses the level of hours (LSVAR) is also misspecified. We argue that alternative state space approaches, including the business cycle accounting approach, are more fruitful techniques for guiding the development of business cycle theory.
    Date: 2005
  20. By: Paul J. Devereux (University of California, Los Angeles and IZA Bonn); Robert A. Hart (University of Stirling and IZA Bonn)
    Abstract: Using the British New Earnings Survey Panel Data (NESPD) for the period 1975 to 2001 we estimate the wage cyclicality of job stayers (those remaining within single jobs in a given company), within company job movers, and between company job movers. We also examine how the proportion of internal and external job moves varies over the business cycle. We find that the wages of internal movers are slightly more procyclical and wages of external movers considerably more procyclical than those of stayers. Notwithstanding, a decomposition shows that in Britain, wage cyclicality arises almost entirely from the procyclicality of wages for job stayers, with across- and within-firm mobility playing a lesser role. Thus, there is little evidence for rigid wage models that imply that employers use changes in job titles as a means of adjusting wages to the business cycle. We also show that the distinctions between private and public sectors and between workers covered and uncovered by collective agreements have important impacts on the wage estimates of both stayers and movers.
    Keywords: wage cyclicality, job stayers, internal job movers, external job movers
    JEL: E32 J31
    Date: 2005–07
  21. By: Nathalie Girouard; Christophe André
    Abstract: An important tool in the analysis of fiscal policy is the distinction between structural and cyclical components of the budget balance. This paper describes work undertaken to re-estimate and re-specify the elasticities underlying the Economics Department’s calculations of cyclically-adjusted budget balances. Account is taken of tax reforms introduced since the previous updating exercise. A number of methodological innovations have been introduced to better account for the lags between taxes and activity and to ensure greater cross-country consistency in the estimates. The methodology underlying cyclical adjustment of expenditures has also been reviewed. Finally, the country coverage has been extended. The overall results are broadly consistent with the previous set of estimates. The sensitivity of government net lending to a 1 percentage point change in the output gap remains at around 0.5% of GDP for OECD economies on average. <p> Mesurer le solde budgétaire corrigé des fluctuations cycliques pour les pays de l’OCDE <p> La distinction entre les composantes structurelle et cyclique du solde budgétaire est un outil essentiel de l'analyse de la politique budgétaire. Cette étude présente le travail de ré-estimation et de re-modélisation entrepris afin de mettre à jour les élasticités sous-jacentes au calcul par le Département des Affaires économiques du solde budgétaire corrigé des fluctuations conjoncturelles. Les réformes fiscales mise en œuvre depuis le dernier exercice de mise à jour ont été prises en compte. Un certain nombre d'améliorations méthodologiques ont été introduites afin de mieux tenir compte des délais d'ajustement entre les recettes fiscales et l'activité économique ainsi que pour assurer une meilleure cohérence des estimations entre les pays. La méthodologie utilisée pour l'ajustement cyclique des dépenses a aussi été revue. Finalement, le nombre de pays couvert a été augmenté. Les résultats globaux sont, dans l'ensemble, cohérents avec les estimations précédentes. La sensibilité du solde financier des administrations publiques à un changement d'un point de pourcentage de l'écart de production demeure autour de 0.5% du PIB pour la moyenne des pays de l'OCDE.
    Keywords: Fiscal policy; automatic stabilisers; business cycle; public finances
    JEL: E62 H30 H60
    Date: 2005–07–04
  22. By: Yongil Jeon (Central Michigan University); Stephen M. Miller (University of Nevada, Las Vegas, and University of Connecticut)
    Abstract: The aggregate performance of the banking industry depends on the underlying microlevel dynamics within that industry. adjustments within banks, reallocations between banks, entries of new banks, and exits of existing banks. This paper develops a generalized ideal dynamic decomposition and applies it to the return on equity of foreign and domestic commercial banks in Korea from 1994 to 2000. The sample corresponds to the Asian financial crisis and the final stages of a long process of deregulation and privatization in the Korean banking industry. The comparison of our findings reveals that the overall performance of Korean banks largely reflects individual bank efficiencies, except immediately after the Asian financial crisis where restructuring played a more important role on average bank performance. Moreover, Korean regional banks started the restructuring process about one year before the Korean nationwide banks. Foreign bank performance, however, largely reflected individual bank efficiencies, even immediately after the Asian financial crisis.
    Keywords: commercial banks, profitability, foreign banks and global advantage hypothesis
    JEL: E5 G2
    Date: 2004–10
  23. By: Stephen M. Miller (University of Nevada, Las Vegas, and University of Connecticut)
    Abstract: This paper outlines a process for teaching long-run neutrality of money, drawing an analogy between equity markets and the money market. The key points in the discussion include the following: (1) What is the price of money? (2) Why does the long-run demand for money trace out a rectangular hyperbola? (3) Why does the slow adjustment of goods and service prices to changes in the stock of money lead to a different short-run demand for money? and (4) Why does a successful currency reform generate similar short-run movements in the price of money as movements in equity share prices after a change in the supply of shares? I have used this approach successfully for over 30 years at all levels, wherever I need to discuss the money market in a macroeconomic model.
    Date: 2005–07
  24. By: Yonjil Jeon (Central Michigan University); Stephen M. Miller (University of Nevada, Las Vegas, and University of Connecticut)
    Abstract: Regulatory change not seen since the Great Depression swept the U.S. banking industry beginning in the early 1980s, culminating with the Interstate Banking and Branching Efficiency Act of 1994. Significant consolidations have occurred in the banking industry. This paper considers the market-power versus the efficient-structure theories of the positive correlation between banking concentration and performance on a state-by-state basis. Temporal causality tests imply that bank concentration leads bank profitability, supporting the market-power, rather than the efficient-structure, theory of that positive correlation. Our finding suggests that bank regulators, by focusing on local banking markets, missed the initial stages of an important structural change at the state level.
    Keywords: commercial banks, concentration, profitability
    JEL: E5 G2
    Date: 2005–06
  25. By: Fatih Guvenen (University of Rochester)
    Abstract: In this paper we study asset prices in a parsimonious two-agent macroeconomic model with two key features: limited participation in the stock market and heterogeneity in the elasticity of intertemporal substitution in consumption. The parameter values for the model are taken from the business cycle literature, and in particular, are not calibrated to match financial statistics. The model generates a number of asset pricing phenomena that have been documented in the literature, including a high equity premium and a low risk-free rate; procyclical variation in the price-dividend ratio; countercyclical variation in the equity premium, in its volatility, and in the Sharpe ratio; and long- horizon predictability of returns with high R2 values. We also show that the similarity of our results to those from an external habit model is not a coincidence: the model has a reduced form representation that is similar to Campbell and Cochrane’s (1999) framework for asset pricing. However, the implications of the two models for macroeconomic questions and policy analyses are different.
    Keywords: Limited stock market participation, the equity premium puzzle, incomplete markets, habit formation, elasticity of intertemporal substitution.
    JEL: E32 E44 G12
    Date: 2005–07–08
  26. By: Susana Santos (Instituto Superior de Economia e Gestão - Technical University of Lisbon)
    Abstract: Through the use of aggregate Social Accounting Matrices for Portugal, the flows of funds from three government subsectors to households will be studied, as well as the flows from the latter to the former. From the SAM modelling, both a static and a comparative static analysis will be made, in order to specify the effects of changes in the flows of funds between households and government subsectors.
    Keywords: Social Accounting Matrix; Economic Planning; Macroeconomic Modelling
    JEL: D57 H31 E60
    Date: 2005–07–05
  27. By: Antonello D'Agostino (ECARES, Universite' Libre de Bruxelles & European Central Bank); Luca Sala (IGIER, Bocconi University); Paolo Surico (Bank of England & University of Bari)
    Abstract: The Fed closely monitors the stock market and the stock market continuously forms expectations about the Fed decisions. What does this imply for the relation between the fed funds rate and the S&P500? We find that the answer depends on the conditions prevailing on the financial market. During periods of high (low) volatility in asset price inflation an unexpected 5% fall in the stock market index implies that the Fed cuts the interest rate by 19 (6) basis points while an unanticipated policy tightening of 50 basis points causes a 4.7% (2.3%) decline in the S&P500. The Fed reaction to asset price return is however statistically different from zero only in the high volatility regime, whereas the fall in asset price return following an interest rate rise is highly significant during normal times only.
    Keywords: asset price volatility, nonlinear policy, threshold SVAR, system GMM
    JEL: E44 E52 E58
    Date: 2005–07–04
  28. By: Simone Valente (Institute of Economic Research WIF , Swiss Federal Institute of Technology Zurich ETH)
    Abstract: This paper studies the effects of distortionary taxes and public investment in an endogenous growth OLG model with knowledge transmission. Fiscal policy affects growth in two respects: First, work time reacts to variations of prospective tax rates and modifies knowledge formation; second, public spending enhances labour efficiency but also stimulates physical capital through increased savings. It is shown that Ramsey-optimal policies reduce savings due to high tax rates on young generations, and are not necessarily growth-improving with respect to a pure private system. Non-Ramsey policies that shift the burden on adults are always growth-improving due to crowding-in effects: the welfare of all generations is unambiguously higher with respect to a private system, and there generally exists a continuum of non-optimal tax rates under which long-run growth and welfare are higher than with the Ramsey-optimal policy.
    Keywords: Endogenous growth, Human capital, Overlapping generations, Tax policy, Public investment.
    JEL: E62 O41 O11
    Date: 2005–07–07
  29. By: Fatih Guvenen (University of Rochester)
    Abstract: The current literature offers two views on the nature of the income process. According to the first view, which we call the “restricted income profiles” (RIP) model (MaCurdy, 1982), individuals are subject to large and very persistent shocks, while facing similar life-cycle income profiles (conditional on a few characteristics). According to the alternative view, which we call the “heterogeneous income profiles” (HIP) model (Lillard and Weiss, 1979), individuals are subject to income shocks with modest persistence, while facing individual-specific income profiles. While labor income data does not seem to distinguish between the two hypotheses in a definitive way, the RIP model is overwhelmingly used to specify the income process in economic models, because it delivers implications consistent with certain features of consumption data. In this paper we study the consumption-savings behavior under the HIP model, which so far has not been investigated. In a life-cycle model, we assume that individuals enter the labor market with a prior belief about their individual-specific profile and learn over time in a Bayesian fashion. We find that learning is slow, and thus initial uncertainty affects decisions throughout the life-cycle allowing us to estimate the prior uncertainty from consumption behavior later in life. This procedure implies that 40 percent of variation in income growth rates is forecastable by individuals at time zero. The resulting model is consistent with several features of consumption data including (i) the substantial rise in within-cohort consumption inequality (Deaton and Paxson 1994), (ii) the non-concave shape of the age-inequality profile (which the RIP model is not consistent with), and (iii) the fact that consumption profiles are steeper for higher educated individuals (Carroll and Summers 1991). These results bring new evidence from consumption data on the nature of labor income risk.
    Keywords: Labor income risk, Incomplete markets, Inequality, Consumption-savings decision, Kalman filter.
    JEL: D52 D91 E21
    Date: 2005–07–07
  30. By: Fatih Guvenen (University of Rochester)
    Abstract: In this paper we reconcile two opposing views about the elasticity of intertemporal substitution in consumption (EIS). Empirical studies using aggregate consumption data typically find that the EIS is close to zero (Hall, 1988). Calibrated models designed to match growth and fluctuations facts typically require that the EIS be close to one (Lucas, 1990). This apparent contradiction is resolved when two kinds of heterogeneity are acknowledged: One, the majority of households do not participate in stock markets; and two, empirical evidence indicates that the EIS increases with wealth. We introduce these two features into a standard real business cycle model. First, limited participation creates substantial wealth inequality as in the U.S. data. Consequently, the properties of aggregates directly linked to wealth (e.g., investment and output) are mainly determined by the (high-EIS) stockholders. At the same time, since consumption is much more evenly distributed in the population, estimation from aggregate consumption uncovers the low EIS of the majority (i.e., the poor).
    Keywords: The elasticity of intertemporal substitution, limited stock market participation, business cycle fluctuations, incomplete markets, wealth inequality.
    JEL: E32 E44 E62
    Date: 2005–07–07
  31. By: Enrique Alberola (Banco de España)
    Abstract: Este estudio pretende evaluar las consecuencias del ingreso de España en la Unión Monetaria Europea (UME) mediante la revisión crítica de la literatura teórica y empírica sobre la misma, con especial referencia al caso español. Nuestro objetivo es obtener una visión global de la situación de la economía española ante este reto y definir la estrategia para afrontarlo adecuadamente
    JEL: E
    Date: 2005–07–08
  32. By: Enrique Alberola (Banco de España)
    Abstract: El objetivo de la política económica en la última década ha sido la inserción de la economía española en el sistema económico europeo, caracterizado, en lo económico, por la apertura comercial y la competencia y, en lo social, por la existencia de un desarrollado Estado del Bienestar. Este capítulo se centra en el análisis de la política macroeconómica, que podemos definir como aquélla dirigida a mantener la economía en una senda estable de crecimiento. Puesto que los contenidos de otros capítulos del trabajo se solapan con esta definición, aquí nos ceñiremos a una concepción estrecha de la política monetaria, centrándonos en la política fiscal y la política monetaria.
    Keywords: Spain, European Union, economic integration
    JEL: D6 D7 H
    Date: 2005–07–08
  33. By: John W. Dawson
    Abstract: This paper uses the number of pages in the Code of Federal Regulations to investigate the empirical relationship between federal regulation and macroeconomic performance in the U.S. The analysis extends the work of previous studies by using an aggregate production function framework and cointegration methodology. The results suggest that regulation generally is negatively related to aggregate economic performance in both the short run and the long run. Some specific areas of regulation are also found to have important long-run effects on economic activity, some positive and some negative.
    JEL: L50 O40
    Date: 2005
  34. By: Ippei Fujiwara (Research and Statistics Department, Bank of Japan, and Osaka University)
    Abstract: In this paper, I estimate the monetary business cycle model of the Japanese economy by the method advocated by Ireland (2002a), the max- imum likelihood estimation of the dynamic stochastic general equilibrium model in a state-space representation. The model estimated here includes the direct role of money on output and inflation so that we could study the alternative transmission mecha- nism of monetary policy to traditional interest rate channel, which may even work under the zero nominal interest rate as in Japan now. However, estimation results report that the direct effect of money is extremely small even if there could be. This nding is consistent with the ones obtained for US data in Ireland (2002a) and Euro area in Andres, Lopez-Salido and Valles (2001).
    Keywords: Direct Role of Money; Cross-Restriction; Maximum Likelihood Estimation; Dynamic Stochastic General Equilibrium Model
    JEL: C31 E32 E52
    Date: 2003–12

This nep-mac issue is ©2005 by Soumitra K Mallick. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.