nep-mac New Economics Papers
on Macroeconomics
Issue of 2006‒11‒04
67 papers chosen by
Soumitra K Mallick
Indian Institute of Social Welfare and Bussiness Management

  1. The political economy of monetary policy conduct and central bank design By Manfred Gärtner
  2. The Structural Dynamics of US Output and Inflation: What Explains the Changes? By Canova, Fabio; Gambetti, Luca; Pappa, Evi
  3. The Structural Dynamics of Output Growth and Inflation: Some International Evidence By Canova, Fabio; Gambetti, Luca; Pappa, Evi
  4. Money at Low Frequencies By Assenmacher-Wesche, Katrin; Gerlach, Stefan
  5. Regional inflation dynamics within and across euro area countries and a comparison with the US By Günter W. Beck; Kirstin Hubrich; Massimiliano Marcellino
  6. Short-Run and Long-Run Causality between Monetary Policy Variables and Stock Prices By Jean-Marie Dufour; David Tessier
  7. Revealing the Secrets of the Temple: The Value of Publishing Central Bank Interest Rate Projections By Glenn D. Rudebusch; John C. Williams
  8. Sticky Information in General Equilibrium By N. Gregory Mankiw; Ricardo Reis
  9. INTEREST RATE PASS-THROUGH IN COLOMBIA: A MICRO-BANKING PERSPECTIVE By Rocio Betancourt; Hernando Vargas; Norberto Rodríguez
  10. The role of expectations in monetary policy By Maria Demertzis
  11. Fiscal Policy in a Monetary Union Under Alternative Labour-Market Structures. By Moïse Sidiropoulos; Eleftherios Spyromitros
  12. Learning About the Term Structure and Optimal Rules for Inflation Targeting By Eijffinger, Sylvester C W; Schaling, Eric; Tesfaselassie, Mewael F.
  14. Equilibrium Yield Curves By Monika Piazzesi; Martin Schneider
  15. The Conquest of South American Inflation By Thomas Sargent; Noah Williams; Tao Zha
  16. Robust Control and Monetary Policy Delegation. By Giuseppe Diana; Moise Sidiropoulos
  17. Monetary policy in the media By Helge Berger; Michael Ehrmann; Marcel Fratzscher
  18. Exchange Rate Pass-Through and Monetary Policy: Evindence from OECD countries By Cesar Carrera; Mahir Binici
  19. Evaluating the Economic Significance of Downward Nominal Wage Rigidity By Michael W. Elsby
  20. Behavioural Theories of the Business Cycle By Jaimovich, Nir; Rebelo, Sérgio
  21. Disinflation in an Open-Economy Staggered-Wage DGE Model: Exchange-Rate Pegging, Booms and the Role of Preannouncement By John Fender; Neil Rankin
  22. ¿No importa la cantidad de dinero?: "Inflation Targeting" y la teoría cuantitativa By Carlos Esteban Posada; Andrés Felipe García
  23. David Laidler on Monetarism By Michael Bordo; Anna J. Schwartz
  24. Forecasting Food Price Inflation in Developing Countries with Inflation Targeting Regimes: the Colombian Case By Eliana González; Miguel I. Gómez; Luis F. Melo; José Luis Torres
  25. Real Business Cycles in Emerging Countries? By Javier Garcia-Cicco; Roberto Pancrazi; Martin Uribe
  26. Aggregate Shocks or Aggregate Information? Costly Information and Business Cycle Comovement By Veldkamp, Laura; Wolfers, Justin
  27. Monetary Intervention Mitigated Banking Panics During the Great Depression: Quasi-Experimental Evidence from the Federal Reserve District Border in Mississippi, 1929 to 1933 By Gary Richardson; William Troost
  28. Price setting behaviour and price setting regulations at the euro changeover By Thomas A. Eife
  29. Supply Shocks and Currency Crises: The Policy Dilemma Reconsidered By García-Fronti, Javier; Miller, Marcus; Zhang, Lei
  30. Can News About the Future Drive the Business Cycle? By Jaimovich, Nir; Rebelo, Sérgio
  31. Openness and Inflation By Dudley Cooke
  32. Pension systems and the allocation of macroeconomic risk By Bovenberg,Lans; Uhlig,Harald
  33. Learning to manage external constraints : Belgian monetary policy during the Bretton Woods era (1944-1971) By Philippe, LEDENT; Isabelle, CASSIERS
  34. The distribution of contract durations across firms - a unified framework for understanding and comparing dynamic wage and price setting models By Huw Dixon
  35. Forecasting measures of inflation for the Estonian economy By Agostino Consolo
  36. A Common Pool Theory of Deficit Bias Correction By Krogstrup, Signe; Wyplosz, Charles
  37. Heterogenous Life-Cycle Profiles, Income Risk and Consumption Inequality By Primiceri, Giorgio E.; van Rens, Thijs
  38. The Irrelevance of Market Incompleteness for the Price of Aggregate Risk By Dirk Krueger; Hanno Lustig
  39. Don’t Go Breaking your Heart: Do Economic Upturns Really Increase Heart Attack Mortality? By Svensson, Mikael
  40. Capital Maintenance Vs Technology Adopton under Embodied Technical Progress By Raouf, BOUCEKKINE; Blanca, MARTINEZ; Cagri, SAGLAM
  41. The Cost of Banking Regulation By Guiso, Luigi; Sapienza, Paola; Zingales, Luigi
  42. Tracing the Impact of Bank Liquidity Shocks: Evidence from an Emerging Market By Atif Mian; Asim Ijaz Khwaja
  43. The geography of international portfolio flows, international CAPM and the role of monetary policy frameworks By Roberto A. De Santis
  44. Profitability of simple trading strategies exploiting the forward premium bias in foreign exchange markets and the time premium in yield curves By Andres Vesilind
  45. The Long Wave of Conditional Convergence By Tong, Jian
  46. Markov Perfect Equilibria in the Ramsey Model By Paul Pichler; Gerhard Sorger
  47. Bank Distress During the Great Contraction, 1929 to 1933, New Data from the Archives of the Board of Governors By Gary Richardson
  48. Progressive Estate Taxation By Emmanuel Farhi; Ivan Werning
  49. Terms of Trade Shocks in an Intertemporal Model: Should We Worry about the Dutch Disease or Excessive Borrowing? By Kuralbayeva, Karlygash; Vines, David
  50. A New Framework for Analyzing and Managing Macrofinancial Risks of an Economy By Dale F. Gray; Robert C. Merton; Zvi Bodie
  51. Demographic Change, Social Security Systems, and Savings By David E. Bloom; David Canning; Rick Mansfield; Michael Moore
  52. Bubbles and Self-Enforcing Debt By Christian Hellwig; Guido Lorenzoni
  53. The fiscal framework and urban infrastructure finance in China By Ming Su; Quanhou Zhao
  54. Deposit Insurance and the Composition of Bank Suspensions in Developing Economies: Lessons from the State Deposit Insurance Experiments of the 1920S By Ching-Yi Chung; Gary Richardson
  55. Large Swings in Currencies driven by Fundamentals By Phornchanok Cumperayot; Casper G. de Vries
  56. Bayesian Inference in Dynamic Disequilibrium Models : an Application to the Polish Credit Market By Luc, BAUWENS; Michel, LUBRANO
  57. Discrete Devaluations and Multiple Equilibria in a First Generation Model of Currency Crises By Broner, Fernando A
  58. BALANCE OF PAYMENTS CRISES UNDER FIXED EXCHANGE RATE IN COLOMBIA: 1938-1967 By Fabio Sánchez; Andrés Fernández; Armando Armenta
  59. Information Acquisition and Portfolio Performance By Guiso, Luigi; Jappelli, Tullio
  60. Adaptive Estimation of Autoregressive Models with Time-Varying Variances By Ke-Li Xu; Peter C. B. Phillips
  61. A Complete Asymptotic Series for the Autocovariance Function of a Long Memory Process By Offer Lieberman; Peter C.B. Phillips
  62. Factor-GMM Estimation with Large Sets of Possibly Weak Instruments By George Kapetanios; Massimiliano Marcellino
  64. Crime and Punishment in the "American Dream" By Rafael Di Tella; Juan Dubra
  65. Setenta años de la Teoría general de Keynes. Una visión crítica. By Fernando Méndez Ibisate
  66. Cash-on-Hand and Competing Models of Intertemporal Behavior: New Evidence from the Labor Market By David Card; Raj Chetty; Andrea Weber
  67. Lobbying, Corruption and Political Influence By Campos, Nauro F; Giovannoni, Francesco

  1. By: Manfred Gärtner
    Abstract: This paper provides a concise overview of the state of the art on monetary policy and central banking from a public choice perspective. It starts with a brief look at the roots of today’s view of monetary policy conduct and the design of pertinent institutions in early work on political business cycles, and then proceeds to a discussion of the inflationstabilization dilemma along with proposed solutions in the form of central bank independence and conservativeness, incentive contracts, and inflation policy targets. The last section addresses current developments. These include the proper choice of monetary policy targets, the role of New Keynesian and sticky-information aggregate-supply curves and the quest for simple and efficient rules for monetary policy that has been triggered by the proposal and widespread polularity of the Taylor rule.
    Keywords: Monetary policy, central banking, rules, discretion, stabilization, inflation, bias, public choice
    JEL: E31 E32 E52 E58
    Date: 2006–10
  2. By: Canova, Fabio; Gambetti, Luca; Pappa, Evi
    Abstract: We examine the dynamics of US output and inflation using a structural time varying coefficient VAR. We show that there are changes in the volatility of both variables and in the persistence of inflation. Technology shocks explain changes in output volatility, while a combination of technology, demand and monetary shocks explain variations in the persistence and volatility of inflation. We detect changes over time in the transmission of technology shocks and in the variance of technology and of monetary policy shocks. Hours and labour productivity always increase in response to technology shocks.
    Keywords: persistence; structural time varying VARs; transmission; variability
    JEL: C11 E12 E32 E62
    Date: 2006–10
  3. By: Canova, Fabio; Gambetti, Luca; Pappa, Evi
    Abstract: We examine the dynamics of output growth and inflation in the US, Euro area and UK using a structural time varying coefficient VAR. There are important similarities in structural inflation dynamics across countries; output growth dynamics differ. Swings in the magnitude of inflation and output growth volatilities and persistences are accounted for by a combination of three structural shocks. Changes over time in the structure of the economy are limited and permanent variations largely absent. Changes in the volatilities of structural shocks matter.
    Keywords: persistence; structural time varying VARs; transmission; variability
    JEL: C11 E12 E32 E62
    Date: 2006–10
  4. By: Assenmacher-Wesche, Katrin; Gerlach, Stefan
    Abstract: Many central banks have abandoned monetary targeting because the link between money growth and inflation seemed to disappear in the 1980s. Using spectral regression techniques, we show that for the euro area, Japan, the UK and the US there is a unit relationship between money growth and inflation at low frequencies when the impact of interest rate changes on money demand is accounted for. We estimate Phillips-curve equations in which the low-frequency information from money growth is combined with high-frequency information from the output gap to explain movements in inflation.
    Keywords: frequency domain; Phillips curve; Quantity theory; spectral regression
    JEL: C22 E3
    Date: 2006–10
  5. By: Günter W. Beck (Goethe University Frankfurt and CFS. Contact: Faculty of Economics and Business Administration, Goethe University Frankfurt, Mertonstrasse 17, 60325 Frankfurt, Germany.); Kirstin Hubrich (Corresponding author: Research Department, European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Massimiliano Marcellino (IEP-Bocconi University, IGIER and CEPR. Contact: Bocconi University, IGIER, Via Salasco, 5, Milano 20136, Italy.)
    Abstract: We investigate co-movements and heterogeneity in inflation dynamics of different regions within and across euro area countries using a novel disaggregate dataset to improve the understanding of inflation differentials in the European Monetary Union. We employ a model where regional inflation dynamics are explained by common euro area and country specific factors as well as an idiosyncratic regional component. Our findings indicate a substantial common area wide component, that can be related to the common monetary policy in the euro area and to external developments, in particular exchange rate movements and changes in oil prices. The effects of the area wide factors differ across regions, however. We relate these differences to structural economic characteristics of the various regions. We also find a substantial national component. Our findings do not differ substantially before and after the formal introduction of the euro in 1999, suggesting that convergence has largely taken place before the mid 90s. Analysing US regional inflation developments yields similar results regarding the relevance of common US factors. Finally, we find that disaggregate regional inflation information, as summarised by the area wide factors, is important in explaining aggregate euro area and US inflation rates, even after conditioning on macroeconomic variables. Therefore, monitoring regional inflation rates within euro area countries can enhance the monetary policy maker’s understanding of aggregate area wide inflation dynamics. JEL Classification: E31, E52, E58, C33.
    Keywords: Regional inflation dynamics, euro area and US, common factor models.
    Date: 2006–10
  6. By: Jean-Marie Dufour; David Tessier
    Abstract: The authors examine simultaneously the causal links connecting monetary policy variables, real activity, and stock returns. Their interest lies in the fact that the dynamics of asset prices can provide key insights--in terms of information--for the conduct of monetary policy, since asset prices constitute a class of potentially leading indicators of either economic activity or inflation. This is of particular interest in the context of an inflation-targeting regime, where the monetary policy stance is set according to inflation forecasts. While most empirical studies on causality have examined this issue using Granger's (1969) original definition, the authors examine the causality relations through the generalization proposed in Dufour and Renault (1998). For the United States, the authors find no support for stock returns as a leading indicator of the macroeconomic variables considered, or for stock returns being influenced by those macroeconomic variables, except for one case: fluctuations in M1 tend to anticipate fluctuations in stock returns. Furthermore, the authors' empirical methodology allows them to infer that monetary aggregates may have significant predictive power for income and prices at longer horizons. It is therefore incorrect to dismiss the importance of monetary aggregates based on the usual Granger causality criteria. The causality pattern inferred by the authors' procedure is consistent with the Phillips curve (for the inflation dynamics) and with the Taylor rule in the case of the interest rate. For Canada, the results are much different. The authors show that there is a potential role for asset prices as a predictor of some important macroeconomic variables, namely interest rates, inflation, and output at policy-relevant horizons. Furthermore, some measures of monetary aggregates tend to dominate the interest rate as robust causal variables for output growth and inflation. However, the authors do not find strong evidence in favour of the Phillips curve and the Taylor rule. Finally, for both Canada and the United States, the authors show that seasonal adjustments can highly distort the inferred causality structure.
    Keywords: Monetary and financial indicators
    JEL: C1 C12 C15 C32 C51 C53 E52
    Date: 2006
  7. By: Glenn D. Rudebusch; John C. Williams
    Abstract: The modern view of monetary policy stresses its role in shaping the entire yield curve of interest rates in order to achieve various macroeconomic objectives. A crucial element of this process involves guiding financial market expectations of future central bank actions. Recently, a few central banks have started to explicitly signal their future policy intentions to the public, and two of these banks have even begun publishing their internal interest rate projections. We examine the macroeconomic effects of direct revelation of a central bank's expectations about the future path of the policy rate. We show that, in an economy where private agents have imperfect information about the determination of monetary policy, central bank communication of interest rate projections can help shape financial market expectations and may improve macroeconomic performance.
    JEL: E43 E52
    Date: 2006–10
  8. By: N. Gregory Mankiw; Ricardo Reis
    Abstract: This paper develops and analyzes a general-equilibrium model with sticky information. The only rigidity in goods, labor, and financial markets is that agents are inattentive, sporadically updating their information sets, when setting prices, wages, and consumption. After presenting the ingredients of such a model, the paper develops an algorithm to solve this class of models and uses it to study the model’s dynamic properties. It then estimates the parameters of the model using U.S. data on five key macroeconomic time series. It finds that information stickiness is present in all markets, and is especially pronounced for consumers and workers. Variance decompositions show that monetary policy and aggregate demand shocks account for most of the variance of inflation, output, and hours.
    JEL: E10 E30
    Date: 2006–10
  9. By: Rocio Betancourt; Hernando Vargas; Norberto Rodríguez
    Abstract: Banks and other credit institutions are key players in the transmission of monetary policy, especially in emerging market economies, where the responses of deposit and loan interest rates to shifts in policy rates are among the most important channels. This pass-through depends on the conditions prevailing in the loan and deposit markets, which are, in turn, affected by macroeconomic factors. Hence, when setting their policy, monetary authorities must take into account those conditions and the behavior of banks. This paper illustrates this point by means of a theoretical micro-banking model and shows empirical evidence for Colombia suggesting that some aspects of the model might be relevant features of the transmission mechanism.
    Keywords: Monetary Transmission Mechanisms, Interest Rate Pass-Through, Banking Classification JEL: G21; E43; E44; E52.
  10. By: Maria Demertzis
    Abstract: Recent literature on monetary policy has emphasised the role of expectations and the merits of tying them down through credible commitment. However, although always in favour of reaping the benefits of having committed, Central Banks worry about the fact that in real time, it is not always easy to assume that they are in such a position. Decisions need to be taken then, under the assumption of predetermined expectations. We argue that in these circumstances, the provision of clear inflation objectives helps agents understand Central Bank objectives better and is thus beneficial to all.
    Keywords: expectations; information games; inflation targets
    JEL: C70 C78 E58
    Date: 2006–10
  11. By: Moïse Sidiropoulos; Eleftherios Spyromitros
    Abstract: This paper examines the welfare and stabilisation implications of alterna- tive fiscal decision rules in a monetary union with a common monetary policy, such as the European Monetary Union (EMU). We develop a two-country model under monetary union in presnece of asymmetries. Fiscal policies are assumed alternatively non-cooperative (decentralised) and cooperative (centralised) and labour markets are characterised by decentralised and centralised wage setting. The central issue of the paper is the design of the appropriate fiscal policy rule by comparing and evaluating the performance of alternative arrangements to distribute the power over fiscal authorities between the centre of the union and the individual members of the union. The main result of this paper reveals that a decentralized fiscal policy rule, where the member states conduct independent fiscal policies, with centralised wage setting in labour markets of monetary union members is the appropriate institutional design. This institutional arrangement would improve the social welfare and stabilize better than others the idiosyncratic shocks hitting the economies of the monetary union members.
    Keywords: Policy-mix, EMU, labor market institutions.
    JEL: E58 E52 E63
    Date: 2006
  12. By: Eijffinger, Sylvester C W; Schaling, Eric; Tesfaselassie, Mewael F.
    Abstract: In this paper we incorporate the term structure of interest rates in a standard inflation forecast targeting framework. We find that under flexible inflation targeting and uncertainty in the degree of persistence in the economy, allowing for active learning possibilities has effects on the optimal interest rate rule followed by the central bank. For a wide range of possible initial beliefs about the unknown parameter, the dynamically optimal rule is in general more activist, in the sense of responding aggressively to the state of the economy, than the myopic rule for small to moderate deviations of the state variable from its target. On the other hand, for large deviations, the optimal policy is less activist than the myopic and the certainty equivalence policies.
    Keywords: learning; rational expectations; separation principle; term structure of interest rates
    JEL: C53 E43 E52 F33
    Date: 2006–10
  13. By: Juan Manuel Julio Román
    Abstract: Abstract. We distinguish two types of monetary policy rules: those depen- dent on particular models and loss functions and those robust to them. While dependent rules are useful for monetary policy implementation, robust rules are powerful tools to characterize the behavior of the monetary authority over a time span. Robust rules are estimated directly from observable data usually under the assumption that the targets, the nominal interest rate and the infla- tion rate are stationary. During the transition from a moderately high level of in°ation to a stable, internationally accepted level ¼, the commitment with this goal imply that the in°ation rate, targets, nominal interest rates and nominal equilibrium interest rates are non-stationary. Acknowledging this later fact has important implications for the dynamic behavior of transmission mechanisms models during the transition. In this note we set up a robust monetary policy rule useful to characterize the behavior of a central bank during the transition to a stable inflation level. As in previous research, estimation may be carried out by GMM on a nonlinear equation. We illustrate these results by charac- terizing the behavior of the Colombian central bank during the period of full in°ation targeting, that is after 2000. Our results agree with the prevailing policy in the sample span: A gentle in°ation stabilization program, a stronger one on the output gap, and a high degree of interest rate smoothing. Combin- ing these evidence with that of previous works our results suggests that the policy rule is time varying, a useful fact for policy implementation.
  14. By: Monika Piazzesi; Martin Schneider
    Abstract: This paper considers how the role of inflation as a leading business-cycle indicator affects the pricing of nominal bonds. We examine a representative agent asset pricing model with recursive utility preferences and exogenous consumption growth and inflation. We solve for yields under various assumptions on the evolution of investor beliefs. If inflation is bad news for consumption growth, the nominal yield curve slopes up. Moreover, the level of nominal interest rates and term spreads are high in times when inflation news are harder to interpret. This is relevant for periods such as the early 1980s, when the joint dynamics of inflation and growth was not well understood.
    JEL: E0 E3 E4 G0 G12
    Date: 2006–10
  15. By: Thomas Sargent; Noah Williams; Tao Zha
    Abstract: We infer determinants of Latin American hyperinflations and stabilizations by using the method of maximum likelihood to estimate a hidden Markov model that potentially assigns roles both to fundamentals in the form of government deficits that are financed by money creation and to destabilizing expectations dynamics that can occasionally divorce inflation from fundamentals. Our maximum likelihood estimates allow us to interpret observed inflation rates in terms of variations in the deficits, sequences of shocks that trigger temporary episodes of expectations driven hyperinflations, and occasional superficial reforms that cut inflation without reforming deficits. Our estimates also allow us to infer the deficit adjustments that seem to have permanently stabilized inflation processes.
    JEL: D83 E31 E52
    Date: 2006–10
  16. By: Giuseppe Diana; Moise Sidiropoulos
    Abstract: This paper adapts in a simple static context the Rogoff's (1985) analysis of monetary policy delegation to a conservative central banker to the robust control framework. In this framework, uncertainty means that policymakers are unsure about their model, in the sense that there is a group of approximate models that they also consider as possibly true, and their objective is to choose a rule that will work under a range of di¤erent model specifications. We find that robustness reveals the emergence of a precautionary behaviour in the case of unstructured model uncertainty, reducing thus government's willingness to delegate monetary policy to a conservative central banker.
    Keywords: Robust control, Monetary policy delegation, Central bank conservativeness.
    JEL: E52 E58
    Date: 2006
  17. By: Helge Berger (Free University Berlin, Department of Economics, Boltzmannstr. 20, 14195 Berlin, Germany & CESifo.); Michael Ehrmann (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.); Marcel Fratzscher (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: Media coverage of monetary policy actions is a central channel of a central bank’s communication with the wider public, and thus an important factor for its credibility and policy effectiveness. This paper analyses the coverage which ECB monetary policy decisions receive in the print media, and the determinants of its extent and of its favorableness. We find that that the press critically discusses the ECB’s policy decisions in the context of prior market expectations and of the inflation environment, and that the media’s coverage of decisions is generally highly responsive to ECB communication – in particular its Press Conference on meeting days. However, the paper also finds clear limitations in this regard, thus underlining the critical monitoring role assumed by the media. JEL Classification: E52, E58.
    Keywords: Monetary policy, ECB, communication, media, press, coverage, transparency, accountability.
    Date: 2006–09
  18. By: Cesar Carrera (University of California, Santa Cruz and Central Bank of Peru); Mahir Binici (University of California, Santa Cruz and Central Bank of Turkey)
    Abstract: We provide an empirical analysis about the relationship between exchange rate and different price indexes for each OECD country. We were focused on how different inflation environments could explain a decreasing degree of the exchange rate pass-through over prices in each country. In a second stage, we estimate the relationship between pass-through and prices using individual-country pass-through. We find evidence in favor of the hypothesis that the exchange rate pass-through is lower when it is taken into account environments in which it is observed lower and stables rates of inflation, result which would be associated with a more effective monetary policy in terms of transparency and inflation control.
    Keywords: Pass-through, Exchange rate, Inflation, Monetary Policy
    JEL: E31 E52 F3 F4 C22 C31
    Date: 2006–10
  19. By: Michael W. Elsby
    Abstract: This paper formalizes and assesses empirically the implications of widely observed evidence for downward nominal wage rigidity (DNWR). It shows how a model of DNWR informed by diverse evidence for worker resistance to nominal wage cuts is nevertheless consistent with weak macroeconomic effects. This occurs because firms have an incentive to compress wage increases as well as wage cuts when DNWR binds. By neglecting potential compression of wage increases, the previous literature may have overstated the costs of DNWR to firms. Using a broad range of micro--data from the US and Great Britain I find that firms do indeed compress wage increases as well as wage cuts at times when DNWR binds. Accounting for this reduces the estimated increase in aggregate wage growth due to DNWR to be much closer to zero, consistent with the predictions of the model. These results suggest that DNWR may not provide a strong argument against the targeting of low inflation rates, as practiced by many monetary authorities. Importantly, though, this result is nevertheless consistent with evidence that suggests workers are averse to nominal wage cuts.
    JEL: E24 E31 J30 J41
    Date: 2006–10
  20. By: Jaimovich, Nir; Rebelo, Sérgio
    Abstract: We explore the business cycle implications of expectation shocks and of two well-known psychological biases, optimism and overconfidence. The expectations of optimistic agents are biased toward good outcomes, while overconfident agents overestimate the precision of the signals that they receive. Both expectation shocks and overconfidence can increase business-cycle volatility, while preserving the model's properties in terms of comovement, and relative volatilities. In contrast, optimism is not a useful source of volatility in our model.
    Keywords: business cycles; expectations; optimism; overconfidence
    JEL: E3
    Date: 2006–10
  21. By: John Fender; Neil Rankin
    Abstract: A dynamic general equilibrium model of an open economy with staggered wages is constructed. We analyse disinflation through pegging the exchange rate. In accordance with the stylised facts, an initial boom in output can result, depending on the exact level of the peg. The reason is an element of preannouncement in the policy. Disinflation through reducing monetary growth is shown to be equivalent to disinflation through pegging the exchange rate, if the latter includes an initial currency revaluation. This helps explain why such disinflation causes a short-run slump. The model can also help explain inflation persistence.
    Keywords: Exchange-rate-based disinflation, money-based disinflation, staggered wages, preannouncement effects.
    JEL: F52 E41
    Date: 2006–10
  22. By: Carlos Esteban Posada; Andrés Felipe García
    Abstract: La literatura referente a los modelos de inflación y política monetaria anti-inflacionaria del tipo denominado Inflation Targeting (IT) ha reforzado una opinión popular: que la inflación tiene poca o ninguna relación con el aumento de la cantidad de dinero. Esta opinión es contraria a una de las más viejas teorías económicas: la teoría cuantitativa del dinero (TCD). En las siguientes páginas se establece la relación entre un modelo básico de IT y la TCD, y se aclaran un caso de irrelevancia de la cantidad de dinero: el de la trampa de liquidez o caso keynesiano-radical. Este caso se contrapone a los otros casos, que sí son compatibles con la TCD. Por último, se reporta evidencia favorable a la hipótesis de pertinencia de la TCD para el caso colombiano reciente (1986: I 2005:III).
    Keywords: dinero, precios, inflation targeting, curva IS, curva de Phillips, tasa de interés, teoría cuantitativa del dinero.
    JEL: E40 E41 E52
  23. By: Michael Bordo; Anna J. Schwartz
    Abstract: David Laidler has been a major player in the development of the monetarist tradition. As the monetarist approach lost influence on policy makers he kept defending the importance of many of its principles. In this paper we survey and assess the impact on monetary economics of Laidler's work on the demand for money and the quantity theory of money; the transmission mechanism on the link between money and nominal income; the Phillips Curve; the monetary approach to the balance of payments; and monetary policy.
    JEL: E00 E50
    Date: 2006–10
  24. By: Eliana González; Miguel I. Gómez; Luis F. Melo; José Luis Torres
    Abstract: Many developing countries are adopting inflation targeting regimes to guide monetary policy decisions. In such countries the share of food in the consumption basket is high and policy makers often employ total inflation (as opposed to core inflation) to set inflationary targets. Therefore, central banks need to develop reliable models to forecast food inflation. Our literature review suggests that little has been done in the construction of models to forecast short-run food inflation in developing countries. We develop a model to improve short-run food inflation forecasts in Colombia. The model disaggregates food items according to economic theory and employs Flexible Least Squares given the presence of structural changes in the inflation series. We compare the performance of this new model to current models employed by the central bank. Next, we apply econometric methods to combine forecasts from alternative models and test whether such combination outperforms individual models. Our results indicate that forecasts can be improved by classifying food basket items according to unprocessed, processed and food away from home and by employing forecast combination techniques.
    Date: 2006–10–20
  25. By: Javier Garcia-Cicco; Roberto Pancrazi; Martin Uribe
    Abstract: This paper investigates the hypothesis that an RBC model driven by permanent and transitory productivity shocks accounts well for business cycles in emerging markets. Existing studies that make this claim use short time series to estimate the parameters of the underlying driving forces. This practice is problematic, particularly because a central goal in this literature is to ascertain the role of permanent shocks to productivity. One contribution of the present study is to use a data set consisting of almost a century of aggregate data from Argentina. We conduct a GMM estimation of the parameters of a small open economy RBC model. We find that the RBC model does a poor job at explaining the Argentine business cycle. The difficulties of the model are most evident along five dimensions: (a) the RBC model counterfactually predicts that consumption growth is less volatile than output growth. (b) The volatility of the trade balance-to-output ratio implied by the RBC model is four times as large as its empirical counterpart. (c) The volatility of investment growth is half as large in the model as it is in the data. (d) The RBC model predicts the wrong sign for the autocorrelation function of output growth. (e) A robust prediction of the model is that the trade-balance share in output is a near random walk, with an autocorrelation function close to unity, whereas in the data, the highest autocorrelation coefficient of this variable takes place at the first order and is less than 0.6, with higher-order autocorrelations converging quickly to zero.
    JEL: F41
    Date: 2006–10
  26. By: Veldkamp, Laura; Wolfers, Justin
    Abstract: When similar patterns of expansion and contraction are observed across sectors, we call this a business cycle. Yet explaining the similarity and synchronization of these cycles across industries remains a puzzle. Whereas output growth across industries is highly correlated, identifiable shocks, like shocks to productivity, are far less correlated. While previous work has examined complementarities in production, we propose that sectors make similar input decisions because of complementarities in information acquisition. Because information about driving forces has a high fixed cost of production and a low marginal cost of replication, it can be more efficient for firms to share the cost of discovering common shocks than to invest in uncovering detailed sectoral information. Firms basing their decisions on this common information make highly correlated production choices. This mechanism amplifies the effects of common shocks, relative to sectoral shocks.
    Keywords: business cycles; comovement puzzle; costly information; information markets
    JEL: D82 E32
    Date: 2006–10
  27. By: Gary Richardson; William Troost
    Abstract: The Federal Reserve Act of 1913 divided Mississippi between the 6th (Atlanta) and 8th (St. Louis) Federal Reserve Districts. Before and during the Great Depression, these districts' policies differed. The Atlanta Fed championed monetary activism and the extension of credit to troubled banks. The St. Louis Fed adhered to the doctrine of real bills and eschewed expansionary initiatives. Outcomes differed across districts. In the 6th District, banks failed at lower rates than in the 8th District, particularly during the banking panic in the fall of 1930. The pattern suggests that discount lending reduced failure rates during periods of panic. Historical evidence and statistical analysis corroborates this conclusion.
    JEL: E5 E6 E65 N1 N2
    Date: 2006–10
  28. By: Thomas A. Eife
    Abstract: This paper documents that the impact of the euro changeover in January 2002 on prices was not uniform across the 12 participating countries. There are countries where prices increased significantly, but there are also countries where price-setting behaviour during the changeover does not appear to be very different from other points in time. This paper argues that the above difference can be explained by looking at the way countries regulated price setting during the changeover, and that any impact of the changeover could have been avoided with appropriate regulations. The gap between the actual and the perceived impact is addressed and policy recommendations for future changeovers are provided
    Keywords: currency changeover, euro, economic policy, prices, perceived inflation
    JEL: E31 E60 L11
    Date: 2006–10–10
  29. By: García-Fronti, Javier; Miller, Marcus; Zhang, Lei
    Abstract: The stylised facts of currency crises in emerging markets include output contraction coming hard on the heels of devaluation, with a prominent role for the adverse balance-sheet effects of liability dollarisation. In the light of the South East Asian experience, we propose an eclectic blend of the supply-side account of Aghion, Bacchetta and Banerjee (2000) with a demand recession triggered by balance sheet effects (Krugman, 1999). This sharpens the dilemma facing the monetary authorities - how to defend the currency without depressing the economy. But, with credible commitment or complementary policy actions, excessive output losses can, in principle, be avoided.
    Keywords: contractionary devaluation; financial crises; Keynesian recession; supply and demand shocks
    JEL: E12 E4 E51 F34 G18
    Date: 2006–10
  30. By: Jaimovich, Nir; Rebelo, Sérgio
    Abstract: We propose a model that generates an economic expansion in response to good news about future total factor productivity (TFP) or investment-specific technical change. The model has three key elements: variable capital utilization, adjustment costs to investment, and preferences that exhibit a weak short-run wealth effect on the labour supply. These preferences nest the two classes of utility functions most widely used in the business cycle literature as special cases. Our model can generate recessions that resemble those of the post-war U.S. economy without relying on negative productivity shocks. The recessions are caused not by contemporaneous negative shocks but rather by lackluster news about future TFP or investment-specific technical change.
    Keywords: business cycles; expectations; news
    JEL: E3
    Date: 2006–10
  31. By: Dudley Cooke
    Abstract: A general equilibrium model of a small open economy is developed to analyze the optimal rate of inflation under discretion. Once agents' welfare is the sole policy objective it is possible to show that openness and inflation no longer have a simple inverse relationship. A greater degree of openness may lead the policy maker to want to exploit the short-run Phillips curve more aggressively, even if involves a smaller short-run benefit, because changes in export demand affect the terms of trade. Inflation can then be higher in a more open economy.
    Date: 2006–10–25
  32. By: Bovenberg,Lans; Uhlig,Harald (Tilburg University, Center for Economic Research)
    Abstract: This paper explores the optimal risk sharing arrangement between generations in an overlapping generations model with endogenous growth. We allow for nonseparable preferences, paying particular attention to the risk aversion of the old as well as overall "life-cycle" risk aversion. We provide a fairly tractable model, which can serve as a starting point to explore these issues in models with a larger number of periods of life, and show how it can be solved. We provide a general risk sharing condition, and discuss its implications. We explore the properties of the model quantitatively. Among the key findings are the following. First and for reasonable parameters, the old typically bear a larger burden of the risk in productivity surprises, if old-age risk-aversion is smaller than life risk aversion, and vice versa. Thus, it is not necessarily the case that the young ensure smooth consumption of the old. Second, consumption of the young and the old always move in the same direction, even for population growth shocks. This result is in contrast to the result of a fully-funded decentralized system without risk-sharing between generations. Third, persistent increases in longevity will lead to lower total consumption of the old (and thus certainly lower per-period consumption of the old) as well as the young as well as higher work effort of the young. The additional resources are instead used to increase growth and future output, resulting in higher consumption of future generations.
    Keywords: social optimum;pensions systems;risk sharing;overlapping
    JEL: E21 E61 E62 O40 H21 H55
    Date: 2006
  33. By: Philippe, LEDENT (UNIVERSITE CATHOLIQUE DE LOUVAIN, Department of Economics); Isabelle, CASSIERS
    Abstract: This paper analyses the Belgian monetary and exchange rate policies at the time of Bretton Woods. It sheds light on the groping adjustment process by which internal economic policies are hit by or adapt to the external constraints. In 1944, an ambitious monetary reform laid down the economic policy objectives that remained in force for two decades, namely price stability and strong currency. However, we point out different incompatibilities between these objectives and the economic context of the 1950s and 1960s that could have negative consequences on Belgian economic growth?. More precisely, the long lasting European currencies inconvertibility (1944-1958) contradicted the orthodox approach of the monetary policy favoured by the Central Bank. When total convertability was finally achieved, the huge increase of capital movements led to a progressive loss of the monetary policy autonomy, despite the setting up of a two-tier exchange market, which can be viewed as an institutional innovation responding to new constraints.
    Keywords: Monetary policy, Bretton Woods, Currency inconvertibility, Capital movements, Two-tier exchange market
    JEL: N14 N24 E58 E65
  34. By: Huw Dixon (Economics Department, University of York, YO10 5DD, UK.)
    Abstract: This paper shows how any steady state distribution of ages and related hazard rates can be represented as a distribution across firms of completed contract lengths. The distribution is consistent with a Generalised Taylor Economy or a Generalised Calvo model with duration dependent reset probabilities. Equivalent distributions have different degrees of forward lookingness and imply different behaviour in response to monetary shocks. We also interpret data on the proportions of firms changing price in a period, and the resultant range of average contract lengths. JEL Classification: E50.
    Keywords: Contract length, steady state, hazard rate, Calvo, Taylor.
    Date: 2006–09
  35. By: Agostino Consolo
    Abstract: The aim of this paper is to forecast some of the most important measures of inflation of the Estonian economy by making use of linear and non-linear models. Results from comparing classes of optimal models are similar to those in the forecasting literature. In particular, there are gains from using more sophisticated methods such as factor analysis and time-varying parameters methods. Model discrimination is based on evaluation criteria which are computed by a real-time dynamic estimation procedure. Moreover, forecasts uncertainty is appropriately taken into account: Fan Charts can exhaustively describe the final output for what concerns out-of-sample forecasting.
    Keywords: Estonian Economy, forecasting, inflation modelling
    JEL: C22 C32 C53 E31
    Date: 2006–10–10
  36. By: Krogstrup, Signe; Wyplosz, Charles
    Abstract: The budget deficit bias is modeled as the result of a domestic common pool problem and of an international externality. Along with Piguvian taxes, a number of policy measures are examined and welfare-ranked: deficit ceilings, golden rules and delegation. In general, the combination of delegation and an optimally-set deficit ceiling deliver the social optimum, even if the deficit ceiling is not credible.
    Keywords: common pool; deficit bias; fiscal institutions; fiscal restraints; fiscal rules; stability pact
    JEL: E61 E62 H6
    Date: 2006–10
  37. By: Primiceri, Giorgio E.; van Rens, Thijs
    Abstract: Was the increase in income inequality in the US due to permanent shocks or merely to an increase in the variance of transitory shocks? The implications for consumption and welfare depend crucially on the answer to this question. We use CEX repeated cross-section data on consumption and income to decompose idiosyncratic changes in income into predictable life-cycle changes, transitory and permanent shocks and estimate the contribution of each to total inequality. Our model fits the joint evolution of consumption and income inequality well and delivers two main results. First, we find that permanent changes in income explain all of the increase in inequality in the 1980s and 90s. Second, we reconcile this finding with the fact that consumption inequality did not increase much over this period. Our results support the view that many permanent changes in income are predictable for consumers, even if they look unpredictable to the econometrician, consistent with models of heterogeneous income profiles.
    Keywords: consumption; heterogeneity; incomplete markets; inequality; risk
    JEL: D12 D31 D52 D91 E21
    Date: 2006–10
  38. By: Dirk Krueger; Hanno Lustig
    Abstract: In models with a large number of agents who have constant relative risk aversion (CRRA) preferences, the absence of insurance markets for idiosyncratic labor income risk has no effect on the premium for aggregate risk if the distribution of idiosyncratic risk is independent of aggregate shocks. In spite of the missing markets, a representative agent who consumes aggregate income prices the excess returns on stocks correctly. This result holds regardless of the persistence of idiosyncratic shocks, as long as they are not permanent, even when households face binding, and potentially very tight borrowing constraints. Consequently, in this class of models there is no link between the extent of self-insurance against idiosyncratic income risk and aggregate risk premia.
    JEL: E21 E44 G0
    Date: 2006–10
  39. By: Svensson, Mikael (Department of Business, Economics, Statistics and Informatics)
    Abstract: Several recent papers in the literature have found that short-term economic upturns are bad for your health (a pro-cyclical effect). In this paper I explore the relationship between business cycles and incidence and mortality in acute myocardial infarction (heart attacks) in Sweden. The sample consists of 21 Swedish regions during the period 1987 to 2003. Results from the panel data estimations indicate that the business cycle effect is insignificant on overall rates of incidence and mortality. However, a counter-cyclical and significant effect is found in most specifications for those in prime working age between 20 and 49. It is also shown that a higher share of women, highly educated and non-foreigners decrease incidence and mortality. Further it is shown that results are sensitive to different business cycle proxies as well as different model specifications and previous results from the literature cannot be taken as universal for other countries or settings.
    Keywords: Mortality; Incidence; Heart attacks; Business cycles; Health
    JEL: E32 I12
    Date: 2006–11–01
  40. By: Raouf, BOUCEKKINE (UNIVERSITE CATHOLIQUE DE LOUVAIN, Department of Economics); Blanca, MARTINEZ; Cagri, SAGLAM
    Abstract: We study an optimal growth model with one-hoss-shay vintage capital, where labor resources can be allocated freely either to production, technology adoption or capital maintenance. Technological progress is partly embodied. Adoption labor increases the level of embodied technical progress. First, we are able to disentangle the amplification-propagation role of maintenance in business fluctuations : in the short run, the response of the model to transitory shocks on total factor productivity in the final good sector are definitely much sharper compared to the counterpart model without maintenance but with the same average depreciation rate. Moreover, the one-hoss shay technology is shown to reinforce this amplification-propagation mechanism. We also find that accelerations in embodied technical progress should be responded by a gradual adoption effort, and capital maintenance should be the preferred instrument in the short run.
    Keywords: Technology adoption, Maintenance, Vintage capital, Dynamics
    JEL: E22 E32 O40
    Date: 2006–06–15
  41. By: Guiso, Luigi; Sapienza, Paola; Zingales, Luigi
    Abstract: We use exogenous variation in the degree of restrictions to bank competition across Italian provinces to study both the effects of bank regulation and the impact of deregulation. We find that where entry was more restricted the cost of credit was higher and - contrary to expectations- access to credit lower. The only benefit of these restrictions was a lower proportion of bad loans. Liberalization brings a reduction in rates spreads and an increased access to credit at a cost of an increase in bad loans. In provinces where restrictions to bank competition were most severe, the proportion of bad loans after deregulation raises above the level present in more competitive markets, suggesting that the pre-existing conditions severely impact the effect of liberalizations.
    Keywords: macroeconomics; monetary economics
    JEL: E0 G10
    Date: 2006–10
  42. By: Atif Mian; Asim Ijaz Khwaja
    Abstract: Do liquidity shocks matter? While even a simple `yes' or `no' presents identification challenges, going beyond this entails tracing how such shocks to lenders are passed on to borrowers, and whether borrowers can in turn cushion these shocks through the credit market. This paper does so by using data that follows all loans made by lenders to borrowing firms in Pakistan, and exploiting cross-bank variation in liquidity shocks induced by the unanticipated nuclear tests in 1998. We isolate the causal impact of the bank lending channel by showing that for the same firm borrowing from two different banks, its loan from the bank experiencing a 1% larger decline in liquidity drops by an additional 0.6%. The liquidity shock also lowers the probability of continued lending to old clients and extending credit to new ones. Although this lending channel affects all firms significantly, large firms and those with strong business and political ties completely compensate the effect by borrowing more from more liquid banks - both through existing and new banking relationships. In contrast, small unconnected firms are entirely unable to hedge and face large drops in overall borrowing and increased financial distress. The liquidity shocks thus have large distributional consequences.
    JEL: E44 E5 E51 G21 G3
    Date: 2006–10
  43. By: Roberto A. De Santis (European Central Bank, Kaiserstrasse 29, 60311 Frankfurt am Main, Germany.)
    Abstract: Using bilateral data on international equity and bond flows, we find that the prediction of the International Capital Asset Pricing Model is partially met and that global equity markets might be more integrated than global bond markets. Moreover, over the turbulent 1998-2001 period characterised by an equity bubble and the subsequent burst, we find evidence that investors preferred portfolio assets of countries where the central bank gave relative importance to money. As for EMU, once controlling for diversification benefits and the elimination of the exchange rate risk, we show that cross-border portfolio flows among euro area countries have increased due to the catalyst effect of EMU. Country's shares in the world market portfolio, home bias, initial degree of misallocation across countries, past returns, diversification benefits and EMU can explain 35-40% of the total variation in equity and bond asset flows. JEL Classification: C13, C21, F37, G11.
    Keywords: Capital flows, Home bias, Risk diversification, EMU, Monetary policy.
    Date: 2006–09
  44. By: Andres Vesilind
    Abstract: This paper focuses on two actively studied inefficiencies in financial markets: the forward premium bias in foreign exchange markets (see, for example, Hansen and Hodrick 1980, Fama 1984, Bansal and Dahlquist 2000, etc.) and the empirical finding that the time expectations theory performs relatively poorly in describing the average shape of yield curves (for a list of papers see, for example, Backus et al. 1998, p 1). The goal of the article is to test whether these two inefficiencies can still offer the possibilities of earning positive and stable excess return for investors. For that purpose, first two very simple trading strategies are tested based on the abovementioned inefficiencies: buying the currencies of the countries with higher short-term interest rates against the currencies of the countries with lower short-term interest rates (i.e. simple FX carry-strategy) and holding long-only positions in longerterm interest rate futures. The results show that the two studied risk premiums are still present in the markets and enable investors to earn excess returns even with simple strategies. Additional tests show that the performance of these simple strategies can be further improved by the inclusion of a risk factor in the foreign exchange carry-strategy and by the addition of monetary policy direction and yield curve steepness filters in the long-only strategy in interest rate futures.
    Keywords: trading rules, forward premium bias, time expectations theory
    JEL: E44 E47 E58 F37 G11 G15
    Date: 2006–10–10
  45. By: Tong, Jian
    Abstract: We calculate the time series of the speed of convergence for 21 high-income countries over the period: 1953-1996, using low-pass filtered time series of per-capita GDP which are thus isolated from the influence of the short-run business cycle components. The observed patterns contradict the conventional ‘time-invariant speed of convergence’ hypothesis. Furthermore, dynamic panel data analysis provides strong evidence of the existence of stationary long cycles in the per capita GDP time series. We develop and estimate a technology-diffusion-based endogenous growth model, which shows that the endogenous growth of the domestic knowledge stock can account for the long cycles observed in the data. Keywords; trend reversion, speed of convergence, growth cycles
  46. By: Paul Pichler; Gerhard Sorger
    Abstract: We study the Ramsey (1928) model under the assumption that households act strategically. We compute the Markov perfect equilib- rium for this model and compare it to the original, competitive equi- librium and to a strategic open-loop equilibrium proposed by Sorger (2002, 2005b). We show that, if households are identical, strategic behavior has no in°uence on the long run evolution of the economy. If households are heterogeneous, however, the Markov perfect equilib- rium has properties that di®er from those of the competitive and the open-loop equilibrium.
    Keywords: Ramsey model, strate
    JEL: C63 C73 D91 E21 O41
    Date: 2006–10
  47. By: Gary Richardson
    Abstract: During the contraction from 1929 through 1933, the Federal Reserve System tracked changes in the status of all banks operating in the United States and determined the cause of each bank suspension. This essay introduces that hitherto dormant data and analyzes chronological patterns in aggregate series constructed from it. The analysis demonstrates both illiquidity and insolvency were substantial sources of bank distress. Contagion (via correspondent networks and bank runs) propagated the initial banking panics. As the depression deepened and asset values declined, insolvency loomed as the principal threat to depository institutions. These patterns corroborate some and question other conjectures concerning the causes and consequences of the financial crisis during the Great Contraction.
    JEL: E42 E5 E65 N1 N12
    Date: 2006–10
  48. By: Emmanuel Farhi; Ivan Werning
    Abstract: For an economy with altruistic parents facing productivity shocks, the optimal estate taxation is progressive: fortunate parents should face lower net returns on their inheritances. This progressivity reflects optimal mean reversion in consumption, which ensures that a long-run steady state exists with bounded inequality - avoiding immiseration.
    JEL: E6
    Date: 2006–10
  49. By: Kuralbayeva, Karlygash; Vines, David
    Abstract: This paper analyzes the impact of terms of trade and risk-premium shocks on a small open economy in an intertemporal, Dutch disease model, with international capital mobility. It is shown that when the economy experiences a permanent improvement in the terms of trade, the Dutch disease effect (real exchange rate appreciation) goes away in the new steady state, while the economy experiences de-industrialization even stronger than in the short-run. Second, a permanent improvement in the terms of trade coupled with a permanent reduction in the risk-premium leads to pro-industrialization and a real exchange rate appreciation. The mechanism behind appreciation of the real exchange rate in the long-run is different from the Dutch disease story. It occurs because reduction in the risk-premium reduces the costs of the production in the economy, and because (non-oil) traded sector benefits more from cheaper capital than the non-traded sector. The economy also accumulates more debt in response to these two shocks in the long-run.
    Keywords: capital inflows; Dutch disease; external debt; optimizing models; overborrowing; real exchange rate
    JEL: E44 F32 F34 F41
    Date: 2006–10
  50. By: Dale F. Gray; Robert C. Merton; Zvi Bodie
    Abstract: The high cost of international economic and financial crises highlights the need for a comprehensive framework to assess the robustness of national economic and financial systems. This paper proposes a new comprehensive approach to measure, analyze, and manage macroeconomic risk based on the theory and practice of modern contingent claims analysis (CCA). We illustrate how to use the CCA approach to model and measure sectoral and national risk exposures, and analyze policies to offset their potentially harmful effects. This new framework provides economic balance sheets for inter-linked sectors and a risk accounting framework for an economy. CCA provides a natural framework for analysis of mismatches between an entity's assets and liabilities, such as currency and maturity mismatches on balance sheets. Policies or actions that reduce these mismatches will help reduce risk and vulnerability. It also provides a new framework for sovereign capital structure analysis. It is useful for assessing vulnerability, policy analysis, risk management, investment analysis, and design of risk control strategies. Both public and private sector participants can benefit from pursuing ways to facilitate more efficient macro risk accounting, improve price and volatility discovery, and expand international risk intermediation activities.
    JEL: E5 E6 G2 H0
    Date: 2006–10
  51. By: David E. Bloom; David Canning; Rick Mansfield; Michael Moore
    Abstract: In theory, improvements in healthy life expectancy should generate increases in the average age of retirement, with little effect on savings rates. In many countries, however, retirement incentives in social security programs prevent retirement ages from keeping pace with changes in life expectancy, leading to an increased need for life-cycle savings. Analyzing a cross-country panel of macroeconomic data, we find that increased longevity raises aggregate savings rates in countries with universal pension coverage and retirement incentives, though the effect disappears in countries with pay-as-you-go systems and high replacement rates.
    JEL: E1 J2
    Date: 2006–10
  52. By: Christian Hellwig; Guido Lorenzoni
    Abstract: We characterize equilibria with endogenous debt constraints for a general equilibrium economy with limited commitment in which the only consequence of default is losing the ability to borrow in future periods. First, we show that equilibrium debt limits must satisfy a simple condition that allows agents to exactly roll over existing debt period by period. Second, we provide an equivalence result, whereby the resulting set of equilibrium allocations with self-enforcing private debt is equivalent to the allocations that are sustained with unbacked public debt or rational bubbles; for the latter, there exist well known existence and characterization results. In contrast to the classic result by Bulow and Rogoff (AER 1989), positive levels of debt are sustainable in our environment because the interest rate is sufficiently low to provide repayment incentives.
    JEL: D50 D52 E40 F34 G10
    Date: 2006–10
  53. By: Ming Su; Quanhou Zhao
    Abstract: China has experienced more than 25 years of extraordinary economic growth. Underlying this growth has been a decentralized fiscal system, in which provinces and large cities are given the freedom to make infrastructure investments to stimulate local development, and are allowed to retain a large part of the fiscal revenues that are generated from economic activity. Although successful as a growth strategy, this policy created two problems for national fiscal management. First, it significantly reduced the central government ' s share of fiscal revenues, which fell from 34.8 percent in 1980 to 22 percent in 1992. Second, it widened economic and fiscal disparities between the rapidly growing urban coastal region and the rest of the country. Rapid growth in subnational debt (which rose 23-fold in a decade) and subnational nonperforming loans (estimated by the authors to range between US$100 billion and US$150 billion) has placed pressure on China ' s financial system. Traditionally, China has favored bank lending as a source of finance because the banking system has provided a vehicle for central political control over local debt. But as China ' s financial system matures, creditworthiness standards must become more important. The authors recommend greater use of the revenue streams from infrastructure assets as a financing source, and gradual relaxation of central political control over subnational debt. One step in this direction would permit leading cities to issue municipal bonds based on objective financial standards.
    Keywords: Banks & Banking Reform,Urban Economics,Public & Municipal Finance,Municipal Financial Management,Intergovernmental Fiscal Relations and Local Finance Management
    Date: 2006–11–01
  54. By: Ching-Yi Chung; Gary Richardson
    Abstract: Eight states established deposit insurance systems between 1908 and 1917. All abandoned the systems between 1921 and 1930. Scholars debate the costs and benefits of these policy experiments. New data drawn from the archives of the Federal Reserve Board of Governors demonstrate that deposit insurance influenced the composition of bank suspensions in these states. In typical years, suspensions due to runs fell. Suspensions due to mismanagement rose. During the penultimate year of each system, the bank failure rate rose to an unsustainable height and the system ceased operations.
    JEL: E42 E65 L1 N1 N14 O16
    Date: 2006–10
  55. By: Phornchanok Cumperayot (Chulalongkorn University); Casper G. de Vries (Erasmus Universiteit Rotterdam)
    Abstract: Exchange rate returns are fat-tailed distributed. We provide evidence that the apparent non-normality derives from the behavior of macroeconomic fundamentals. Economic and probabilistic arguments are offered for such a relationship. Empirical support is given by testing against normality and through investigating the tail shapes of the fundamentals' distributions. The currently available data sets on floating exchange rates permit a clearer picture than the relatively short spans with macroeconomic data available previously.
    Keywords: exchange rates; fundamentals; fat-tailed distributions
    JEL: E44 F31
    Date: 2006–10–06
  56. By: Luc, BAUWENS (UNIVERSITE CATHOLIQUE DE LOUVAIN, Department of Economics); Michel, LUBRANO
    Abstract: We review Bayesian inference for dynamic latent variable models using the data augmentation principle. We detail the difficulties of stimulating dynamic latent variables in a Gibbs sampler. We propose an alternative specification of the dynamic disequilibrium model which leads to a simple simulation procedure and renders Bayesian inference fully operational. Identification issues are discussed. We conduct a specification search using the posterior deviance criterion of Spiegelhalter, Best, Carlin, and van der Linde (2002) for a disequilibrium model of the Polish credit market.
    Keywords: Latent variables, Disequilibrium models, Bayesian inference, Gibbs sampler, Credit rationing
    JEL: C11 C32 C34 E51
    Date: 2006–05–23
  57. By: Broner, Fernando A
    Abstract: The first generation models of currency crises have often been criticized because they predict that, in the absence of very large triggering shocks, currency attacks should be predictable and lead to small devaluations. This paper shows that these features of first generation models are not robust to the inclusion of private information. In particular, this paper analyzes a generalization of the Krugman-Flood-Garber (KFG) model, which relaxes the assumption that all consumers are perfectly informed about the level of fundamentals. In this environment, the KFG equilibrium of zero devaluation is only one of many possible equilibria. In all the other equilibria, the lack of perfect information delays the attack on the currency past the point at which the shadow exchange rate equals the peg, giving rise to unpredictable and discrete devaluations.
    Keywords: currency crises; discrete devaluations; first generation models; multiple equilibria; private information
    JEL: D8 E58 F31 F32
    Date: 2006–10
  58. By: Fabio Sánchez; Andrés Fernández; Armando Armenta
    Abstract: Between 1938 and 1967, including the Bretton Woods period after 1947, Colombia pegged its currency to the dollar. Although the exchange rate was fixed, the peso was devaluated more than 12% on six occasions. The devaluation episodes were complex, traumatic, highly politicized and had costly macroeconomic effects. The Bretton Woods agreement stated that countries could only devalue their exchange rate in the presence of fundamental imbalances driven, for example, by structural terms of trade deterioration. However, this paper states that in Colombia, the imbalance in the money market was a key factor in explaining the exchange rate crises during the period. The paper is organized as follows: first, a simple theoretical model of a small open economy with imperfect capital mobility is described in order to examine the possible causes of nominal devaluations; second, a narrative approach is used to describe the economic circumstances that surrounded each of the devaluation episodes; finally, a set of econometric tests are used in order to identify the key variables behind the macroeconomic imbalances that preceded each exchange rate crisis. The results show that the external imbalances were mainly associated with the imbalances in the money market. Terms of trade deterioration account for just a small part of current account crises
    Date: 2006–02–02
  59. By: Guiso, Luigi; Jappelli, Tullio
    Abstract: Rational investors perceive correctly the value of financial information. Investment in information is therefore rewarded with a higher Sharpe ratio. Overconfident investors overstate the quality of their own information, and thus attain a lower Sharpe ratio. We contrast the implications of the two models using a unique survey of customers of an Italian leading bank with portfolio data and measures of financial information. We find that the portfolio Sharpe ratio is negatively associated with investment in information. The negative correlation is stronger for men than women and for those who claim they know stocks well, arguably because these investors are more likely to be overconfident. We also show that investment in information is associated with more frequent trading, less delegation of portfolio decisions and less diversified portfolios. In each case, the effect of information is stronger for investors who, a priori, are suspected to be more overconfident.
    Keywords: behavioural finance; overconfidence; portfolio choice; rationality
    JEL: D8 E2 G1
    Date: 2006–10
  60. By: Ke-Li Xu; Peter C. B. Phillips
    Date: 2006–10–27
  61. By: Offer Lieberman; Peter C.B. Phillips
    Date: 2006–10–27
  62. By: George Kapetanios (Queen Mary, University of London); Massimiliano Marcellino (IEP-Bocconi University, IGIER and CEPR)
    Abstract: This paper analyses the use of factor analysis for instrumental variable estimation when the number of instruments tends to infinity. We consider cases where the unobserved factors are the optimal instruments but also cases where the factors are not necessarily the optimal instruments but can provide a summary of a large set of instruments. Further, the situation where many weak instruments exist is also considered in the context of factor models. Theoretical results, simulation experiments and empirical applications highlight the relevance and simplicity of Factor-GMM estimation.
    Keywords: Factor models, Principal components, Instrumental variables, GMM, Weak instruments, DSGE models
    JEL: C32 C51 E52
    Date: 2006–10
  63. By: Carolina Gómez Restrepo; Diego Jara Pinzón; Andrés Murcia Pabón
    Abstract: El tamaño relativo de las transacciones de las Administradoras de Fondos de Pensiones (AFP) frente a los demás participantes del mercado cambiario ha sido objeto de preocupación de académicos y ejecutores de política. Las AFP pueden transar grandes volúmenes, lo cual podría influenciar las decisiones de inversión de otros agentes, exacerbando presiones sobre los precios. Este documento estudia el impacto de las operaciones de los Fondos de Pensiones Obligatorias (FPO) sobre el tipo de cambio y el precio de los TES. Los resultados sugieren que los fondos de pensiones son bastante activos tanto en el mercado cambiario como en el de deuda pública interna; más aún, se evidencia una fuerte actividad de trading de corto plazo por parte de algunos fondos en estos mercados. Sin embargo, no se evidencia que los movimientos de distintos fondos estén positivamente correlacionados. Se concluye que sus operaciones tienen un grado de asociación fuerte con el movimiento del tipo de cambio y de las tasas de los TES tasa fija de largo plazo.
    Keywords: AFP, Agentes del Mercado, movimientos del tipo de cambio. Clasificación JEL: D40; D70; E39.
  64. By: Rafael Di Tella; Juan Dubra
    Abstract: We observe that countries where belief in the "American dream" (i.e., effort pays) prevails also set harsher punishment for criminals. We know from previous work that beliefs are also correlated with several features of the economic system (taxation, social insurance, etc). Our objective is to study the joint determination of these three features (beliefs, punitiveness and economic system) in a way that replicates the observed empirical patterns. We present a model where beliefs determine the types of contracts that firms offer and whether workers exert effort. Some workers become criminals, depending on their luck in the labor market, the expected punishment, and an individual shock that we call "meanness". It is this meanness level that a penal system based on "retribution" tries to detect when deciding the severity of the punishment. We find that when initial beliefs differ, two equilibria can emerge out of identical fundamentals. In the "American" (as opposed to the "French") equilibrium, belief in the "American dream" is commonplace, workers exert effort, there are high powered contracts (and income is unequally distributed) and punishments are harsh. Economists who believe that deterrence (rather than retribution) shapes punishment can interpret the meanness parameter as pessimism about future economic opportunities and verify that two similar equilibria emerge.
    JEL: E62 K14 K42 P16
    Date: 2006–10
  65. By: Fernando Méndez Ibisate
    Date: 2006
  66. By: David Card; Raj Chetty; Andrea Weber
    Abstract: This paper presents new tests of the permanent income hypothesis and other widely used models of household behavior using data from the labor market. We estimate the "excess sensitivity" of job search behavior to cash-on-hand using sharp discontinuities in eligibility for severance pay and extended unemployment insurance (UI) benefits in Austria. Analyzing data for over one-half million job losers, we obtain three empirical results: (1) a lump-sum severance payment equal to two months of earnings reduces the job-finding rate by 8-12% on average; (2) an extension of the potential duration of UI benefits from 20 weeks to 30 weeks similarly lowers job-finding rates in the first 20 weeks of search by 5-9%; and (3) increases in the duration of search induced by the two programs have little or no effect on subsequent job match quality. Using a search theoretic model, we show that estimates of the relative effect of severance pay and extended benefits can be used to calibrate and test a wide set of intertemporal models. Our estimates of this ratio are inconsistent with the predictions of a standard permanent income model, as well as naive "rule of thumb" behavior. The representative job searcher in our data is 70% of the way between the permanent income benchmark and credit-constrained behavior in terms of sensitivity to cash-on-hand.
    JEL: D91 E6 H5 J6
    Date: 2006–10
  67. By: Campos, Nauro F; Giovannoni, Francesco
    Abstract: Conventional wisdom suggests that lobbying is the preferred mean for exerting political influence in rich countries and corruption the preferred one in poor countries. Analyses of their joint effects are understandably rare. This paper provides a theoretical framework that focus on the relationship between lobbying and corruption (that is, it investigates under what conditions they are complements or substitutes). The paper also offers novel econometric evidence on lobbying, corruption and influence using data for about 4000 firms in 25 transition countries. Our results show that (a) lobbying and corruption are substitutes, if anything; (b) firm size, age, ownership, per capita GDP and political stability are important determinants of lobby membership; and (c) lobbying seems to be a much more effective instrument for political influence than corruption, even in poorer, less developed countries.
    Keywords: corruption; institutions; lobbying; transition
    JEL: D72 E23 H26 O17 P16
    Date: 2006–10

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