nep-opm New Economics Papers
on Open MacroEconomics
Issue of 2008‒03‒25
fourteen papers chosen by
Martin Berka
Massey University

  1. A Small Structural Monetary Policy Model for Small Open Economies with Debt Accumulation By Philippe D Karam; Adrian Pagan
  2. The Real Exchange Rate, Mercantilism and the Learning by Doing Externality By Joshua Aizenman; Jaewoo Lee
  3. Credit Cyclicality in Chile: A Cross-Country Perspective By Ludvig Soderling
  4. Openness, Government Size and the Terms of Trade By Paolo Epifani; Gino Gancia
  5. International Evidence on Sticky Consumption Growth By Christopher D. Carroll; Jiri Slacalek; Martin Sommer
  6. Business cycle comovement and labor market institutions: An empirical investigation By Raquel Fonseca; Lise Patureau; Thepthida Sopraseuth
  7. Can Exchange Rates Forecast Commodity Prices? By Yu-Chin Chen; Kenneth Rogoff; Barbara Rossi
  8. Sterilization, Monetary Policy, and Global Financial Integration By Joshua Aizenman; Reuven Glick
  9. Capital Account Liberalization, Real Wages, and Productivity By Peter Blair Henry; Diego Sasson
  10. Using financial markets information to identify oil supply shocks in a restricted VAR By Melolinna, Marko
  11. Understanding Sources of the Change in International Business Cycles By Necati Tekatli
  12. The Landscape of Capital Flows to Low-Income Countries By Sukhwinder Singh; Zuzana Brixiova; Thomas William Dorsey; Helaway Tadesse
  13. Central America's Regional Trends and U.S. Cycles By Shaun K. Roache
  14. Growth cycles in Latin America and developed countries By Adriana Moreira Amado; Marco Flávio da Cunha Resende; Frederico G. Jayme Jr.

  1. By: Philippe D Karam; Adrian Pagan
    Abstract: We extend a small New Keynesian structural model used for monetary policy analysis to address a richer class of policy issues that arise in open economy analysis. We draw a distinction between absorption and domestic output, and as the difference between the two is effectively the current account, there is now an explicit accumulation or decumulation of foreign liabilities in response to various shocks affecting the system. Such stock equilibria can now have an impact back on to the flows in the domestic economy. We perform simulations using parameters calibrated to the Canadian economy and compare the differences in impulse responses from the original model. Advantages in a forecasting environment owing to the ability to impose explicit projections about imports and exports are also exposed.
    Date: 2008–03–19
  2. By: Joshua Aizenman; Jaewoo Lee
    Abstract: This paper examines the degree to which the learning by doing externality [LBD] calls for an undervalued exchange rate, a policy suggested by recent empirical studies which concluded that mildly undervalued real exchange rate may enhance growth. We obtain mixed results. For an economy where LBD externality operates in the traded sector, real exchange rate undervaluation may be used in order to internalize this externality, if the LBD calls for subsidizing employment in the traded sector. Yet, we also find that these results are not robust to changes in the nature of the LBD externality. If the LBD externality is embodied in aggregate investment, the optimal policy calls for subsidizing the cost of capital in the traded sector, and there is no room for undervalued exchange rate policy. In addition, a deliberate undervaluation by means of hoarding reserves may backfire if the needed sterilization would increase the cost of investment in the traded sector.
    JEL: F13 F15 F31 F43
    Date: 2008–03
  3. By: Ludvig Soderling
    Abstract: This paper analyzes the determinants of credit cyclicality. It constructs a financial development index and studies whether it affects the amplitude of impulse responses to shocks to output, terms of trade, global liquidity, and global risk appetite. The paper uses both country-specific VARs for cross-country analyses and panel VARs to compare impulse responses between various country groupings. The study finds evidence that financial development-especially stronger creditor rights-can mitigate credit cyclicality, given that the response of credit to output or terms of trade shocks is stronger in countries with weaker financial systems.
    Keywords: Credit , Chile , Liquidity , Terms of trade , Private sector ,
    Date: 2008–03–05
  4. By: Paolo Epifani; Gino Gancia
    Abstract: This paper investigates the relationship between trade openness and the size of governments, both theoretically and empirically. We argue that openness can increase the size of governments through two channels: (1) a terms of trade externality, whereby trade lowers the domestic cost of taxation, and (2) the demand for insurance, whereby trade raises risk and public transfers. We provide a unified framework for studying and testing these two mechanisms. Our main theoretical prediction is that the relative strength of the two explanations depends on a key parameter, namely, the elasticity of substitution between domestic and foreign goods. Moreover, while the first mechanism is inefficient from the standpoint of world welfare, the second is instead optimal. In the empirical part of the paper, we provide new evidence on the positive association between openness and government size and we explore its determinants. Consistently with the terms of trade externality channel, we show that the correlation is contingent on a low elasticity of substitution between domestic and foreign goods. Our findings raise warnings that globalization may have led to inefficiently large governments.
    Keywords: Openness, Government Size, Terms of Trade Externality, Elasticity of Substitution between Imports and Exports
    JEL: F1 H1
    Date: 2008–03
  5. By: Christopher D. Carroll; Jiri Slacalek; Martin Sommer
    Abstract: We estimate the degree of 'stickiness' in aggregate consumption growth (sometimes interpreted as reflecting consumption habits) for thirteen advanced economies. We find that, after controlling for measurement error, consumption growth has a high degree of autocorrelation, with a stickiness parameter of about 0.7 on average across countries. The sticky-consumption-growth model outperforms the random walk model of Hall (1978), and typically fits the data better than the popular Campbell and Mankiw (1989) model. In several countries, the sticky-consumption-growth and Campbell-Mankiw models work about equally well.
    JEL: E21 F41
    Date: 2008–03
  6. By: Raquel Fonseca (RAND 1776 Main Street P.O. Box 2138 Santa Monica, CA 90407-2138, USA); Lise Patureau (THEMA, Université de Cergy-Pontoise Site des Chênes 1 UFR d’Économie et Gestion 33, boulevard du Port 95011 Cergy-Pontoise Cedex, France); Thepthida Sopraseuth (EPEE, CEPREMAP and PSE Jourdan, Departement d’Economie, Univ. d’Evry, 4 Bd F. Mitterand, 91025 Evry Cedex, France)
    Abstract: This paper examines the impact of labor market institutions (LMI) on business cycle (BC) synchronization. We first develop a two-country right-to-manage model of wage bargaining. We find that, following a symmetric demand change, cross-country differences in LMI generate divergent responses in employment and output. We then investigate the empirical relevance of this result using panel data of 20 OECD countries observed over 40 years. Our estimation strategy controls for a large set of possible factors influencing GDP correlations, which allows to confront our results with those found in previous studies. Consistently with our theoretical results, we find that similar labor markets across countries tend to favor more their synchronized cycles. In particular, disparities in tax wedges yields lower GDP co movement. Besides, interactions between labor market institutions do matter, enhancing or dampening the effect of tax wedge divergence on BC synchronization. Our overall results suggest that the impact of distortions in demand-supply labor mechanism should be investigated in international business cycle models.
    Keywords: International business cycle, Business cycle synchronization, Labor market institutions, Panel Data Estimation
    JEL: F42 C23 J32 J52
    Date: 2008
  7. By: Yu-Chin Chen; Kenneth Rogoff; Barbara Rossi
    Abstract: This paper demonstrates that "commodity currency" exchange rates have remarkably robust power in predicting future global commodity prices, both in-sample and out-of-sample. A critical element of our in-sample approach is to allow for structural breaks, endemic to empirical exchange rate models, by implementing the approach of Rossi (2005b). Aside from its practical implications, our forecasting results provide perhaps the most convincing evidence to date that the exchange rate depends on the present value of identifiable exogenous fundamentals. We also find that the reverse relationship holds; that is, that commodity prices Granger-cause exchange rates. However, consistent with the vast post-Meese-Rogoff (1983a,b) literature on forecasting exchange rates, we find that the reverse forecasting regression does not survive out-of-sample testing. We argue, however, that it is quite plausible that exchange rates will be better predictors of exogenous commodity prices than vice-versa, because the exchange rate is fundamentally forward looking. Therefore, following Campbell and Shiller (1987) and Engel and West (2005), the exchange rate is likely to embody important information about future commodity price movements well beyond what econometricians can capture with simple time series models. In contrast, prices for most commodities are extremely sensitive to small shocks to current demand and supply, and are therefore likely to be less forward looking.
    JEL: C52 C53 F31 F47
    Date: 2008–03
  8. By: Joshua Aizenman; Reuven Glick
    Abstract: This paper investigates the changing patterns and efficacy of sterilization within emerging market countries as they liberalize markets and integrate with the world economy. We estimate the marginal propensity to sterilize foreign asset accumulation associated with net exports and various forms of capital flows, across countries and over time. We find that the extent of sterilization of foreign reserve inflows has risen in recent years to varying degrees in Asia as well as in Latin America, consistent with greater concerns about the potential inflationary impact of reserve inflows. We also find that sterilization depends on the composition of balance of payments inflows.
    JEL: F15 F21 F31
    Date: 2008–03
  9. By: Peter Blair Henry; Diego Sasson
    Abstract: For three years after the typical developing country opens its stock market to inflows of foreign capital, the average annual growth rate of the real wage in the manufacturing sector increases by a factor of seven. No such increase occurs in a control group of developing countries. The temporary increase in the growth rate of the real wage permanently drives up the level of average annual compensation for each worker in the sample by 752 US dollars -- an increase equal to more than a quarter of their annual pre-liberalization salary. The increase in the growth rate of labor productivity in the aftermath of liberalization exceeds the increase in the growth rate of the real wage so that the increase in workers' incomes actually coincides with a rise in manufacturing sector profitability.
    JEL: E2 F3 F4 F41 J3 O4
    Date: 2008–03
  10. By: Melolinna, Marko (Bank of Finland Research)
    Abstract: This paper introduces a methodology for identifying oil supply shocks in a restricted VAR system for a small open economy. Financial market information is used to construct an identification scheme that forces the response of the restricted VAR model to an oil shock to be the same as that implied by futures markets. Impulse responses are then calculated by using a bootstrapping procedure for partial identification. The methodology is applied to Finland and Sweden in illustrative examples in a simple 5-variable model. While oil supply shocks have an inflationary effect on domestic inflation in these countries during the past decade or so, the effect on domestic GDP is more ambiguous.
    Keywords: oil futures; partial identification; macroeconomic shocks
    JEL: C01 E32 E44
    Date: 2008–03–18
  11. By: Necati Tekatli
    Abstract: Macroeconomic activity has become less volatile over the past three decades in most G7 economies. Current literature focuses on the characterization of the volatility reduction and explanations for this so called "moderation" in each G7 economy separately. In opposed to individual country analysis and individual variable analysis, this paper focuses on common characteristics of the reduction and common explanations for the moderation in G7 countries. In particular, we study three explanations: structural changes in the economy, changes in common international shocks and changes in domestic shocks. We study these explanations in a unified model structure. To this end, we propose a Bayesian factor structural vector autoregressive model. Using the proposed model, we investigate whether we can find common explanations for all G7 economies when information is pooled from multiple domestic and international sources. Our empirical analysis suggests that volatility reductions can largely be attributed to the decline in the magnitudes of the shocks in most G7 countries while only for the U.K., the U.S. and Italy they can partially be attributed to structural changes in the economy. Analyzing the components of the volatility, we also ï¬nd that domestic shocks rather than common international shocks can account for a large part of the volatility reduction in most of the G7 countries. Finally, we ï¬nd that after mid-1980s the structure of the economy changes substantially in ï¬ve of the G7 countries: Germany, Italy, Japan, the U.K. and the U.S..
    Date: 2007–10–20
  12. By: Sukhwinder Singh; Zuzana Brixiova; Thomas William Dorsey; Helaway Tadesse
    Abstract: This paper reviews trends in capital flows and capital-like flows such as official grants and remittances to low-income countries over the period 1981-2006. The survey reveals a broadbased increase in such flows as a share of low-income country GDP across major regions, countries with differing commodity export composition, and countries with differing debt relief status. The increase in inflows is dominated by an increase in private sector inflows, mostly in the form of private transfers and foreign direct investment. Official sector inflows have remained comparatively constant as a share of low-income country GDP and even declined in the most recent years. The paper concludes with some tentative policy conclusions and has a discussion of data issues in the annexes.
    Keywords: Capital flows , Low-income developing countries , Foreign direct investment , Debt relief , Capital account liberalization , Current account deficits ,
    Date: 2008–02–29
  13. By: Shaun K. Roache
    Abstract: The economies of Central America share a close relationship with the United States, with considerable comovement of GDP growth over a long period of time. Trade, the financial sector, and remittance flows are all potential channels through which the U.S. cycle could affect the region. But just how dependent is growth in the region on the U.S.? Using the common cycles method of Vahid and Engle (1993), this paper suggests that the business cycle is dominated by the U.S.; region-specific growth drivers tend to be long-lasting shocks, rather than temporary fluctuations. The most cyclically sensitive countries include Costa Rica, El Salvador, and Honduras.
    Keywords: Economic integration , Central America , Costa Rica , El Salvador , Honduras , Trade , United States , Financial sector , Salary remittances ,
    Date: 2008–02–29
  14. By: Adriana Moreira Amado (UnB); Marco Flávio da Cunha Resende (Cedeplar-UFMG); Frederico G. Jayme Jr. (Cedeplar-UFMG)
    Abstract: The Minskyan approach to financial instability and its effects on the real economy have recently been revived in order to explain the exchange rate crises undergone by the so-called emergent economies. Economies of this type are characterized by repeated scarcity of foreign currency, which can be explained by using Neo-Schumpeterian theory. Based on the Minskyan approach and on the Neo-Schumpeterian literature, this study seeks to demonstrate that there is a cyclic recurrence of exchange rate crises in Latin-American (peripheral) economies. By using data on international liquidity, the balance of payments and the increase in production in the G7 economies and in thirteen Latin-American economies, it was found that the Latin-American economies mirror the cycles of international liquidity.
    Keywords: financial instability, national innovation system, cycles
    JEL: F32 F33 F43 O30
    Date: 2008–03

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