LENDING RELATIONSHIPS AND MONETARY POLICY

Financial intermediation and bank spreads are the important elements in the analysis of business cycle transmission and monetary policy. We present a simple framework that introduces lending relationships, a relevant feature of financial intermediation that has been so far neglected in the monetary economics literature, into a dynamic stochastic general equilibrium model with staggered prices and cost channels. Our main findings are (a) banking spreads move countercyclically generating amplified output responses, (b) spread movements are important for monetary policymaking even when a standard Taylor Rule is employed, (c) modifying the policy rule to include a banking spread adjustment improves stabilization of shocks and increases welfare when compared to rules that only respond to output gap and inflation, and finally (d) the presence of strong lending relationships in the banking sector can lead to indeterminacy of equilibrium forcing the Central Bank to react to spread movements. (JEL E44, E52, G21)     

TAXONOMY AND THE EFFECTS OF FISCAL AND MONETARY POLICY

This paper reviews the development of monetarist theory and the circumstances under which emphasis shifted to "fiscalism," discusses Bent Hansen's view that the controversy is largely a sham dispute, and suggests two types of research needed to assess, historically and theoretically, the relative practical importance of the two approaches to reduction or elimination of economic instability.     

ELASTIC CAPITAL SUPPLY AND THE EFFECTS OF FISCAL POLICY

Existing analyses of the effects of fiscal policy in general equilibrium models have typically been conducted under the assumption that the long-run supply of capital is perfectly elastic at a fixed rate of time preference. These analyses have shown that the long-run response of the capital stock to changes in fiscal policy is crucial to generating the potential for “multiplier” effects in these models. In this paper we ask, what are the implications of relaxing the assumption of perfectly elastic capital supply for the analysis of fiscal policy? We show that with less than perfectly elastic capital supply, the potential for multipliers is actually enhanced. (JEL E62, D90)     

FISCAL POLICY, EXPECTATION TRAPS, AND CHILD LABOR

This paper develops a dynamic model with overlapping generations where there are two possible equilibria: one without child labor, and one with it. It is shown that intergenerational transfers can eliminate the child labor equilibrium and that this intervention is Pareto improving. However, if society does not believe that the government will implement the transfer program, it won't, reinforcing society's expectations. This is true even if the transfer program would have been implemented in the absence of uncertainty. Thus a government may be powerless to prevent the child labor equilibrium if it does not command the confidence of their populace, leaving the country in an expectations trap. ( JEL D91, E60, J20, O20)     

DIFFERENTIAL DEPOSIT GUARANTEES AND THE EFFECT OF MONETARY POLICY ON BANK LENDING

This paper utilizes differences in de jure deposit insurance coverage across banks and changes in coverage over time to identify a bank‐lending channel in Poland. Banks with partial guarantees have a stronger loan response to monetary policy than banks with full guarantees. Furthermore, the weak response of the fully guaranteed banks is attributed to their ability to raise low‐reserve, uninsured time deposits relative to the partially covered banks. When differential coverage is eliminated, there is no disparity in the loan response between the two groups. This lending channel has implications for credit control and financial system development in emerging markets. (JEL E52, G21, G28)     

THE TERMS OF TRADE AND THE INTERNATIONAL COORDINATION OF FISCAL POLICY

This paper develops an example of a noncooperative game between fiscal authorities in two countries. The key strategic link between countries is the terms of trade. An equilibrium without cooperation is characterized by excessive tax rates and public spending levels in each country. The outcome is analogous to the Nash equilibrium of the static optimal tarif game in trade theory. But in this model there is also a dynamic distortion caused by noncooperative behaviour. This dynamic distortion depresses capital accumulation and reduces the equilibrium capital stock in each country. Numerical examples suggest a significant welfare benefit of cooperation.     

THE FISCAL FRAMEWORK OF MONETARY POLICY

This paper i11ustrates the importance of the fiscal framework for monetary analysis by discussing three separate issues. I begin by examining how the fiscal framework changes the macroeconomic equilibrium associated with different steady state rates of money growth. This includes a summary of research that I have presented elsewhere and comments on several additional aspects of the way in which the fiscal structure destroys the neutrality of monetary policy.
The second section deals with the short-run impact of changes in monetary policy. Here again the fiscal structure complicates the economy's response to monetary policy.
The final section looks at the effect of the fiscal structure on the central banks choice of monetary policies. Fiscal structures are likely to influence the policies adopted because they affect the costs and benefits of monetary policies.     

FISCAL POLICY AND TRADE ADJUSTMENT: ARE THE DEFICITS REALLY TWINS?

Since the mid 1980s, an extensive emprical literature has examined the relationship between U.S. Fiscal deficits, exchange rates, and trade balances. We investigate two questions that continue to spark debate: do increased government deficits casue doller appreciation, and do fiscal deficits lead to higher trade deficits (the popular ‘twin deficit’ notion)? We examine these issues fusing a five-variable VAR system, generating posterior probability bounds to assess significance. Our result provide some evidence that growing goverment deficits apperciate the dollar, and support the “twin deficit” notion that government deficits contrinute to trade deficits.     

POLITICAL OPPORTUNISM AND COUNTERCYCLICAL FISCAL POLICY IN ELECTION‐YEAR RECESSIONS

Political budget cycles (PBCs) have been well documented in the literature, albeit not for all circumstances. Similarly, there is clear evidence on the positive effect of economic growth on electoral success. However, no work has been done on the impact of economic growth on the magnitude of PBCs. The theoretical model argues that a government has an incentive to increase fiscal manipulations when a recession is expected to hit and curtail reelection chances; this amounts to countercyclical policy for opportunistic rather than Keynesian motives. Very robust evidence for this behavior is found in Portuguese municipalities; in election years, budget deficits go up even more and significantly so, when a recession is expected. (JEL D72, E62, H62)     

THE IMPACT OF FISCAL POLICY ON PROFITS

This paper investigates the impact of fiscal policy on profits using panel data for 18 high‐income OECD countries during the period 1975–1999. We estimate a profit equation allowing a consistent treatment of the government budget constraint, and we try to disentangle the effects of different spending and taxation items. As far as public spending is concerned, our results strongly suggest that capital expenditures are associated with higher profits, while expenditures on goods and services and in particular on wages and salaries deteriorate profits. In general, “productive” expenditures seem to increase profits while the effect of “unproductive” expenditures is insignificant. Transport and communication expenditures seem to have a positive impact on profits. On the revenue side, we find that both direct and indirect taxation has a negative impact on profits. (JEL E62, H32, H54)     

RISK ASSESSMENT UNDER A NONLINEAR FISCAL POLICY RULE

In the aftermath of the recent debt crisis, many countries are implementing nonlinear fiscal policy rules, whereby the government's responsiveness to debt strengthens at higher levels of debt. This paper examines how a nonlinear fiscal policy rule affects the possibility of future insolvency in a small open economy. We find that (1) the criteria for a nonlinear fiscal rule to eliminate explosive behavior should be tighter than the ones proposed by Bohn (1998); (2) a country that adopts a nonlinear fiscal rule could substantially reduce the probability of a solvency crisis; and (3) a nonlinear fiscal rule allows a country to reduce the possibility of insolvency without large initial responsiveness. (JEL C63, E62, E63, F34, H63)     

MONETARY AND FISCAL POLICY DESIGN AT THE ZERO LOWER BOUND: EVIDENCE FROM THE LAB

The global economic crisis of 2007–2008 has pushed many advanced economies into a liquidity trap. We design a laboratory experiment on the effectiveness of policy measures to avoid expectation‐driven liquidity traps. Monetary policy alone is not sufficient to avoid liquidity traps, even if it preventively cuts the interest rate when inflation falls below a threshold. However, monetary policy augmented with a fiscal switching rule succeeds in escaping liquidity trap episodes. We measure the effect of fiscal policy on expectations, and report larger‐than‐unity fiscal multipliers at the zero lower bound. Experimental results in different treatments are well explained by adaptive learning. (JEL E70, C92, D83, D84, E52, E62)     

THE EFFECT OF FISCAL POLICY ON THE SHORT-RUN RELATION BETWEEN NOMINAL INTEREST RATES AND INFLATION

This paper presents a simple empirical model of the relation between the inflation rate and the nominal interest rate. We show that previous results found in the literature may be attributed to specification error and that there are natural explanations for the observed signs of previous Fisher equation estimates. Our results show that fiscal policy shocks may generate short run negative correlations between changes in inflation and changes in the nominal interest rates. These results illustrate the difficulty in discussing the relation between inflation and nominal interest rates without conditioning the analysis with specific assumptions on the course of the economy.     

COMMODITY PRICES AND BANK LENDING

We analyze the transmission of changes in commodity prices to bank lending in a large sample of developing countries. A bank-level analysis shows that a fall in commodity net export prices is associated with a reduction of bank lending, particularly for commodity exporters and during episodes of terms-of-trade decline. We complement this analysis with loan-level data from a credit register, which allows us to identify the effect of a commodity price shock on the supply of credit, controlling for unobserved factors that could drive borrowers' credit demand. Results show that banks with relatively lower deposits and poor asset quality transmit the changes in commodity prices to lending more aggressively. (JEL F30, F34, G21, Q02)     

FOREIGN BANKS AND THE BANK LENDING CHANNEL

We provide new evidence on bank ownership and transmission of monetary policy using bank‐level data on 453 banks in Central and Eastern European economies between 1998 and 2012. Only domestic banks adjust loans to changes in monetary policy, while foreign banks do not. Conventional wisdom says that this is because foreign banks can rely on parent banks' funding to insulate against monetary policy shocks. In this paper we document an alternative explanation. Deposits in foreign banks do not react to monetary policy, hence the bank lending channel is only triggered in domestic banks. (JEL E50, F36, G21)     

LEGISLATIVE TURNOVER,FISCAL POLICY,AND ECONOMIC GROWTH: EVIDENCE FROM U.S. STATE LEGISLATURES

Increased turnover among legislators can make them short‐sighted, affecting fiscal policy and economic growth. We exploit the exogenous variation in legislative turnover induced by term limit laws and by redistricting in the 50 U.S. states, finding that increased turnover increases capital spending by state governments, which may be designed to constrain future governments. The changes may cause long‐run distortions in the economy, reducing long‐term economic growth. (JEL H72, H73, H76)     

MULTICOINTEGRATION AND SUSTAINABILITY OF FISCAL PRACTICES

Using multicointegration methodology, we develop criteria for testing sustainability of fiscal budgeting processes across all states of nature. Criteria are derived from the optimal control literature where levels and rates of change of a system of variables are determinants of policy response. The appropriate policy response mechanisms are outlined and linked to the multicointegration methodology. We then test government spending and revenue systems of 15 industrialized countries for the presence of such mechanisms. We find that only Norway and the United Kingdom exhibit policy responses that are consistent with our criteria.(JEL H6 , E62 , C22 )     

RULES AND DISCRETION WITH NONCOORDINATED MONETARY AND FISCAL POLICIES

The time inconsistency of optimal monetary policy is due to the effects of tax distortions. Thus the issue of how to improve upon the time-consistent suboptimal monetary policy is related to that of the coordination of monetary and fiscal policy. We present a model with three players (the central bark, the fiscal authority, and wage setters) in which distortionary taxes are explicitly modelled. We show that binding commitments to monetary rules are not necessarily welfare improving if monetary and fiscal policy are not coordinated. We also examine the effects of different degrees of independence of the central bank.     

FISCAL ILLUSION AND THE GRANTOR GOVERNMENT IN CANADA

Recent work on the U.S. concludes that one or more illusions are responsible for the empirically observed "flypaper effect." Using annual Canadian data for the period 1962–84, we test the "single-illusion" and "dual-illusion" specifications currently in the literature. While the empirical results support the dual-illusion specification, it is not the unambiguous choice over single-illusion specifications as previously found. Further, the nature of the grant system in Canada raises questions about whether illusions or real factors produce the empirical results.