Showing papers by "Federal Reserve Bank of Dallas published in 1999"

Core Inflation: A Review of Some Conceptual Issues

Abstract: This paper reviews various approaches to the measurement of core inflation that have been proposed in recent years. The objective is to determine whether the ECB should pay special attention to one or other of these measures in assessing inflation developments in the euro area. I put particular emphasis on the conceptual and practical problems that arise in the measurement of core inflation, and propose some criteria that could be used by the ECB to choose a core inflation measure.

The Nature and Growth of Vertical Specialization in World Trade

Abstract: Dramatic changes are occurring in the nature of international trade. Production processes increasingly involve a sequential, vertical trading chain stretching across many countries, with each country specializing in particular stages of a good's production sequence. We document a key aspect of these vertical linkages-the use of imported inputs in producing goods that are exported -- which we call vertical specialization. Using input-output tables from the OECD and emerging market countries we estimate that vertical specialization accounts for up to 30 percent of world exports, and has grown as much as 40 percent in the last twenty-five years. The key insight about why vertical specialization has grown so much lies with the fact that trade barriers (tariffs and transportation costs) are incurred repeatedly as goods-in-process cross multiple borders. Hence, even small reductions in tariffs and transport costs can lead to extensive vertical specialization, large trade growth, and large gains from trade. We formally illustrate these points by developing an extension of the Dornbusch-Fischer-Samuelson ricardian trade model.

The composite index of leading economic indicators: A comparison of approaches

Abstract: I compare the real-time recession predicting performance of the Conference Board Leading Index, the Stock and Watson Leading Index, and the yield curve in the period since 1988. I first calculate the real-time probability of recession for the yield curve and Conference Board Leading Index using a simple non-linear regime-switching model. I then compare these estimates to the probability of recession published by Stock and Watson. The Conference Board Leading Index gave the strongest signal of recession in the six months prior to the 1990–1991 recession and gave no false signals in the 1990s. The Stock and Watson Leading Index failed to give recession signals in the first half of 1990 and the yield curve may have given a false signal in early 1999. The results show that the traditional leading index is still a useful tool for monitoring the ebb and flow of regional and national economies.

Borrowing Constraints, Household Debt, and Racial Discrimination in Loan Markets

Abstract: Two-step selection methods are applied to the 1983 Survey of Consumer Finances to examine the extent to which borrowing constraints restrict household access to debt and the manner in which lenders vary debt limits across borrowers. Results indicate that 30 percent of young families are credit constrained, and that roughly half of these families would hold at least $12,000 (1982 dollars) more debt if borrowing constraints were relaxed. Debt limits increase with income and wealth, and are relaxed for families with a good credit history. In addition, minorities face tighter debt limits and are more likely to be credit constrained than white families.

Unit Root Tests are Useful for Selecting Forecasting Models

Abstract: We study the usefulness of root tests as diagnostic tools for selecting forecasting models. Difference stationary and trend stationary models of economic and financial time series often imply very different predictions, so deciding which model to use is tremendously important for applied forecasters. Forecasters face three choices: always difference the data, never difference, or use a unit-root pretest. We characterize the predictive loss of these strategies for the canonical AR(1) process with trend, focusing on the effects of sample size, forecast horizon, and degree of persistence. We show that pretesting routinely improves forecast accuracy relative to forecasts from models in differences, and we give conditions under which pretesting is likely to improve forecast accuracy relative to forecasts from models in levels.

Building a Case for Currency Boards

Abstract: Two common objections to currency boards are that they are dominated by more flexible policies and that they are unsustainable. The paper confronts these objections with the insights from a model economy in which several constituencies who compete for subsidies do not have the ability to monitor the allocation of government spending. Such assumptions are meant to capture important features of the reality of many countries for which currency boards have been proposed. The model suggests that, in such environments, flexible policies in a certain class have an inflationary bias that a sustainable currency board can – but not necessarily – eliminate.

Entry Solicitation and Deterrence in R&D Competition with Spillovers

Abstract: The purpose of this note is to examine incumbent behaviour and patterns of entry under R&D competition with spillovers. We find that, in addition to blockading, deterring and accommodating entry, the incumbent may also solicit entry. Entry solicitation occurs when the incumbent strategically alters its R&D commitment in order to take advantage of the spillover generated by the entrant's subsequent R&D investment. Although our results are placed in the context of R&D with spillovers, they are applicable to a wider class of models involving positive externalities, particularly network externalities. JEL Classification Numbers: L12, O31.

Exchange Rates and Local Labor Markets

Abstract: We document the consequences of real exchange rate movements for the employment, hours, and hourly earnings of workers in manufacturing industries across individual states. Exchange rates have statistically significant wage and employment implications in these local labor markets. The importance and size of these dollar-induced effects vary considerably across industries and are more pronounced in some U.S. regions. In addition to the importance of exchange rate shocks, we confirm prior research results showing that relatively strong local conditions drive up wages, in local industries, while anticipated future (positive) local shocks reduce current wages.

Privatization, competition, and supercompetition in the Mexican commercial banking system

Abstract: Much literature before and after the privatization of Mexico's commercial banking system in 1991–1992 argued that the system was collusive and noncompetitive and would likely continue to be for years. Banks would collude to underloan so that – at least in comparison with what would happen in a competitive system – they could overcharge. Because a parallel literature on lending after bank privatization suggests that the problem is often not too little, but too much, we resolved to test for competitive behavior in the Mexican banking system. Using an empirical approach developed by Shaffer (Econom. Lett. 29 (1989) 321, J. Money Credit Bank. 25 (1993) 49, Federal Reserve Bank of Philadelphia, Working paper no. 93-28R), we find a structural break in the middle of the privatization period that signals the start of an episode of what Shaffer calls “supercompetitive” behavior. In such a supercompetition, banks run at levels of output where marginal cost exceeds marginal revenue. This behavior is consistent with a struggle in which banks take losses now because they think the market share they get in the bargain offers a positive present value of expected future return. The behavior can also be consistent with just the sort of banking crises that ensued in Mexico.

What Was Behind the M2 Breakdown

Abstract: A deterioration in the link between the M2 monetary aggregate and GDP, along with large errors in predicting M2 growth, led the Board of Governors to downgrade the M2 aggregate as a reliable indicator of monetary policy in 1993. In this paper, we argue that the financial condition of depository institutions was a major factor behind the unusual pattern of M2 growth in the early 1990s. By constructing alternative measures of M2 based on banks? and thrifts? capital positions, we show that the anomalous behavior of M2 in the early 1990s disappears. Specifically, after accounting for the effect of capital constrained institutions on M2 growth, we are able to explain the unusual behavior of M2 velocity during this time period, obtain superior M2 forecasting results, and produce a more stable relationship between M2 and the ultimate goals of policy. Our work suggests that M2 may contain useful information about economic growth during periods of time when there are no major disturbances to depository institutions.

Quantifying the Half-Life of Deviations from PPP: The Role of Economic Priors

Abstract: The half-life of deviations from purchasing power parity (PPP) plays a central role in the ongoing debate about the ability of macroeconomic models to account for the time series behavior of the real exchange rate. The main contribution of this paper is a general framework in which alternative priors for the half-life of deviations from PPP can be examined. We show how to incorporate formally the prior views of economists about the half-life. In our empirical analysis we provide two examples of such priors. One example is a consensus prior consistent with widely held views among economists with a professional interest in the PPP debate. The other example is a relatively diffuse prior designed to capture a large degree of uncertainty about the half-life. Our methodology allows us to make explicit probability statements about the half-life and to assess the likelihood that the half-life exceeds a given number of years, without taking a stand on whether or not the data have a unit root. We find only very limited support for the common view in the PPP literature that the half-life is between three and five years.