Showing papers by "Federal Reserve System published in 1994"

Monetary Policy, Business Cycles, and the Behavior of Small Manufacturing Firms

Abstract: We analyze the response of small versus large manufacturing firms to monetary policy. The goal is to obtain evidence on the importance of financial propagation mechanisms for aggregate activity. We find that small firms account for a significantly disproportionate share of the manufacturing decline that follows tightening of monetary policy. They play a surprisingly prominent role in the slowdown of inventory demand. Large firms initially borrow to accumulate inventories. After a brief period, small firms quickly shed inventories. We attempt to sort financial from nonfinancial explanations with evidence on asymmetries and on balance sheet effects on inventory demand across size classes.

Generational Accounting: A Meaningful Way to Evaluate Fiscal Policy

Abstract: This paper illustrates the technique of generational accounting, a new way to evaluate fiscal policy that overcomes the inherent ambiguities of traditional deficit accounting. The authors illustrate why there is no 'correct' measure of the deficit and how generational accounting--estimating the fiscal burdens current policy places on different generations--provides a clearer picture of the intergenerational and macroeconomic effects of fiscal policy than any measure of the deficit. Their calculations suggest that, despite recent changes, U.S. fiscal policy is unsustainable in that it will ultimately require future generations to bear a much higher burden than those currently alive.

How does Future Income Affect Current Consumption

Abstract: This paper tests a straightforward implication of the basic Life Cycle model of consumption: that current consumption depends on expected lifetime income. The paper projects future income for a panel of households and finds that consumption is closely related to projected current income, but unrelated to predictable changes in income. However, future income uncertainty has an important effect: consumers facing greater income uncertainty consume less. The results are consistent with "buffer-stock" models of consumption like those of Deaton [1991] or Carroll [1992a, 1992b], where precautionary motives greatly reduce the willingness of prudent consumers to consume out of uncertain future income.

Are There Cultural Effects on Saving? Some Cross-Sectional Evidence

Abstract: Why are there such large differences in saving rates across countries? Conventional economic analyses have not been successful in explaining international saving differences, so economists have sometimes suggested that national saving differences may be explained by cultural differences. This paper tests the hypothesis that cultural factors influence saving by comparing saving patterns of immigrants to Canada from different cultures. Using data from the Canadian Survey of Family Expenditures, we find no evidence of cultural effects on saving.

Bank Capital and the Credit Crunch: The Roles of Risk-Weighted and Unweighted Capital Regulations

Abstract: We investigated whether in recent years banks have increased their holdings of securities at the expense of their holdings of business loans in response to shortfalls of their capital relative to risk-weighted capital standards and relative to a capital standard that made no explicit allowance for credit risk. We estimated that bank credit fell by about $4.50 for each $1 that a bank's capital fell short of the unweighted capital standard. Banks that had less capital than required by the risk-weighted standard appear to have shifted away from assets with low risk weights (securities and single-family mortgages) and to have shifted toward assets with higher risk weights (commercial real estate and commercial and industrial loans). When we included both shortfall variables in a regression, shortfalls relative to the unweighted capital standard significantly affected bank credit, while shortfalls of capital relative to the risk-weighted standard did not. We found no significant effects of capital shortfalls at other, local-competitor banks on bank portfolios. Delinquencies in a given category of a bank's loans generally had significantly negative effects on that bank's holdings of loans in that category. In contrast, banks tended to increase holdings of loans in categories in which local-competitor banks were experiencing higher delinquency rates.

Do Saving Incentives Work

Abstract: American Saving Rates have recently fallen to their lowest levels since 1950 After averaging roughly 8 percent in the 1950s, 1960s, and 1970s, the net national saving rate fell to about 45 percent in the 1980s and has fallen below 2 percent since 1990 The personal saving rate has also declined, from an average of 7 percent between 1950 and 1980 to an average of 46 percent since 1990 These declines have raised concerns that the economy may be unable to finance investment and sustain growth over the long run and that a significant fraction of the baby-boom generation may not be saving adequately for retirement

Race, redlining, and residential mortgage loan performance

Abstract: Theories of discrimination in credit markets suggest that under certain circumstances systematic lender bias may result in creditors holding minority applicants or applicants from minority neighborhoods to higher standards of creditworthiness than other borrowers. This implies lower default rates or smaller dollar losses on loans to marginally qualified minority borrowers or borrowers from minority neighborhoods, compared to loans extended to other similarly qualified borrowers. This study seeks to test this prediction by examining the default-risk characteristics of FHA-insured single-family residential mortgages. All things equal, empirical findings fail to support the theoretical predictions that observed default rates are relatively lower among minority borrowers or neighborhoods.

The Information Content of Bank Examinations

Abstract: The role of information acquisition for bank regulators is important for the recognition and possible control of bank risk. This role is also consistent with the modern theory of banking under which banks hold a substantial amount of private information about their loan customers, and by implication, private information about their own conditions. The authors suggest that the main purpose of bank examinations is information acquisition. In order to maintain the safety and soundness of the banking system, regulators conduct regular on-site reviews of operations and determine a composite rating for the institution, known as its CAMEL rating. The authors test whether bank exams do in fact result in significant information acquisition. Their tests involve observation of how capital markets react around the times of examinations and whether these reactions are related to changes in examination ratings. They use event study methodology and track the cumulative abnormal returns on an institution's stock price before and after the examination relative to the predictions of a two-factor market model. Data are for institutions whose stocks were actively traded on major exchanges from 1985-1989 - a relatively stable regulatory regime. The question of whether bank examinations succeed in discovering substantial private information about loan quality and bank risk is crucial to answering policy questions regarding financial system reform. The modern theory of banking often rests on the assumption that are delegated monitors because of scale economies in information acquisition about borrowers. An extension of this theory might suggest that there are economies of scale in "monitoring the monitors". These economies of scale do not necessarily imply that government agencies should be the monitors. However, under the current federal safety net and deposit insurance regime, the federal government bears greater losses than do their creditors in the event of bank failure. One important consideration in choosing how much of the risk-bearing and associated monitoring responsibility should rest with government versus private sector agents depends upon the quality of the information available to the two groups. The authors' data suggest that regulatory examinations do generate valuable private information, although conceivable private sector firms could gain essentially the same or better information under a reformed regime. While CAMEL ratings and exam data are confidential, the authors suggest there are several ways information gathered in the process can be incorporated into capital market prices. One is that market prices react because insiders trade on information, although this would be illegal. Alternatively, the market may respond to information revealed in public documents released after an examination. The authors test for this possibility. The authors posit that there are at least three types of information effects that may be transmitted to the market from an examination - auditing, regulatory discipline, private information. They attempt to separate the effects of the three types by differentiating between examinations in which the CAMEL rating remained unchanged, improved, and worsened. The empirical results suggest that the net auditing effect is close to zero, and perhaps negative. They also find a relatively small regulatory disciple effect. The authors state that the data suggest that the private information effects of CAMEL downgrades in revealing unfavorable information about bank condition are substantial. Thus is consistent with some of the earlier studies of the combined effect and inconsistent with others. It also provides support for the concept of bank uniqueness - that banks hold private information about loan customers. The authors also find evidence that suggests that quarterly financial statements or the Call Report may be the conduits through which some of the examination information is revealed to the market.

The Macroeconomics of the Great Depression: A Comparative Approach

Abstract: Recently, research on the causes of the Great Depression has shifted from a heavy emphasis on events in the United States to a broader, more comparative approach that examines the interwar experiences of many countries simultaneously. In this lecture I survey the current state of our knowledge about the Depression from a comparative perspective. On the aggregate demand side of the economy, comparative analysis has greatly strengthened the empirical case for monetary shocks as a major driving force of the Depression; an interesting possibility suggested by this analysis is that the worldwide monetary collapse that began in 1931 may be interpreted as a jump from one Nash equilibrium to another. On the aggregate supply side, comparative empirical studies provide support for both induced financial crisis and sticky nominal wages as mechanisms by which nominal shocks had real effects. Still unresolved is why nominal wages did not adjust more quickly in the face of mass unemployment.

Employee Decisions with Respect to 401(k) Plans: Evidence From Individual-Level Data

Abstract: 401(k) plans have been the most rapidly growing type of employer- provided pension plan during the last decade. This paper utilizes employee-level data from the 401(k) plan at a medium-sized U.S. manufacturing firm to analyze the participation and contribution decisions of workers eligible for this plan. Our analysis reveals two important features of 401(k) participant behavior. First, contribution decisions of eligible employees are relatively insensitive to the rate of employer matching on worker contributions. Most employees maintain the same participation status and contribution rate year after year, despite substantial changes in the employer's match rate at the firm we study. This suggests that employer matching may not be a critical factor in explaining the growth of 401(k) plans. Second, we find that institutional constraints on contributions, imposed either by the employer or by the IRS, are an extremely important influence on contributor behavior. About three quarters of eligible employees contributed at rates that place them at one of the 'corners' or 'kinks' in the 401(k) opportunity set. This finding must be recognized in any analysis of how changes in 401(k) plan provisions are likely to affect contribution levels.

Reassessing the Social Returns to Equipment Investment

Abstract: The recent literature on the sources of economic growth has challenged the traditional growth accounting of the Solow model, which assigned a relatively limited role to capital deepening. As part of this literature, De Long and Summers have argued in two papers that the link between equipment investment and economic growth across countries is stronger than can be generated by the Solow model. Accordingly, they conclude that such investment yields important external benefits. However, their analysis suffers from two shortcomings. First, De Long and Summers have not conducted any formal statistical tests of the Solow model. Second, even their informal rejection of the model fails to survive reasonable tests of robustness. We formally test the predictions of the Solow model using De Long and Summers' data. Our results cast doubt on the existence of externalities to equipment investment. In particular, we find that the empirical link between investment and growth in the OECD countries is fully consistent with the Solow model. Moreover, for De Long and Summers' full sample, the evidence of excess returns to equipment investment is tenuous.

Policy, Technology Adoption, and Growth

Abstract: This paper describes a simple model of technology adoption which combines the two engines of growth emphasized in the recent growth literature: human capital accumulation and technological progress. Our model economy does not create new technologies, it simply adopts those that have been created elsewhere. The accumulation of human capital is closely tied to this adoption process: accumulating human capital simply means learning how to incorporate a new intermediate good into the production process. Since the adoption costs are proportional to the labor force, the model does not display the counterfactual scale effects that are standard in models with endogenous technical progress. We show that our model is compatible with various standard results on the effects of economic policy on the rate of growth.

Variance Properties of Solow's Productivity Residual and Their Cyclical Implications

Abstract: For the United States economy (1960-1989), the correlation between the growth rates of the Solow residual and the real price of energy (government spending) is -0.55 (0.09). The Solow residual confounds movements in energy prices and government spending with those in true technology. Why? To address this question, this study develops a model to see if it quantitatively captures the endogenous transmission mechanism underlying the observed Solow residual correlations. It does. The transmission mechanism depends on endogenous capital utilization. With this transmission mechanism in place, and with the occurrence of shocks to 'true' technology, energy prices, and government spending, the model economy accounts for 76 or 89 percent of U.S. output volatility, well matches the U.S. empirical regularities involving capital utilization and the Solow residual, and is generally consistent with other features of U.S. business cycles.

The Financial Accelerator and the Flight to Quality

Abstract: Adverse shocks to the economy may be amplified by worsening credit-market conditions-- the financial 'accelerator'. Theoretically, we interpret the financial accelerator as resulting from endogenous changes over the business cycle in the agency costs of lending. An implication of the theory is that, at the onset of a recession, borrowers facing high agency costs should receive a relatively lower share of credit extended (the flight to quality) and hence should account for a proportionally greater part of the decline in economic activity. We review the evidence for these predictions and present new evidence drawn from a panel of large and small manufacturing firms.

The Effects of Inflation on Wage Adjustments in Firm-Level Data: Grease or Sand?

Abstract: An analysis of whether inflation facilitates adjustments to shocks or distorts relative prices, examining the wage-setting process across a panel of occupations and employers and finding that the costs of inflation may rise more rapidly than its benefits beyond quite modest rates of increase in the price level.

On the Dynamic Properties of Asymmetric Models of Real GNP

Abstract: There is now a substantial body of evidence that suggests business cycles are asymmetric. However, the evidence has been accumulated using a wide array of statistical techniques and, consequently, is based on various definitions of asymmetry. This paper examines several parametric models that have been used to study asymmetries in real GNP. Although these models capture asymmetries in very different ways, their dynamic properties are remarkably similar.

Firm Size, Finance, and Investment

Abstract: A considerable body of evidence suggests differences between large and small firms in financial and investment behavior. Many observers have taken this evidence to suggest the existence of market imperfections that put small firms at a disadvantage in raising capital. This “market failure” interpretation focuses on financial differences while ignoring other important differences among firms of varying sizes. An alternative theoretical perspective based on the life cycle of firms appears to be consistent with much of the existing evidence.

Further evidence on segmentation in the treasury bill market

Abstract: This paper shows that differences in supplies of 13- and 12-week Treasury bills have statistically significant and economically meaningful effects on their yield differentials from January 1985 through October 1991, controlling for the general slope of the Treasury bill yield curve, the tendency of bills maturing at month-ends to have lower yields and the tendency of bills whose supply is augmented by cash management bills to have higher yields. The finding that market participants do not arbitrage away yield differentials that owe to differences in supplies indicates that demand curves for individual bills are downward sloping and that segmentation in the Treasury bill market is more pervasive than previously documented.