Showing papers in "Journal of Money, Credit and Banking in 1974"

The Competitive Supply of Money

Abstract: FEW AREAS OF ECONOMIC AcTIvrrY can claim as long and unanimous a record of agreement on the appropriateness of governmental intervention as the supply of money.l Very early in our history money was recognized by policy makers to be "special," and individuals fearful of government influence in other areas of economic life readily acknowledged that government had a primary role in controlling monetary arrangements. Free market advocates who now argue for, among other things, unregulated entry and the elimination of all interest rate and portfolio restrictions do not opt for a completely unregulated money industry, but recognize that money has unique characteristics which require that it not be supplied freely as an ordinary good. The monetary role of government is agreed to include, at a minimum, the monopolistic supply of a currency, into which all privately supplied demand deposits should be convertible. In

Are Future Taxes Anticipated by Consumers?: Comment

Abstract: This paper explores the effect of including the federal government deficit among the variables used to explain the level of private consumption. The addition of the federal deficit to the consumption function can help to resolve an outstanding macroeconomic theory and policy dispute; the question of how fiscal policy affects income, if indeed it does affect income. Some recent studies report that changes in taxation have essentially no influence on income.l Changes in the government deficit "crowd out" private expendltures as effectively as does taxation, according to these studies. One method of testing this result is to examine the impact of government expenditures and taxes on the components of income. In this paper, I present and test the hypothesis that consumers anticipate the future taxes implied by present deficits and that consumption expenditures, given disposable income, vary in such a way as to offset substantially the effect of government deficits. The method that is used includes, in regression equations explaining consumption, a variable representing the current deficit. There has been so-me concern expressed recently over the high level of the savings ratio. Analysts have been surprised by this, and many ad hoc explanations have been suggested. The hypothesis advanced here provides an explanation grounded in a fundamental principle of economic analysis the assumption that consumers act rationally which explains

A Monetary Approach to Balance-of- Payments Analysis

Abstract: The purpose of this paper is to set forth the general principles which characterize the "monetary approach" to balance-of-payments analysis and to illustrate how these principles are applied in a simple model of trade and payments behavior. The exposition of general principles summarizes the three basic features of the monetary approach. At this level of generality, it is argued that a monetary approach is essential for sensible discussion of the balance of payments and that the money-demand function and the money-supply process should play a central role in balance-of-payments analysis, particularly for the long run. The monetary approach, however, is not identified with the view that "only money matters," nor is it asserted that the monetary approach is encompassed in any single, specific, theoretical model. Rather, it is argued that the monetary approach encompasses a broad class of models which share certain basic features but can differ in many important respects, particularly concerning short-run processes of adjustment. After the discussion of general principles, these principles will be illustrated by considering the specific question of the effects of a tariff

A Random Coefficient Model of the Demand for Liquid Assets

Abstract: THE PAST DECADE has produced an abundance of empirical studies which estimated the demand functions for liquid assets based on temporal cross-section data. The focus of these studies has been the estimation of the degree of substitution between the liabilities of bank and nonbank financial intermediaries. These substitution relationships are recognized as being highly relevant to such diverse issues in the monetary literature as the appropriate definition of moneyS the macroeconomic effects of monetary policy, and the allocative consequences of the growth in financial intermediation. The richness of the temporal cross-section data base allows a varied menu of alternative model specifications and, consequently, a cornucopia of estimates of the elasticities of substitution between different liquid assets. Several studies have used specifying assumptions which constrain behavior to be stable, both over time and over geographic units (see, for example, Cohen [1], Hartley [5], Kichline [6], and Lee [7]). Other studies have assumed geographic behavioral stability while testing temporal behavioral stability (see Feige [3]). A recent survey of studies of the demand function for demand deposits utilizing temporal cross-section data revealed a remarkable robustness of the estimated elasticities to significant departures from the more conventional model specifications; however, none of the prior studies allowed for behavioral differences across geographic areas (see Feige [4]). To the extent that geographic boundaries reflect differences in both lnstitutional arrangements and individual decision-making, the

The Psychological Rate of Interest

Abstract: In an earlier article, "Forgetfulness and Interest,"2 I showed how the hereditary and relativistic formulation of the theory of the demand for money can be applied to provide a precise and operational expression of the psychological rate of interest. This leads in turn to a deepening of understanding, in new directions, of the general theory of interest. This is the main purpose of the present article.3 4 As far as can be judged, the analysis presented below, which later may be refined and revised, seems capable of clarifying certain aspects of a complex and controversial question which has been under discussion ever since the beginning of the eighteenth century, namely, the link between

Credit Controls as Instruments of Development Policy in the Light of Economic Theory

Abstract: Publisher Summary This chapter presents credit controls as instruments of development policy in the light of economic theory. In their quest for rapid economic development, developing countries have found it essential to divert resources to areas that are considered most productive in some social sense. As institutions engage in the transfer of command over resources from surplus to deficit units, commercial banks can influence the pace, and pattern of development by the efficiency with which they mobilize and allocate savings and by the direction of their allocation of these savings. The chapter analyzes the basic rationale of credit controls, as instruments of development policy, to influence the long-term lending policies of banks in developing countries to achieve balanced economic growth. Credit-control policies have ultimately been conceptually based on a proposed divergence between private and social profitability of extending loans to certain high-priority areas of the economy. On the assumption that such a divergence in fact exists, it has been argued that there are at least two alternative schemes which will capture all the supposed benefits of credit controls but without as much of the accompanying cost.

Monetary and Fiscal Policy in the Fully Stochastic St. Louis Econometric Model

Abstract: 1. Are there active countercyclical monetary rules in which the money stock responds to current economic events which stabilize the rates of inflation and unemployment relative to performance under a monetary constant growth-rate rule? 2. Is there any gain in stability from the active use of countercyclical fiscal policy even in the St. Louis model, where, as is well known, the long-run fiscal (high employment federal government expenditure) multiplier is close to zero? 3. Is there any gain in stability from actively using both fiscal and monetary policy rather than either policy singly in combination with a constant growth-rate rule for the other policy variable?

Monetary Dynamics, Growth, and the Efficiency of Inflationary Finance

Abstract: One of the main arguments against government expansion of the money stock at a high rate to finance expenditures is based on the social cost of wealth redistribution and economic disruption caused by unanticipated inflation.l Another argument is based on the excess burden of inflation as a tax on real cash balances. This latter social cost was analyzed for hyperinflation in a stationary economy by Martin Bailey in 1956 [2] . Bailey's classic analysis examined the efficiency of inflationary finance (in comparison to alternative sources of revenue) in alternative static-equilibrium situations without allowing for the effects on the excess burden or the revenue flow of dynamic adjustments of real balances and the rate of inflation in the transition from one static equilibrium to another. One

Bank Examiners' Evaluation of Credit: An Analysis of the Usefulness of Substandard Loan Data

Abstract: One of the primary jobs of U.S. bank examiners is to evaluate the quality of credit extended by American banks. The examiners inspect all large loans (with respect to the bank's capital) and a sample of smaller loans, appraising about 50 to 60 percent of the bank's loan portfolio. Those loans whose quality is questioned are classified into three categories: loss, doubtful, and substandard. The first two categories, which together are much smaller than the third, represent loans that obviously are, or are very likely to become, uncollectible. The third category, substandard loans, has held the greatest interest for regulators and economists because the amount of these loans appears to be an up-to-date and "on line" indicator of credit quality. In particular, the National Bureau of Economic Research has had a long-standing interest in such bank examination data, as is indicated by studies by Moore [9, 10], Wojnilower [14], and Early [5]. The determination of substandard loans seems to be a major reason for the Federal Reserve System's maintenance of a staff of about 800

An Analysis of Information and Transaction Services in Financial Institutions

Abstract: Financial institutions, including brokers and intermediaries, are profitmaking firms which sell services to savers and investors. Information and transactions services are two important services provided by financial firms. The object of this paper is to analyze the revenues and costs of providing these services using the traditional tools of the theory of the firm. This model will then be used to explain the demand functions and supply functions for a model of financial securities markets. With these models we will derive the effects on the interest rate structure of a technological change that lowers the cost of financial transactions. There exist many models concerning financial firms; usually they analyze indetail, some particular aspect of their operation. There are models deriving principles for optimal portfolio selection (see, for instance [12, 13, 14, 16, 20]), models analyzing scale economies in banking [2, 4, 9, 11], models representing the structure of the banking market and the effectiveness of regulation [1, 5, 6, 7, 8, 19], and models concerning various aspects of nonmonetary financial intermediaries [3, 10, 17, 23]. However, the analysis of information costs and transactions costs is strangely neglected in the firlancial literature, although economizing on information and transac-

Currency in Circulation and the Real Value of Notes

Abstract: IN RECENT YEARS economists have devoted a great deal of attention to the behavior of various measures of liquid assets. Many such measures include currency in circulation as one of their components. The purpose of this paper is to improve the published figures on currency in circulation by estimating the amount of currency lost.1 This is done by establishing a relationship between currency losses and the real value of currency notes. Currency in circulation is defined as the total amount of currency outstanding less currency holdings of the Treasury and Federal Reserve banks. Data on currency outstanding are obtained by subtracting the total quantity of currency redeemed from the total quantity of currency issued. Currency in circulation is thus overstated by the amount of currency lost.2 This paper will use the evidence from various series and types of currency

On the Theory of Real Balance Effects

Abstract: One of the primary topics that has occupied monetary theorists in the post-Keynesian years is the real balance effect. This has traditionally been defined as a positive partial relation between changes in real money balances and changes in the flow of spending on currently produced consumption goods at initial interest rates and other prices. 1 However, despite the large amount of literature on this subject, there remains an important lack of agreement about the theoretical foundations; and, in fact, there is still controversy concerning the very existence of such an effect.2 The absence of a generally accepted body of theory in this area of monetary economics occurs because several different issues have been confounded in the course of the subject's development. To illustrate this point, and to begin unraveling the pertinent strands of analysis, it is useful first to reconsider the original controversy that initiated interest in a direct connection between wealth owners' monetary assets and their flows of spending on various components of final product.

The Cost of Capital and the Demand for Money by Firms: Comment

Abstract: 1 They do not use a cost-of-capital variable in their cross-section analysis and thus assume implicitly that all the firms in a given cross-section have the same cost of capital This assumption, however, is inconsistent with the theory of finance, which suggests that cost of capital of a firm depends on its appropriate risk class 2 2 They use aggregate data of firms in different industries rather than data of individual firms

Demand and Supply of Bank Credit in Italy

Abstract: Control of monetary base, together with compulsory reserves requirements, is the main instrument by which, in most countries, the central bank manages the volume of bank credit and bank deposits and, therefrom, the liquidity of the economy and the level of interest rates1 Indeed, the traditional instruments of monetary policy (open-market operations, rediscount policy, control of banks' net indebtedness with the foreign sector, different ways of financing the Treasury, and so forth) are all means by which the central bank influences the amount of base money As a matter of experience, however, the ratio of changes in the amount of credit to changes in the amount of monetary base or bank reserves

What to Do about Savings and Loan Associations?@@@The Effect of Government Housing and Mortgage Credit Programs on Savings and Loan Associations.

Abstract: THE CONCERN PROVOKED for the future of savings and loan associations, with the related problem of efficient housing sector subsidization, may well be the most lasting effect of the tight money periods of 1966 and 1969-70 in the United States. In both the wide-ranging Study of the Savings and Loan Industry directed by Irwin Friend [4] and the policy-oriented Report of the Presidential Commission on Financial Structure and Regulation (the Hunt Commission Report) [8], attention has been focused on the possible insolvency of savings and loan associations in future periods of tight money, resulting primarily from the associations' awkward imbalance between short-term liabilities and long-term assets. In addition, since the savings and loan associations have been a major conduit through which the housing sector has been stimulated, questions of the well-being of the associations have been naturally related to the means for effective government intervention in the housing sector. In the Hunt Commission Report, in particular, besides the general intent of freeing capital markets from regulatory constraints, specific recommendations were made to expand significantly both the asset and liability powers of the savings and loan associations as a solution to their problem. Also,

On the Relationships among Monetary Aggregates

Abstract: A CURRENT DISPUTE among monetary economists is whether money market conditions or the behavior of monetary aggregates should be the principal focus of policymaking. The recent emphasis on the behavior of these aggregates has raised a number of issues as yet unresolved. In particular, the choice of the proper aggregate for use as an indicator of the direction and intensity of monetary policy remains an important problem. For example, situations in which one aggregate is growing, another declining, and a third unchanged, have produced disagreement or uncertainty about monetary actions. The purpose of this paper is to analyze the interrelationships among monetary aggregates and to explore the policy implications of this relative behavior. The analysis is carried out within the framework of the theory of the demand for liquid assets. Regressions are estimated to explain the ratios of M2 to M1, M3 to M1, and bank credit to M1. Each equation implies a level of demand for the relevant liquid liabilities that is consistent with a given quantity of the narrowly defined money supply M1 and values of the independent variables. The specifications are drawn from established theory and previous empirical evidence about the demand for liquid assets. 1 The results demonstrate that the relative movements of the aggregates are well-defined functions of both current and past economic conditions. The analysis is

Estimating Term Structure Phenomena from Data Aggregated over Time

Abstract: The last several years have witnessed a significant increase in the professional attention directed to the term structure of interest rates. One of the more well-known studies has been provided by Modigliani and Sutch [9, 10, 11]. Ihey posit a version of the "expectations" hypothesis in which it is possible to express the long-term rate of interest as a distributed lag on short-term rates of interest. The distributed lag is asserted to be the net result of two lags based on alternative hypotheses about the manner in which expectations are formed, the regressive lag entering positively and the extrapolative lag entering negatively. According to M-S, the lag coefficients should describe an inverted U-shaped pattern as a result of the presence of strong extrapolative elements. They provide extensive empirical evidence to support their contention and find that application of the Almon lag estimator to quarterly data yields an inverted U-shaped distributed lag pattern over 16 quarters. Despite the evidence put forth by M-S, a number of recent studies have raised questions regarding the distributed lag of long rates on short rates of interest. Hamburger and Latta [8] have shown that a simple model (without a long distributed lag) yields an explanatory power similar to the M-S model. Chetty [3] has recently shown that combining a Bayesian approach and Solow's Pascal distributed lag yields a Koyck-type distributed lag, with a mean lag slightly over three months in length.

Rules versus Discretion: An Analysis of Income Stability and the Money Supply: Comment

Abstract: Through countercyclical monetary policies, the Federal Reserve attempts to promote economic growth and stability. Milton Friedman [4, 5] has argued, however, for the elimination of deliberate countercyclical monetary policies in favor of increasing the stock of money at a regular, steady rate. Friedman asserts that any conscious stabilization policy may contribute to instability because the outside lag in monetary policy is so long and variable. Bronfenbrenner [2, 3] and Modigliani [10] have performed some statistical tests of alternative monetary rules. The tests are designed to discover how well the money supply has been managed with discretionary authority. The performance of the monetary authority is then compared with what might have happened if the money supply had been managed according to some automatic rules. When the rules increasing the money supply at the constant rates of 3 percent or 4 percent per year are compared to the performance of discretionary policy, Modigliani's evidence supports discretionary policy over rules, provided the discretion is used in the pursuit of price stability and full employment [10, pp. 243-44]. However, when the 3 or 4 percent rules are made to compete with discretionary policy in Bronfenbrenner's test, the automatic rules are superior a 3 percent annual growth in the money supply being best [2, p. 13]. In a recent paper, the authors constructed and tested a model to determine whether the policies of the Federal Reserve have had a stabilizing or destabilizing effect on income during the post-accord period in the United States [9] . In the present paper, an attempt is made to evaluate the stabilizing

Reserve-asset preferences in the crisis zone, 1958–67

Abstract: THIS STUDY PROVIDES AN ECONOMETRIC ANALYSIS of the reserve-asset behavior of the outer countries over a critical time span of the international monetary system, between 1958, the year the system entered its "crisis zone" (that stage in which the probability of collapse of the system became apparent to the participants), and 1967, when agreement was reached on the SDR reform of the system. It tests for changing reactions of these countries with respect to the confidence problem as the system moved further into the crisis zone. Such an altered behavior pattern will be denoted as "restraint" if it involves the holding of more dollars and fewer other reserve assets (primarily gold) than a country otherwise would do. This restraint has been postulated in theoretical studies by Officer and Willett [14, 15], but thus far their work has not been subjected to empirical testing. How can one determine the beginning of the crisis zone of the international monetary system? Either a stock or flow criterion may be used. The stock definition of the crisis zone was first presented in a theoretical study by Kenen [11]: it is the period in which the U.S. reserve ratio (official reserve assets to liquid liabilities to all foreigners) is below unity. This ratio exhibits a declining trend from 1951 to 1967, a trend which falls below unity in 1960. A second definition of the crisis zone is implicit in the related work of Mundell [13] l and was adopted in the later study of Officer and Willett

The Problem of Coexistence of SDRs and a Reserve Currency: Comment

Abstract: In a previous issue of this journal, John Makin set out to explain the general stability conditions of the present international monetary arrangement, which is characterized by heterogeneous assets such as gold, dollars, and SDRs. 1 These assets are supposed to coexist in order to provide an adequate growth of international reserves to the world community. I have three general comments on Makin's article. First, the Walras Law of the markets is invoked inappropriately. Second, his dynamic analysis suffers from an error of specification because the effects of an excess demand for SDRs on the U.S. money market are not correctly traced. Under a revised formulation, the necessary and sufficient conditions for stability are somewhat different from those stated in the article. Third, the power of the analytical framework advanced by Makin is reduced (a) by not having explicitly treated the U.S. money market and (b) by implicitly assuming equilibrium conditions in the gold market in his dynamic discussion of the model. Let me first deal with the application of the Walras law. Makin postulates excess demands for gold, dollar assets, and SDRs as a function of the U.S. rate of interest r, the rate of interest on SDRs j, and a measure of risk in holding dollar assets given by the ratio of foreign-held dollar assets to the U.S. gold stock W. By appealing to Walras's law of the markets and recognizing that j is fixed institutionally, the system reduces to two excess demand functions (dollars and SDRs) in unknowns W and r. However, a fourth market is already working in the background of Makin's analysis, namely, the U.S. money market. This is because the United States is assumed all along to be a residual buyer and seller of SDRs in pretty much the same way that she was the ultimate buyer and seller of gold before August 15, 1971.2 Since this behavior affects the demand for and supply of U.S. money and, consequently, the rate of