The Handbook of internation Macroeconomics

The Handbook of International Macroeconomics

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The Handbook of

International Macroeconomics

Edited by

F r e d e r i c k v a n d e r P l o e g

BLACKWELL

O xforJ U K & Cambridge U SA

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C opyright <0 Basil Blackwell Ltd 1994

First published 1994

Blackwell Publishers

238 M ain Street,

C am bridge, M assachusetts 02142

USA

108 Cowley R oad

O xford 0 X 4 1JF

U K

All rights reserved. Except for the q uotation o f short passages for the

purposes o f criticism and review, no part o f this publication may be

reproduced, stored in a retrieval system , or transm itted, in any form or by

any m eans, electronic, m echanical, photocopying, recording or otherw ise,

w ithout the p rio r perm ission o f the publisher.

Except in the U nited States o f A m erica, this book is sold subject to the

condition that it shall not, by way o f trade or otherw ise, be lent, resold, hired

out, or otherw ise circulated w ithout the publisher’s prior consent in any form

o f binding or cover other than that in which it is published and w ithout a

sim ilar condition including this condition being im posed on the subsequent

purchaser.

Library' o f Congress Calaloging-in-Publication Data

93-9823

C IP

Typeset in 11 on 13 pt Tim es

by T im es G raphics, Singapore

P rin ted in G re a t B ritain by T .J. Press (P ad sto w ) L td, P adstow , C ornw all.

This book is printed on acid-free paper

The handbook o f international m acroeconom ics / edited by Frederick van

der Ploeg

p. cm.

Includes bibliographical references and index.

ISBN 0-631-18026-5 (alk. paper). — ISBN 0-631-19062-7 (pbk.: alk. paper)

1. International finance. 2. M onetary policy. 3. M acroeconom ics.

I. Ploeg. Frederick van der, 1956-

H G 3851.H 347 1993

33 2 '.0 4 2 — dc20

British Library Cataloguing in Publication Data

A C IP catalogue record for this book is available from the B ritish Library.

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Contents

List o f Figures xv

List o f Tables xviii

List o f Contributors xix

Preface xxi

PART I MICRO FOUNDATIONS OF INTERNATIONAL

MACROECONOMICS 1

1 Quantity-constrained Models of Open Economies

N eil R a n k jn 3

1 INTRODUCTION 3

2 REAL MODELS 5

2.1 Short run and long run 5

2.2 The representative household 7

2.3 The representative firm 8

2.4 The government 9

2.5 Keynesian unemployment in the short run and in

the long run 10

2.6 Keynesian unemployment in the short run and

Walrasian equilibrium in the long run 13

2.7 Discussion 15

3 MONETARY MODELS 16

3.1 Cash in advance 17

3.2 Utility of real balances 20

4 CONCLUSIONS 26

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v i CONTENTS

2 Imperfect Competition and Open Economy Macroeconomics

Huw D. D i x o n

1 IN T R O D U C T IO N

2 A TW O -SEC TO R M O D E L O F A SM ALL O PEN

E C O N O M Y

2.1 H ouseholds

2.2 The export sector

2.3 The dom estic sector

2.4 Balance o f paym ents and nom inal national incom e

3 M A C R O EC O N O M IC E Q U IL IB R IU M

4 M A C R O EC O N O M IC PO L IC Y U N D E R A FIX E D

E X C H A N G E R A TE

4.1 M onetary policy

4.2 Fiscal policy

5 M A C R O E C O N O M IC PO LIC Y U N D E R A FL O A T IN G

E X C H A N G E RA TE

6 BA LA N CED T R A D E W IT H FR E E E N T R Y A N D E X IT O F

FIR M S

7 IN T R A -IN D U ST R Y T R A D E A N D E X C H A N G E RA TE

PA SS-T H R O U G H

7.1 D om estic sector equilibrium

7.2 N ational incom e

7.3 D evaluation and pass-through

8 C O N C L U SIO N

3 Relative Price Movements in Dynamic General

Equilibrium M odels of International Trade

D a v i d K. B a c k u s . P a t r i c k J. K e h o e , a n d F in n E. K y d l a n d

1 I N T R O D U C T I O N

2 F IR S T L O O K AT T H E D A T A F O R T H E T E R M S O F

TRADE. NET EX PO RTS, A N D REAL O U T P U T

3 A D Y N A M IC E X C H A N G E E C O N O M Y

3.1 C o n s u m e r b e h a v io r

3.2 Competitive equilibrium

3.3 M ovements of the terms of trade and net exports

4 P R E FE R E N C E FO R H O M E G O O D S

5 T H E M A R S H A L I - L E R N E R C O N D I T I O N A N D T H E

H A R B E R G E R -L A l'R S E N -M E T Z L E R EFFECT

5.1 A closer look at the M a rs h a ll- L e m e r co n d itio n

5.2 Revival of the H arberger-Laursen-M etzler effect

6 G O V E R N M E N T S P E N D IN G

7 TRADE A N D CAPITAL FO RM A TIO N

31

31

33

34

36

36

37

38

41

41

43

45

49

53

54

55

56

59

62

62

65

67

68

68

'0

7 3

'~V

s 1

S 3

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CONTENTS Vli

7.1 The theoretical two-country framework 84

7.2 Behavior of the terms of trade 85

7.3 Net exports and the terms of trade 88

8 FINAL THOUGHTS 91

APPENDIX 91

PART II CAPITAL TAXATION AND REAL MODELS 97

4 International Fiscal Policy Coordination and Competition

A ssaf R a z in a n d E fraim S a dk a 9 9

1 INTRODUCTION 99

2 PRINCIPLES OF INTERNATIONAL TAXATION 100

2.1 Capital income (direct) taxation 100

2.2 Commodity (indirect) taxation 102

3 OPTIMAL TAXATION AND CAPITAL MOVEMENTS 103

3.1 A stylized two-period model 104

3.2 Optimal fiscal policy 107

4 TAX COM PETITION AND TAX COORDINATION:

INTERNATIONAL PRICE-TAKING BEHAVIOR 107

5 EXTENSIONS: TERMS OF TRADE MANIPULATION

AND DISCRETIONARY POLICY 112

5 Capital Taxation in the World Economy

A . L a n s B o v en b er g 1 1 6

1 INTRODUCTION 116

2 IN TER TEM PO R A L EQUILIB RIUM O F A SMALL OPEN

ECONOM Y 120

2.1 Consumption and saving behavior 120

2.2 Production and investment 121

2.3 Governm ent 123

2.4 The model solution 123

3 A RESIDENCE-BASED TAX 123

3.1 The intergenerational distribution 124

3.2 Economy-wide consumption 125

3.3 Trade balance and net foreign assets 125

3.4 Neutralizing the effects on the intergenerational

distribution 12"

3.5 Neutralizing the intertemporal substitution effects 128

4 A SOURCE-BASED TAX 128

4.1 Investment and capital accumulation 128

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viii CONTENTS

4.3 C onsum ption and saving 131

4.4 T rade balance and net foreign assets 133

4.5 N eutralizing the effects on the intergenerational

distribution 133

4.6 N eutralizing the effects on the required return

on new investm ent 134

5 C O N C LU SIO N S A N D SU G G E ST IO N S F O R F U T U R E

R ESEA RCH 134

A PPE N D IX 1: T he investm ent system 138

A PPE N D IX 2: T he saving system 140

A PPE N D IX 3: W elfare analysis o f the residence-based tax 143

PART III INTERNATIONAL MONETARY REGIMES 151

6 History of the International Monetary System: Implications

for Research in International Macroeconomics and Finance

B a r r y E i c h e n g r e e n 153

1 IN T R O D U C T IO N 153

2 H IST O R IC A L O V ER V IEW 154

2.1 The classical gold standard 154

2.2 The interw ar years 158

2.3 B retton W oods and its afterm ath 165

3 STA TISTICA L O V ERV IEW 168

3.1 T he volatility o f gross dom estic product 169

3.2 Cross-country correlations 172

3.3 Interwar comparisons 175

3.4 Com ponents of national income 179

4 IM PLIC A TIO N S F O R R ESEA R C H 182

7 O n Inflation, Unemployment, and the O ptim al Exchange

Rate Regime

G f o p g f Alogoskoi fis 192

1 I N T R O D U C T I O N 192

2 A S IM P L E O P E N E C O N O M Y M A C R O M O D E L ! 96

2.1 T he supply side 197

2.2 The dem and side 1 9 S

3 M O N E T A R Y V E R S U S E X C H A N G E R A T E T A R G E T S '.99

3.1 A fixed rate o f grow th for the m o n e y supply .9 9

3.2 A fixed n o m in a l exchange rate 2 0!

3.3 Monetary versus exchange rate targets 201

4 O P T I M A L E X C H A N G E R A T E M A N A G E M E N T 2' -

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CONTENTS IX

4.1 Optimal exchange rate management with an

efficient “natural” rate 204

4.2 Optimal exchange market intervention under

uncertainty 206

4.3 Optimal exchange rate management with an

inefficient “natural” rate 208

4.4 Fixed versus managed exchange rates 210

4.5 Credibility and regime changes 212

EXCHANGE RATE REGIMES IN INTERDEPENDENT

ECONOMIES 215

CONCLUSIONS 217

8 Macroeconomic Policy, Speculative Attacks, and

Balance of Payments Crises

P i e r r e - R ic h a r d A g ê n o r a n d R o b e r t P . F l o o d 224

1 INTRODUCTION 224

2 A BASIC FRAMEWORK 225

2.1 A model of a small open economy 225

2.2 The shadow floating exchange rate 227

2.3 Date of speculative attack 228

3 EXTENSIONS TO THE BASIC FRAMEWORK 231

3.1 Alternative post-collapse regimes 231

3.2 Uncertainty and the timing of speculative attacks 232

3.3 Imperfect substitutability and sticky prices 235

3.4 Real effects of an anticipated collapse 236

3.5 Borrowing, controls, and the postponement of a crisis 237

3.6 Policv switches and the avoidance of a collapse 240

4 SOME RESEARCH PERSPECTIVES 242

4.1 State space methods 242

4.2 Reputation as a deterrent to speculative attacks 243

5 CO N CLU SIO N S 244

9 Continuous-time Models of Exchange Rates and Intervention

G iu s e p p e Be RTOLA 251

1 IN T R O D U C T IO N 251

2 C ER TA IN TY 252

2.1 Integration 252

2.2 Money demand and arbitrage-free equilibrium 256

3 U N C E R T A IN T Y 262

3.1 Stochastic processes 263

3.2 Economic interpretation 273

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X CONTENTS

4 TA R G ET ZO N ES A N D R E G IM E SW ITCH ES 275

4.1 T he basic target zone m odel 276

4.2 Im plications 279

4.3 Interventions and realignm ents 280

4.4 Reserves and other state variables 282

4.5 Different driving processes 284

4.6 Different equilibrium conditions 285

4.7 Bubbles and indeterm inacies 288

5 IN T E R V E N T IO N S IN EX C H A N G E RA TES A N D O T H E R

C O N TEX TS 289

PART IV CAPITAL MARKETS, MONEY, AND

EXCHANGE RATES 299

10 Partial Equilibrium versus General Equilibrium

Models of the International Capital Market

B e r n a r d D u m a s 301

1 IN T R O D U C T IO N 301

2 T H E STY LIZED FA CTS 304

3 IN T E R N A T IO N A L C A PITA L ASSET P R IC IN G M O D ELS

A N D U N C O V E R E D IN T E R E ST RA TE P A R IT Y 305

3.1 H eterogeneity created by consum ption goods

prices: the international capital asset pricing m odel 305

3.2 Portfolio holdings in equilibrium 310

3.3 The lessons o f international portfolio theory 312

3.4 O ther capital asset pricing m odels applicable to

international returns 314

4 C O M P A R IN G E M P IR IC A L M E T H O D S 316

4.1 Constant risk prem ia 316

4.2 Instrumental variables 317

4.3 Latent variables models 321

4.4 The arbitrage pricing theory and multi-factor

capital asset pricing models 323

4.5 Autoregressive conditional heteroskedasticity 325

4.6 The full conditional version o f the capital asset

pricing model 326

4.7 Implied pricing kernels 328

4.8 Conclusion: what have we learned from empirical

capital asset pricing models? "28

5 G E N E R A L E Q U I L IB R I U M M O D E L S W I T H O U T M O N E 'i -0

5.1 T h e difficulty w ith general e q u ilib riu m m o d e ls "■'0

5.2 General equilibrium models without frictions

5.3 General equilibrium models with frictions

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CONTENTS XI

6 ISSUES AND CONCLUSIONS REGARDING GENERAL

EQUILIBRIUM MODELS 335

11 Stylized Facts of Nominal Exchange Rate Returns

C a s p e r G. d e V r ie s 348

1 MOTIVATION 348

2 EMPIRICAL REGULARITIES 350

2.1 No-arbitrage conditions 350

2.2 Statistical regularities 356

2.3 Artifacts 360

3 THEORY 365

3.1 Arbitrage and unit roots 365

3.2 The unconditional distribution function and extreme

value theory 374

3.3 The conditional distribution function 379

12 Currency Substitution

A l b e r t o G io v a n n in i a n d B a r t T u r t e lb o o m 390

1 INTRODUCTION 390

2 THEORETICAL MODELS 394

2.1 Cash-in-advance models 394

2.2 Transactions costs models 398

2.3 Implications of currency substitutability 402

3 EMPIRICAL EVIDENCE 404

3.1 A first glance 404

3.2 Econometrics 411

3.3 Parameter estimates 417

4 POLICY QUESTIONS 418

5 C O N C L U D IN G OBSERVATIONS 424

PART V DEBT, DEFICITS, AND GROWTH 437

13 Sovereign Immunity and International Lending

K e n n e t h M. K l e t z e r 439

1 IN T R O D U C T IO N 439

2 R E P A Y M E N T INCENTIVES AN D SOVEREIGN

BORRO W IN G 441

3 P OTEN TIA L R EPU D IA T IO N AND WILLINGNESS TO

REPAY 443

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xiv CONTENTS

5.2 Loose budgetary policy stances destroy global

grow th prospects 557

5.3 External debt and governm ent debt 561

5.4 Budgetary policies, interest rates, and adjustm ent

costs for investm ent 562

5.5 D ivergence in grow th rates 564

6 R ESEA RCH A N D D EV ELO PM EN T: AN E N G IN E O F

G R O W T H 565

6.1 Expanding product variety 565

6.2 Knowledge spillovers, redundancy, and

international trade 569

7 IN V ESTM EN T A N D T R A D E -P R O M O T IN G PO LIC Y 571

7.1 M onopoly pow er, public policy, and grow th 571

7.2 T rade an d econom ic integration 572

7.3 Increasing returns and international com petition 573

7.4 Political econom y o f grow th 574

8 C O N C L U D IN G R EM A R K S 575

IN D E X 580

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List of Figures

1.1 Equilibrium in the Keynesian-Keynesian regime 11

1.2 Equilibrium in the Keynesian-Walrasian regime 14

1.3 Equilibrium in the two-country model 26

2.1 Imperfect competition and Pareto-improving monetary

policy 43

2.2 Equilibrium consumption with balanced trade 47

2.3 Pass-through in the very short run 57

3.1 S-curves in the data: (a) Japan; (b) UK; (c) USA 72

3.2 Variability of the terms of trade 86

3.3 The trade balance and terms of trade 88

3.4 Cross-correlation function for the benchmark economy 89

3.5 Dynamic responses to a domestic productivity shock 90

5.1 Source-based taxation and consumption 131

6.1 Exchange rates 157

6.2 Exchange rates 158

6.3 Wholesale price index 159

6.4 Money supply 160

6.5 Industrial production 161

6.6 Long-term interest rates 162

6.7 Short-term interest rates 163

6.8 Variability of gross domestic product under different

exchange rate regimes: (a), (b) standard deviation of

gross domestic product, first-difference filter; (c), (d)

standard deviation of gross domestic product.

linear filter 170

6.9 Cross-country correlations of gross domestic product

under different exchange rate regimes: (a) correlation of

gross domestic product with USA, first-difference filter:

(b) correlation of gross domestic product with USA. linear Số hóa bởi Trung tâm Học liệu – ĐH TN http://www.lrc-tnu.edu.vn

x v i LIST OF FIGURES

filter; (c) correlation o f gross dom estic product w ith U K ,

first-difference filter; (d) correlation o f gross dom estic

product w ith U K , linear filter

6.10 V ariability o f gross dom estic product u n d er different

interw ar exchange rate regimes: (a), (b) standard

deviation o f gross dom estic product, first-difference

filter; (c), (d) standard deviation o f gross

dom estic product, linear filter

6.11 C ross-country correlations o f gross dom estic product

under different interw ar exchange rate regim es; (a),

(b) correlation o f gross dom estic product w ith

USA, first-difference filter; (c), (d) correlation o f gross

dom estic product w ith USA, linear filter

6.12 S tandard deviations and cross-country correlations o f

governm ent spending ratios: (a), (b) stan d ard deviation

o f governm ent spending ratio; (c) correlation o f

governm ent spending ratio w ith USA; (d) correlation o f

governm ent spending ratio w ith U K

8.1 The process o f balance o f paym ents crisis

9.1 A regime switch u n d er certainty

9.2 A bsorption u n d er uncertainty

9.3 Reflection un d er uncertainty

9.4 T he basic target-zone m odel

10.1 Sam ple estim ates o f first-order autocorrelations o f

TV-month real returns (continuously com pounded)

on the equally w eighted N ew Y ork

Stock Exchange portfolio

10.2 R 2 values in regressions o f V -m onth real returns

(continuously com pounded) on the equally weighted

New Y ork Stock Exchange portfolio on three predictive

variables (the Baa yield minus the Aaa yield, the Aaa

yield minus the T-bill yield, and

the dividend-price ratio)

10.3 The function In p(to)

10.4 Sample path of the real exchange rate

12.1 T h e pro b lem o f m ultiple exchange rate equilibria

12.2 Foreign currency deposits

12.3 Dollarization and macroeconomic instability in Latin

America: (a) Mexico; (b) Peru; (c) Bolivia; (d) Uruguay

12.4 Dollar deposits in Latin America: (a) Mexico;

(b) Uruguay; (c) Peru

12.5 Currency substitution during the Russian hyperinflation.

1921-4 ’

12.6 Cross-border deposits in the European nm m nnit,,

174

176

178

180

230

254

270

271

278

318

319

333

334

397

405

406

407

409

1 1 f*

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xvii

412

419

502

509

514

516

519

519

543

545

558

563

UST OF FIGURES

Deviation between M2 and extended monetary

aggregates: (a) UK; (b) France; (c) Germany; (d) Italy

Residuals of standard money demand equations:

(a) USA; (b) Canada; (c) Germany; (d) Japan

As z* is increased (corresponding to a larger A) the

tangency point shifts towards the northeast: the country

invests more and pays more

Saving and consumption in the two-period model

Saving and consumption with overlapping generations

of infinitely lived households: (a) S> r\ (b) r> S

Investment and adjustment costs

Dynamics of the real exchange rate if the traded sector

is more capital intensive

Dynamics of the real exchange rate if the nontraded

sector is more capital intensive

Classical growth and overlapping generations

Budget deficits and foreign debt

Overlapping generations and endogenous growth

Real interest rates and growth rates

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