Flush with cash
What's So Funny about Making Monetary Policy?
Kevin Capehart
Economic Inquiry, forthcoming
Abstract:
During their meetings, the members of the Federal Open Market Committee (FOMC) make monetary policy, but they also make each other laugh. This article studies the amount of laughter elicited by members of the FOMC during their meetings. The study finds that a member elicits more laughter if he or she expects higher inflation, other things being equal. This finding suggests that members may use humor to cope with the threat of inflation.
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Economics versus Politics: Pitfalls of Policy Advice
Daron Acemoglu & James Robinson
NBER Working Paper, March 2013
Abstract:
The standard approach to policy-making and advice in economics implicitly or explicitly ignores politics and political economy, and maintains that if possible, any market failure should be rapidly removed. This essay explains why this conclusion may be incorrect; because it ignores politics, this approach is oblivious to the impact of the removal of market failures on future political equilibria and economic efficiency, which can be deleterious. We first outline a simple framework for the study of the impact of current economic policies on future political equilibria and indirectly on future economic outcomes. We then illustrate the mechanisms through which such impacts might operate using a series of examples. The main message is that sound economic policy should be based on a careful analysis of political economy and should factor in its influence on future political equilibria.
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The Missing Wealth of Nations: Are Europe and the U.S. net Debtors or net Creditors?
Gabriel Zucman
Quarterly Journal of Economics, forthcoming
Abstract:
This paper shows that official statistics substantially underestimate the net foreign asset positions of rich countries because they fail to capture most of the assets held by households in offshore tax havens. Drawing on a unique Swiss dataset and exploiting systematic anomalies in countries' portfolio investment positions, I find that around 8% of the global financial wealth of households is held in tax havens, three-quarters of which goes unrecorded. On the basis of plausible assumptions, accounting for unrecorded assets turns the eurozone, officially the world's second largest net debtor, into a net creditor. It also reduces the U.S. net debt significantly. The results shed new light on global imbalances and challenge the widespread view that, after a decade of poor-to-rich capital flows, external assets are now in poor countries and debts in rich countries. I provide concrete proposals to improve international statistics.
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Government efficiency, institutions, and the effects of fiscal consolidation on public debt
Freddy Heylen, Annelies Hoebeeck & Tim Buyse
European Journal of Political Economy, forthcoming
Abstract:
We study the evolution of the ratio of public debt to GDP during 132 fiscal episodes in 21 OECD countries in 1981-2008. Our main focus is on debt dynamics during 40 consolidation periods. To define these periods we use data on the evolution of the underlying cyclically adjusted primary balance, and as such avoid biases that may be induced by one-off budgetary measures. The paper brings new evidence on the role of public sector efficiency for the success of fiscal consolidation. First, we confirm that consolidation programmes imply a stronger reduction of the public debt ratio when they rely mainly on spending cuts, except public investment. Government wage bill cuts, however, only contribute to lower public debt ratios when public sector efficiency is low. Second, we find that a given consolidation programme will be more effective in bringing down debt when it is adopted by a more efficient government apparatus. Third, more efficient governments adopt consolidation programmes of better composition. As to other institutions, consolidation policies are more successful when they are accompanied by product market deregulation, and when they are adopted by left-wing governments. By contrast, simultaneous labour market deregulation may be counterproductive during consolidation periods.
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Household Leveraging and Deleveraging
Alejandro Justiniano, Giorgio Primiceri & Andrea Tambalotti
NBER Working Paper, April 2013
Abstract:
U.S. households' debt skyrocketed between 2000 and 2007, and has been falling since. This leveraging (and deleveraging) cycle cannot be accounted for by the liberalization, and subsequent tightening, of credit standards in mortgage markets observed during the same period. We base this conclusion on a quantitative dynamic general equilibrium model calibrated using macroeconomic aggregates and microeconomic data from the Survey of Consumer Finances. From the perspective of the model, the credit cycle is more likely due to factors that impacted house prices more directly, thus affecting the availability of credit through a collateral channel. In either case, the macroeconomic consequences of leveraging and deleveraging are relatively minor, because the responses of borrowers and lenders roughly wash out in the aggregate.
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Does High Public Debt Consistently Stifle Economic Growth? A Critique of Reinhart and Rogoff
Thomas Herndon, Michael Ash & Robert Pollin
University of Massachusetts Working Paper, April 2013
Abstract:
We replicate Reinhart and Rogoff (2010a and 2010b) and find that coding errors, selective exclusion of available data, and unconventional weighting of summary statistics lead to serious errors that inaccurately represent the relationship between public debt and GDP growth among 20 advanced economies in the post-war period. Our finding is that when properly calculated, the average real GDP growth rate for countries carrying a public-debt-to-GDP ratio of over 90 percent is actually 2.2 percent, not 0:1 percent as published in Reinhart and Rogoff. That is, contrary to RR, average GDP growth at public debt/GDP ratios over 90 percent is not dramatically different than when debt/GDP ratios are lower. We also show how the relationship between public debt and GDP growth varies significantly by time period and country. Overall, the evidence we review contradicts Reinhart and Rogoff's claim to have identified an important stylized fact, that public debt loads greater than 90 percent of GDP consistently reduce GDP growth.
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Capital Tax Reform and the Real Economy: The Effects of the 2003 Dividend Tax Cut
Danny Yagan
University of California Working Paper, January 2013
Abstract:
Policymakers frequently propose to use capital tax reform to stimulate investment and increase labor earnings. This paper tests for such real impacts of the 2003 dividend tax cut -- one of the largest reforms ever to a U.S. capital tax rate -- using a quasi-experimental design and a large sample of U.S. corporate tax returns from years 1996-2008. I estimate that the tax cut caused zero change in corporate investment, with an upper bound elasticity with respect to one minus the top statutory tax rate of .08 and an upper bound effect size of .03 standard deviations. This null result is robust across specifications, samples, and investment measures. I similarly find no impact on employee compensation. The lack of detectable real effects contrasts with an immediate impact on financial payouts to shareholders. Economically, the findings challenge leading estimates of the cost-of-capital elasticity of investment, or undermine models in which dividend tax reforms affect the cost of capital. Either way, it may be difficult for policymakers to implement an alternative dividend tax cut that has substantially larger near-term effects.
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Shanthi Ramnath
Journal of Public Economics, May 2013, Pages 77-93
Abstract:
This paper uses the Saver's Credit to analyze taxpayers' understanding of, and responses to, tax incentives. The Saver's Credit is a tax credit designed to encourage retirement savings among low and middle income households; however, the credit's structure creates "notches", or discontinuous jumps, within a household's budget constraint. These notches provide an incentive to manipulate adjusted gross income to fall just below the level where the credit decreases. I use Public Use Tax Files from the Internal Revenue Service to test whether taxpayers bunch their income at the notch created by the Saver's Credit. I find strong evidence that bunching occurred in response to the credit, which implies that taxpayers claiming the credit understood the incentives for bunching and indeed manipulated their incomes accordingly. I then exploit the discontinuity in credit rates to analyze the credit's impact on retirement contribution behavior using a regression discontinuity approach, and find thatthe credit failed to generate a statistically significant effect on the level of retirement contributions. These results imply that the Saver's Credit is more effective at providing transfers to low and middle income taxpayers than at increasing retirement contributions.
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Efficient government size: France in the 20th century
François Facchini & Mickaël Melki
European Journal of Political Economy, September 2013, Pages 1-14
Abstract:
The benefits and costs of government suggest an efficient government size. We investigate efficient government size by analysing the relation between public spending and real GDP for France in the period 1896-2008. The results show a co-integration nonlinear relationship. Our time-series data on France represents one of the longest periods studied in literature. Our empirical findings suggest that efficient government size measured by public spending was reached when public spending was around 30% of GDP. Conclusions point to particularities of countries that suggest efficient government size is specific to different countries.
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Finance: Function Matters, not Size
John Cochrane
NBER Working Paper, April 2013
Abstract:
I address the controversy over whether the financial services industry is "too big." We should be asking whether the finance industry is functioning properly instead. The facts suggest that demand for financial services increased, perhaps temporarily, rather than suggesting a changing distortion within the industry. The puzzling persistence of actively managed mutual funds is finally yielding to supply and demand analysis, but the increasing preference for high-fee delegated management by sophisticated institutional investors remains somewhat of a puzzle. Conventional alpha-beta analysis does not capture the rich structure of risk premiums, which active management may be accessing. High-frequency information trading and the price-discovery process remain a puzzle as well. Many "inefficiencies" and events of the financial crisis suggest too little rather than too much active trading. The instability and regulation of the US financial system are more important issues than its mere size.
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Tracing the Link between Government Size and Growth: The Role of Public Sector Quality
Daniel Oto-Peralías & Diego Romero-Ávila
Kyklos, May 2013, Pages 229-255
Abstract:
This paper shows evidence of strong heterogeneity in the relationship between government size and growth, depending on the quality of public sector institutions. Focusing on a wide sample of developed and developing countries over the period 1981-2005, we find that government size reduces growth when bureaucracy quality is low, whereas no significant effect is observed for sufficiently high levels of bureaucracy quality. The results hold both in cross-section and panel data analyses and are robust to a large number of robustness checks. These findings have important implications for assessing the role of government size in economic growth.
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Banking Crises: An Equal Opportunity Menace
Carmen Reinhart & Kenneth Rogoff
Journal of Banking & Finance, forthcoming
Abstract:
The historical frequency of banking crises is similar in advanced and developing countries, with quantitative parallels in both the run-ups and the aftermath. We establish these regularities using a dataset spanning from the early 1800s to the present. Banking crises weaken fiscal positions, with government revenues invariably contracting. Three years after a crisis central government debt increases by about 86 percent. The fiscal burden of banking crisis extends beyond the cost of the bailouts. We find that systemic banking crises are typically preceded by asset price bubbles, large capital inflows and credit booms, in rich and poor countries alike.
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Shifting Mandates: The Federal Reserve's First Centennial
Carmen Reinhart & Kenneth Rogoff
NBER Working Paper, March 2013
Abstract:
The mandate of the Federal Reserve has evolved considerably over its hundred-year history. From an initial focus in 1913 on financial stability, to fiscal financing in World War II and its aftermath, to a strong anti-inflation focus from the late 1970s, and then back to greater emphasis on financial stability since the Great Contraction. Yet, as the Fed's mandate has expanded in recent years, its range of instruments has narrowed, partly based on a misguided belief in the inherent stability of financial markets. We briefly discuss the active use in an earlier era of multiple instruments, including reserve requirements, credit controls and interest rate ceilings.
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Uncertainty and Economic Activity: Evidence from Business Survey Data
Rüdiger Bachmann, Steffen Elstner & Eric Sims
American Economic Journal: Macroeconomics, April 2013, Pages 217-249
Abstract:
This paper uses survey expectations data to construct empirical proxies for time-varying business-level uncertainty. Access to the micro data from the German IFO Business Climate Survey permits construction of uncertainty measures based on both ex ante disagreement and ex post forecast errors. Ex ante disagreement is strongly correlated with dispersion in ex post forecast errors. Surprise movements in either measure lead to significant reductions in production that abate fairly quickly. We extend our analysis to US data, measuring uncertainty with forecast disagreement from the Business Outlook Survey. Surprise increases in forecast dispersion lead to more persistent reductions in production than in the German data.
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Soft information and economic activity: Evidence from the Beige Book
Shibley Sadique et al.
Journal of Macroeconomics, forthcoming
Abstract:
This study employs text-analysis software to analyze the contents of the Federal Reserve Beige Book summary of national economic and business conditions, with a particular focus on the predictive content of the text. We show that the Beige Book language is a good predictor of economic turning points as it often provides an early indication of future economic activities. During economic upswings, positive tone becomes more prominent and negative tone becomes less prominent. In addition, this study is the first to document that Beige Book tone affects stock market volatility and trading volume.
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The value of honesty: Empirical estimates from the case of the missing children
Sara LaLumia & James Sallee
International Tax and Public Finance, April 2013, Pages 192-224
Abstract:
How much are people willing to forego to be honest, to follow the rules? When people do break the rules, what can standard data sources tell us about their behavior? Standard economic models of crime typically assume that individuals are indifferent to dishonesty, so that they will cheat or lie as long as the expected pecuniary benefits exceed the expected costs of being caught and punished. We investigate this presumption by studying the response to a change in tax reporting rules that made it much more difficult for taxpayers to evade taxes by inappropriately claiming additional dependents. The policy reform induced a substantial reduction in the number of dependents claimed, which indicates that many filers had been cheating before the reform. Yet, the number of filers who availed themselves of this evasion opportunity is dwarfed by the number of filers who passed up substantial tax savings by not claiming extra dependents. By declining the opportunity to cheat, these taxpayers reveal information about their willingness to pay to be honest. In our analysis, we develop a novel method for inferring the characteristics of taxpayers in the absence of audit data. Our findings indicate both that this willingness to pay to be honest is large on average and that it varies significantly across the population of taxpayers.
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Are Household Surveys Like Tax Forms? Evidence from Income Underreporting of the Self-Employed
Erik Hurst, Geng Li & Benjamin Pugsley
Review of Economics and Statistics, forthcoming
Abstract:
There is a large literature showing that the self-employed underreport their income to tax authorities. In this paper, we quantify the extent to which the self-employed also systematically underreport their income in U.S. household surveys. We use the Engel curve describing the relationship between income and expenditures of wage and salary workers to infer the actual income, and thus the reporting gap, of the self-employed based on their reported expenditures. On average, the self-employed underreport their income by about 25 percent. We show that failing to account for such income underreporting leads to biased conclusions in a variety of settings.
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The End Of Bank Secrecy? An Evaluation Of The G20 Tax Haven Crackdown
Niels Johannesen & Gabriel Zucman
American Economic Journal: Economic Policy, forthcoming
Abstract:
During the financial crisis, G20 countries compelled tax havens to sign bilateral treaties providing for exchange of bank information. Policymakers have celebrated this global initiative as the end of bank secrecy. Exploiting a unique panel dataset, our study is the first attempt to assess how the treaties affected bank deposits in tax havens. Rather than repatriating funds, our results suggest that tax evaders shifted deposits to havens not covered by a treaty with their home country. The crackdown thus caused a relocation of deposits at the benefit of the least compliant havens. We discuss the policy implications of these findings.
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Do private sector forecasters chase after IMF or OECD forecasts?
Michael Frenkel, Jan-Christoph Rülke & Lilli Zimmermann
Journal of Macroeconomics, forthcoming
Abstract:
In this paper we use data from the Consensus Economics forecast poll to explore the strategic behavior of private sector forecasters with respect to forecasts published by the IMF and the OECD. We focus on four key macroeconomic variables for the G7 countries to analyze whether private sector forecasters herd towards the projections published by these international organizations. Our empirical results show that an anti-herding strategy of private sector forecasters is prevalent for the G7 countries, i.e. they intentionally place their forecasts away from the forecasts published by the IMF and the OECD. In addition, we find that the strategic behavior of private sector forecasters lasts roughly three months.