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Financial Liberalisation, Consumption and Wealth Effects in Seven OECD Countries

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We estimate the impact of financial liberalisation on consumption in seven major industrial countries, and find a marked shift in behaviour, notably a decline in short-run income elasticities and a rise in short-run wealth and interest rate elasticities. A corollary is that consumption equations estimated over both pre- and post-liberalisation regimes may be misleading, and either a form of testing as presented here or a shortening of the sample period may be appropriate for accurate forecasting and simulation.

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... We presume that consumption is determined by forward looking behaviour in the long term, but short term adjustment depends upon a number of factors. As Barrell and Davis (2007) show, changes in financial (dlnNW) and especially housing wealth (dlnHW) will affect consumption (C) 11 . Their estimates suggest the impact of changes in housing wealth have five times the impact of changes in financial wealth in the short run. ...
... Their estimates suggest the impact of changes in housing wealth have five times the impact of changes in financial wealth in the short run. Barrell and Davis (2007) also show that adjustment to the long run equilibrium shows some inertia as well. Al Eyd and Barrell (2005) discuss borrowing constraints, and investigate the role of changes in the number of borrowing constrained households. ...
... We should note that permanent income, PI, is a forward looking variable. The logarithmic approximation is explained in Barrell and Davis (2007). ...
... With respect to the ECM, a highly statistically significant γ parameter would be consistent with the cointegrating relation in the long-run vector. Typically, the absolute value of the t-statistic for the γ parameter is expected to be > 3 (Banerjee et al. 1993;Al-Eyd et al. 2006;Barrell and Davis 2007). Note that wealth variables are lagged by one period in the short and long run as they reflect stocks as of the end of the period. ...
... Hence, current consumption is assumed to be dependent on the stock of financial and non-financial wealth as recorded in the previous quarter. This approach is also applied in several other studies (Lettau and Ludvigson 2001;Barrell and Davis 2007;Sousa 2009Sousa , 2010bEstrada et al. 2014). ...
... To ensure long-run homogeneity, the longrun parameters for income and wealth components are restricted to sum up to 1. This approach has also been applied by others (Barrell and Davis 2007;Estrada et al. 2014). ...
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This study develops a thick modelling tool for real private consumption, with a conditional forecasting application to the euro area. Several equations from thousands of error correction models, always including labour income, non-labour income, financial wealth and non-financial wealth as determinants, are selected from predetermined in-sample and out-of-sample criteria. Our thick model estimates show that income effects differ between labour and non-labour income and that their (relative) importance varies over time. This implies that labour and non-labour income should both be on the radar of policy makers and modellers.
... As Barrell and Davis (2007) show, both the level of total asset based wealth (ln(TAW) or ln(NW+HW)) and changes in financial (dln(NW)) and especially housing wealth (dln(HW)) will affect consumption (C). 4 Their estimates suggest that the impact of changes in housing wealth have five times the impact of changes in financial wealth in the short run, although long-run effects are the same. Barrell and Davis (2007) also show that adjustment to the long-run equilibrium shows some inertia as well. ...
... As Barrell and Davis (2007) show, both the level of total asset based wealth (ln(TAW) or ln(NW+HW)) and changes in financial (dln(NW)) and especially housing wealth (dln(HW)) will affect consumption (C). 4 Their estimates suggest that the impact of changes in housing wealth have five times the impact of changes in financial wealth in the short run, although long-run effects are the same. Barrell and Davis (2007) also show that adjustment to the long-run equilibrium shows some inertia as well. Al Eyd and Barrell (2005) discuss borrowing constraints, and investigate the role of changes in the number of borrowing constrained households. ...
... where the long-run relationship between ln(C) and ln(RPDI) and ln(TAW) determine the equilibrium savings rate, and this relationship forms the long-run attractor in an equilibrium correction relationship. The logarithmic approximation is explained in Barrell and Davis (2007). ...
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OECD Journal: Economic Studies publishes articles in the area of economic policy analysis, applied economics and statistical analysis, generally with an international or cross-country dimension. It draws significantly on economic papers produced by the OECD Economics Department, other parts of the OECD Secretariat and the Organisation’s intergovernmental committees. We also welcome comments on articles previously published in the Journal.
... As Barrell and Davis (2007) show, both the level of total asset based wealth (ln(TAW) or ln(NW+HW)) and changes in financial (dln(NW)) and especially housing wealth (dln(HW)) will affect consumption (C). 4 Their estimates suggest that the impact of changes in housing wealth have five times the impact of changes in financial wealth in the short run, although long-run effects are the same. Barrell and Davis (2007) also show that adjustment to the long-run equilibrium shows some inertia as well. ...
... As Barrell and Davis (2007) show, both the level of total asset based wealth (ln(TAW) or ln(NW+HW)) and changes in financial (dln(NW)) and especially housing wealth (dln(HW)) will affect consumption (C). 4 Their estimates suggest that the impact of changes in housing wealth have five times the impact of changes in financial wealth in the short run, although long-run effects are the same. Barrell and Davis (2007) also show that adjustment to the long-run equilibrium shows some inertia as well. Al Eyd and Barrell (2005) discuss borrowing constraints, and investigate the role of changes in the number of borrowing constrained households. ...
... where the long-run relationship between ln(C) and ln(RPDI) and ln(TAW) determine the equilibrium savings rate, and this relationship forms the long-run attractor in an equilibrium correction relationship. The logarithmic approximation is explained in Barrell and Davis (2007). ...
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This paper looks at various aspects of fiscal consolidation in 18 OECD economies. The prospects for fiscal consolidation depend upon the problems the country may face with its debt stock, the political will to deal with these problems and on the costs of consolidation. The analysis is based on a series of simulations using the National Institute Global Econometric Model, NiGEM. The properties of the NiGEM model are discussed first. Although the model is estimated it has a strong role for expectations and can be run under different modes of expectations formation. This allows a decomposition of the factors that might affect the results. Temporary and permanent shifts in fiscal policy are assessed as well as the potential impact of fiscal consolidation plans under different monetary and fiscal feedback rules and different modes of expectations formation. If fiscal policy is expected to be tightened in the future, then long rates will fall now, and perhaps even induce a short-term expansion of output. Expansionary fiscal contractions of this sort are rare, however, and none are anticipated with the programmes that are investigated.Consolidation budgétaire : Partie 2. Multiplicateurs budgétaires et assainissement des finances publiquesCe document examine divers aspects de l’assainissement des finances publiques dans 18 pays de l’OCDE. Le potentiel de consolidation budgétaire dépend du montant de la dette d’un pays et des problèmes qui peuvent en résulter, de la volonté politique de traiter ces problèmes et des coûts du redressement. L’analyse s’appuie sur un ensemble de simulations fondées sur le modèle économétrique mondial de l'Institut de recherche économique et sociale du Royaume-Uni (NiGEM). Les auteurs examinent en premier lieu les caractéristiques du modèle NiGEM. Même si ce modèle procède par estimation, il conditionne fortement les anticipations et peut être appliqué à différents modes de formation des anticipations. Cela permet de décomposer les facteurs susceptibles d’influer sur les résultats. Les auteurs évaluent ensuite les modifications temporaires et permanentes de la politique budgétaire, ainsi que l’impact potentiel des plans de redressement budgétaire selon différentes règles de rétroaction budgétaire et monétaire et différents modes de formation des anticipations. Si l’on s’attend à un durcissement de la politique budgétaire à l’avenir, les taux longs baisseront immédiatement, ce qui pourrait même induire une expansion à court terme de la production. Néanmoins, les contractions budgétaires expansionnistes de ce type sont exceptionnellement rares, et les programmes étudiés n’en prévoient aucune.
... Interpreting this in the light of increasing financial liberalization, this points towards decreasing additional constraints. Barrell and Davis (2007) look at consumption patterns in the G7 countries taking account of a financial liberalization indicator provided by the OECD. ...
... The studies so far focus on a sample of countries. Barrell and Davis (2007) also review the literature that focuses on single countries where mixed evidence is to be found. The general tendency that can be found is that the results are in favour of the role of additional constraints for the U.S., UK and Canada but not so much for continental Europe. ...
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This document reviews the literature on the relationship between financial markets and the real economy. In the light of the recent financial crises, we focus on channels that are likely to be important in times of financial stress. Some channels are governed by balance sheet effects like the Financial Accelerator and the Bank Lending Channel. We discuss the significance of these channels in the light of empirical evidence and try to extract their quantitative importance from the literature. Both channels seem to have played an important role in the aftermath of the crisis.Further, we discuss the role of trade finance in the collapse in world trade following the financial crisis 2007-2009. While finance is important for trade, the literature is not conclusive on whether finance was also the reason for the observed collapse.Naturally, risk is important during a financial crisis. Taking a look at risk channels, we find risk also to play an important role in feedback loops between finance and the real economy. The theoretical and empirical evidence found in the literature appears to be useful in explaining the severe and long-lasting effects of the recent financial crisis.
... Indeed, Rudd and Whelan (2006) do not find any cointegrating vector for the US. Muellbauer (2008) and Barrell and Davis (2007) insist on the fact that the estimation of wealth effects may be biased by omitted variables. These previous studies lead us to carefully assess the robustness of our results, both over time and by controlling for omitted variables. ...
... In a life-cycle permanent income model for a single representative agent where the future relative price of housing is expected to be constant.3 In a more developed framework, such as the general equilibrium model where there is no life-cycle-related effects on the demand for housing service (the Yaari-Blanchard overlapping generations model).4 ...
Article
This paper studies the relationship between consumption and assets wealth based on the concept of cointegration. The analysis focuses on French data on the 1987 to 2006 period. This relationship is expressed in two ways: Marginal Propensity to Consume approach and Elasticity approach. Three concepts of consumption are investigated: Total households expenditure, excluding financial services consumption and excluding durable goods consumption. In addition different estimators are considered. Based on the MPC approach, an increase (decrease) of total wealth considered as permanent by households of one euro would lead to an increase (decrease) of 1 cent in total consumption. An increase (decrease) of 100% in wealth would imply also a relatively small impact of 8 to 11% on consumption depending on the concept of consumption considered. In most cases, the effect of a change in financial wealth is bigger than of a change in housing wealth. The results indicate that the wealth effects in France are smaller than in the UK and US ones but close to what is observed in Italy. In addition, any deviations of the variables from their common trends are corrected at first by adjustments in disposable income in line with what has been uncovered by studies on Germany and consistent with the "saving for the rainy days" approach of Campbell (1987) but in contrast to the seminal study of Lettau and Ludvigson (2004) where asset prices make the bulk of the adjustment.
... Indeed, Rudd and Whelan (2006) do not find any cointegrating vector for the US. Muellbauer (2008) and Barrell and Davis (2007) insist on the fact that the estimation of wealth effects may be biased by omitted variables. These previous studies lead us to carefully assess the robustness of our results, both over time and by controlling for omitted variables. ...
... In a life-cycle permanent income model for a single representative agent where the future relative price of housing is expected to be constant.3 In a more developed framework, such as the general equilibrium model where there is no life-cycle-related effects on the demand for housing service (the Yaari-Blanchard overlapping generations model).4 ...
Article
This paper studies the relationship between consumption and wealth based on the concept of cointegration. The analysis focuses on French data over the 1987 - 2006 period. This relationship is expressed in two ways: in terms of Marginal Propensity to Consume out of wealth (MPC) and in terms of Elasticity of consumption to wealth. Three concepts of consumption are investigated: total households consumption expenditure, consumption excluding financial services and consumption excluding durable goods. Different estimators are also considered. Based on the MPC approach, when considered as permanent by households, an increase (decrease) in total wealth of one euro would lead to an increase (decrease) of 1 cent in total consumption. In terms of elasticity, an increase (de- crease) of 10% in wealth would imply also a relatively small impact of 0.8 to 1.1% on consumption depending on the concept of consumption considered. In most cases, the effect of a change in financial wealth is bigger than of a change in housing wealth. The results indicate that the wealth effects are smaller in France than in the UK and US but close to what is observed in Italy. In addition, any deviation of the variables from their common trends is corrected at first by adjustments in disposable income in line with what has been uncovered by studies on Germany and consistent with the "saving for the rainy days" approach of Campbell (1987). But our results contrast with the seminal study of Lettau and Ludvigson (2004) in the US where asset prices make the bulk of the adjustment.
... variables which allow for time-varying coefficients. The LP1 model was re-estimated and a dummy variable was introduced in the coefficients as in Barrell and Davis (2004), allowing the effect of wealth and income on private consumption to vary throughout the sample period. The choice of the dummy variable (lib t ) was based on the implementation date of the main measures in the financial liberalisation process in Portugal (Annex C). ...
... In the case of elasticity with respect to wealth, differences are not so marked, although the lib t variable is also significant. The results are in line with the notion that financial market liberalisation and the decline in interest rates led to a reduction of liquidity constraints of households, due to easier access to the credit market, thus allowing for a greater smoothing Barrell and Davis (2004) also concluded that the behaviour of consumers changed significantly following financial market liberalisation, which led to a greater influence of wealth on long-term consumption and lower dependency on disposable income. In this respect, Ludwing and Slok (2002) and Boone et al. (1998) point to greater marginal propensity to consume out of wealth in market-based systems as opposed to bank-based systems, and concluded that the marginal propensity to consume out of wealth increases as financial markets become more developed. ...
... Specifically, the liquidity constrained consumers are unable or unwilling to use financial markets to smooth consumption. Blundell-Wignall and Browne (1991), Bayoumi (1993), Girardin, Sarno and Taylor (2000), Aron and Muellbaur (2000), Barrell and Davis (2007) have explained the link between excess sensitivity of current consumption to current income and liberalisation. They observed that liberalisation will make excess sensitivity (liquidity constraints) to decline and enhance consumption to track current income closely. ...
... However, the current study only explains why liquidity constraints and myopic tendencies remain high despite implementing liberalisation in Malawi. Findings by Chipeta and Mkandawire (1991) (Barrell & Davis, 2007). The disparities in results partly may also be attributed to differences in the methodological innovations in the measurement of the proxy defining liberalisation indices. ...
Article
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The purpose of the study is to examine whether financial reforms implemented in the 1980s and 1990s altered the pattern of aggregate consumption behaviour in Malawi. More specifically, the study questions whether financial reforms affected consumption behaviour by reducing the excess sensitivity of changes in consumption to changes in current income using the Permanent income hypothesis framework. If it happens that excess sensitivity does not reduce, the paper explores further whether the failure is due to liquidity constraints or myopia. This study is unique from the rest in the sense that new constructed time series of financial reform indices are used in the estimation of the consumption function. The study finds that PIH of aggregate consumption behaviour does not exist in Malawi. Most of the consumers follow the “rule-of-thumb” of consuming their current income partly due to liquidity constraints. Although, we demonstrate that the effects of financial reforms on consumption behaviour are due to both liquidity constraints and myopic, the increase in consumption in Malawi can be explained along other factors than financial liberalisation. The excess sensitivities obtained are larger than what has been obtained in developed countries as well as other less developed countries. Liberalisation was implemented on the background of weak institutions and unstable macroeconomic environment.
... In financially repressed systems, credit rationing would have meant that prospective homeowners would have been restricted in their property transactions; once the restriction was lifted, the sudden increased access to mortgage finance would have put upwards pressure on house prices which may explain the split sample results. Barrell and Davis (2007) give the Swedish liberalisation date as 1985 and Abaid et al (2008) show that although there was also a round of liberalisation in Finland in the mid 1980s, financial liberalisation actually peaked in 1993. Jonung (2008) notes how liberalisation in these economies fundamentally affected credit availability: aggressive competition for market shares by banks caused a lending boom with bank portfolios becoming increasingly concentrated in real estate. ...
Article
This paper contributes in a quantitative manner to the debate on macroprudential policy in three ways. First, it illustrates how macroprudential surveillance could have been better undertaken with a highly stable crisis-prediction model for 14 OECD countries estimated over 1980-1997. Second, in terms of macroprudential regulation, it uses the related estimates to calibrate the increase in capital and liquidity needed to reduce average crisis probabilities to a desired level, as is being discussed in Basel. We show that an international consensus on regulatory changes will generate "winners" and "losers" in terms of capital and liquidity adjustments, and we suggest that raising capital and liquidity standards by 3.7 percentage points across the board will reduce the annual average probability of a financial crisis to around 1%. Finally, we show that countercyclical macroprudential policy is best calibrated on house prices and current accounts rather than GDP and credit, as are widely recommended at present. Credit growth, for example, has neither a direct nor an indirect statistical impact on crisis risk. Our results have important implications for the next generation of international banking regulations. (D Karim), iliadze@niesr.ac.uk, (I Liadze). We thank participants in the EUROFRAME conference in Amsterdam and at seminars at NIESR, the OECD, and the Bank of England for helpful comments. We have also had useful discussions with colleagues from the BIS in Basel and the FSA in London. The research was partly funded by the ESRC.
... And in recent years, this issue has been extensively addressed making cross-country comparisons such as the following. AEA Barrell and Davis (2007) estimated the impact of financial liberalization on consumption in seven OECD countries to find a significant behavioral change, involving a drop in shortrun income elasticities and an increase in short-run wealth. ...
Article
Purpose The purpose of this paper is to analyze the changes in wealth and consumption inequality in Spain and estimate the consumption effects of housing and financial wealth. Design/methodology/approach The estimations are made using micro-data from the Spanish Survey of Household Finances (2002–2014) applying cross-section, panel and interquartile techniques. Findings The findings of this paper suggest that there was an increase in wealth inequality during the period under analysis and a reduction in consumption inequality. Also, the authors find a significant positive effect of wealth on consumer expenditure. Disaggregating by asset type, the value of the main residence is the category with the highest estimated effect on consumption, whereas the remaining types of assets, although still positive and generally significant, have more modest effects on consumption. However, the estimated coefficients and their significance can change substantially depending on the phase of the economic cycle and the position of the household in the income distribution. Originality/value These results provide new empirical evidence on the effects of household wealth changes on their consumption behavior, the differences depending on the household's position in the distribution and the fluctuations of these estimated coefficients throughout a period of profound economic upheavals.
... On the contrary, adjustment seems to operate via housing wealth in Sweden (Chen [2006] 13 We ought to precise that a cointegrating relation may be obtained while using single equation models such as ARDL. See for instance Barrell and Davis [2007]. But their results are probably biased because wealth is not weakly exogenous (contrary to labor income; see Barrell and Davis [2007, fn. 8, p. 259]). ...
Article
For some Post Keynesian economists, functional income distribution affects economic activity and growth through its effects on investment, consumption and net exports. This study focuses on econometric issues about the consumption function. Post Keynesians generally fail to find a long-run relation between consumption, wages, profits and wealth. However, taking close econometric specifications, Neoclassical get this kind of relation. We lean on this result in order to re-examine the relation between income distribution and consumption. The empirical analysis applies on U.S. quarterly data for the period 1960-2007.
... Private consumption is modelled as an aggregate consumption function that depends, in the long run, on real disposable income (rpdi), real financial wealth (rfw) and real housing wealth (rhw), as discussed in Barrell and Davis (2007a). Following Al-Eyd and Barrell (2005), the consumption function also takes into account the number of liquidity constrained households in each country through the parameter on the change in real disposable income. ...
Article
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This paper investigates spillovers to the Irish economy from a fiscal expansion in the rest of the euro area. We examine spillovers for government consumption and government investment, each conditional on active or passive monetary policy. Moreover, we compare these across two different classes of models, a DSGE model and a traditional structural model. We find that expansionary fiscal spending shocks in the rest of the euro area can lead to non-negligible spillovers to the Irish economy. This result is robust across models and spending instruments, but is conditional on the monetary stance being passive. When monetary policy is active, the spillover is smaller, depending on the extent of crowding out of private activity. When monetary policy is passive, spillovers increase the fiscal space of the country with positive spillovers.
... 1960'larda bir dizi makale ile servetin tüketim fonksiyonundaki rolü dikkate alınmaya başlamıştır (Evans, 1967). Bu yaklaşımı izleyen güncel makaleler de genelde tüketimi bu günkü harcanabilir gelir ile bir önceki dönemin net reel servetinin bir fonksiyonu olarak tanımlarlar (Barrel ve Davis, 2007). Güncel çalışmalar konut sahibi olmanın yaratacağı servet etkisini (Aron ve diğerleri, 2012) ve borçlanmanın tüketim üzerindeki etkilerini de göz önüne alırlar (Barba ve Pivetti, 2009 Hane halklarının doğrudan hisse senedi sahibi olmalarının yanı sıra tasarruflarının önemli bir oranı da emeklilik fonları, sigorta şirketleri ve finansal aracı şirketler yoluyla hisse senedinde tutulmaktadır. ...
... djusts slowly to its long-run equilibrium and is influenced by changes in the logs of real income, real financial wealth and real housing wealth. Al Eyd and Barrell (2005) discuss the relevant literature and describe the coefficient on the change in the log of current income as an indicator of the proportion of people who are liquidity constrained. Barrell and Davis (2007) show that this proportion has been falling in many countries, but also show that it rose after the financial crisis in Japan in the early 1990s. In the experiments here, consumers who are not liquidity constrained have an intertemporal elasticity of substitution of around a half, as in Barrell The monetary policy rule ensures that inter ...
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We investigate the effects of changes in taxes using the National Institute international macro model, NiGEM. A comparison on fiscal impulses worth 1 per cent of GDP for one year is made, with a comparison of a direct tax change, indirect tax change, and a lump sum payment. Multipliers are assessed one country at a time and when policy is coordinated to increase its impacts. We look at the importance of releasing borrowing constraints in a banking crisis. The analysis assumes financial and foreign exchange markets are forward looking.
... Euler equation, which seeks to aggregate the optimal intertemporal consumption decision of a representative consumer characterised by rational expectations, cf. Hall (1978) and section 4 below. Barrell and Davies (2007) have argued in favour of the conditional consumption function, i.e. that it is consumption that equilibrium corrects. They follow the tradition of empirical work based on broad implications of the life cycle model, whereby planned consumption is a function of both human and non-human wealth, see Deaton (1992). 4 They assess the impact o ...
Article
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A dynamic consumption function, where consumption in the long run is determined by households’ disposable income and wealth, has been superior to the Euler equation in explaining the development of Norwegian aggregate consumption over several decades. This period covers the years of financial deregulation in the mid 1980s, the banking crisis around 1990 following the deregulation and the current international financial crisis. In the current version, long run consumption is homogeneous in income and wealth and there is also a significant effect from after-tax real interest rates. A change in the correlation pattern between real interest rates and wealth, which is related to a change in the monetary policy regime, is the reason why both variables need to be included in the long run relationship in order to explain the development over the past four years.
... We consider both single-country (Bassanetti &Zollino, 2010, for Italy, andMárquez, Martínez-Caete, &Pẽrez-Soba, 2013, for the UK) and crosscountry analyses (Aron, Duca, Muellbauer, Murata, & Murphy, 2012;Barrell & Davis, 2007;Boone & Girouard, 2002;Byrne & Davis, 2003;Catte, Girouard, Price, & André, 2004;Slacalek, 2009;Sousa, 2010a). ...
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This paper aims to investigate the long-run impact of housing and financial wealth on consumption in Italy and the UK using two different estimation methods. The novelty of the paper is to consider the recent financial crisis when studying wealth effects. The dynamics of wealth effects is also evaluated by a rolling regression analysis. The results show that: i) housing wealth plays no role in Italy, whereas it is significant in the UK; ii) in both countries, the financial wealth exerts a positive and significant impact on aggregate consumption; iii) by and large, the housing wealth effect assumes relatively increasing importance over time in the UK, while for Italy this is true for the financial wealth effect.
... For overall wealth estimates, seeGale et al (1999),Kiley (2000),Davis and Palumbo (2001),Barrell and Davis (2007a) andCase et al (2013). Using a broader definition of equity wealth (including both corporate equity and other types of security), the effect has been estimated at about 3 1/2 cents per dollar change in wealth(Ludvigson and Steindel (1999)). ...
... Estimating investment functions for the G7 countries, Ashworth and Davis (2001) show that Tobin's q only has a long-run effect on investment in Japan and France. 13 For overall wealth estimates, see Gale et al (1999), Kiley (2000), Davis and Palumbo (2001), Barrell and Davis (2007a) and Case et al (2013). Using a broader definition of equity wealth (including both corporate equity and other types of security), the effect has been estimated at about 3 1/2 cents per dollar change in wealth (Ludvigson and Steindel (1999)). ...
... This is in line with Hall's hypothesis. In contrast to these four studies, Davis and Palumbo (2001) and Barrell and Davis (2007) argued that consumption is the variable that equilibrium corrects. In addition, Chan and MacDonald (2015), used the same data as Lettau and Ludvigson (2004), likewise arguing that consumption equilibrium corrects, but only when the model allows for an asymmetric response of households to shocks. ...
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Banks within Europe have become larger and more international as Europe has moved towards a unified financial services market, but this trend has been reversed since the crisis. In order to establish the effect of these structural changes on output in Europe, we use a micro data set to investigate the impact of size (as measured by asset size) on banks' net interest margins. We show that larger banks offer lower borrowing costs for firms, which raises sustainable output. We then use NiGEM to look at the impact of banks becoming smaller and moving back into their home territory. We investigate the impacts on output according to country size, showing that the effects are generally larger in small countries, and also larger in economies that are more dependent on bank finance for their business investment decisions.
Article
Purpose – The purpose of this paper is to analyze the influences of real share prices on aggregate consumption for Malaysia with the focus on whether there is asymmetry in the long-run relation of the two variables. Design/methodology/approach – The paper specifies aggregate consumption to depend on real income and real share prices. Alternatively, imposing long-run budget constraint, the paper specifies the relation between aggregate consumption and real share prices as ratio to real income. Then, it applies an asymmetric cointegration and error correction modeling. Findings – The cointegration tests indicate the presence of a long-run relation between consumption-income ratio and share price-income ratio. More interestingly, while changes in share prices exert short-run causal influences on Malaysia's private consumption, evidence is found for the adjustments of consumption – income ratio to the long-run equilibrium path only when it is above its long-run value. The paper interprets the finding as suggesting downward revisions in the consumption patterns when there are adverse shocks in share prices and, accordingly, supports the existence of especially negative wealth effect for Malaysia. Research limitations/implications – Owing to data limitations, the paper relies on aggregate consumption and aggregate income data. It acknowledges that the sum of non-durable consumption and flow-of-services from durable purchases and labor income are more appropriate measures of, respectively, consumption and real income. Originality/value – The findings have important implications for understanding consumption behavior in a developing country and can provide insight on the effectiveness of monetary policy.
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Scant attention has been paid in the literature concerning 'consumption wealth effects' to asset heterogeneity in terms of foreign and domestic asset holdings. Through extending the approach of Lettau and Ludvigson (2004).and Nitschka (2007), this study uncovers that whilst households tend to view innovations to domestic asset holdings as part of their permanent income, changes in the value of foreign equity holdings are largely characterised as temporary in nature and unrelated to household consumption decisions. This evidence complements existing work concerning 'valuation effects' by highlighting at a disaggregated level an important mechanism by which this phenomenon affects a fundamental macroeconomic aggregate, and also draws implications for trade balance outcomes.
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Banks within Europe have become larger and more international as Europe has moved towards a unified financial services market, but this trend has been reversed since the crisis. In order to establish the effect of these structural changes on output in Europe, we use a micro data set to investigate the impact of size (as measured by asset size) on banks’ net interest margins. We show that larger banks offer lower borrowing costs for firms, which raises sustainable output. We then use NiGEM to look at the impact of banks becoming smaller and moving back into their home territory. We investigate the impacts on output according to country size, showing that the effects are generally larger in small countries, and also larger in economies that are more dependent on bank finance for their business investment decisions.
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This note reviews recent Institute work on the factors that might affect the future evolution of consumption. Drawing on Barrell and Davis (2007), it discusses the evidence for the effects of housing wealth on consumption, and shows that there has been strong and well supported evidence for a link for some time. This evidence suggests that a fall in house prices will cause consumption growth to slow. The discussion also covers evidence from Barrell, Davis and Pomerantz (2006) on the effects of financial crises on consumption behaviour. They suggest that there are large and significant negative effects on consumption during banking crises that are over and above the effects on consumption of the crisis-induced changes in income and wealth. Much of this work is embedded in our structural model, NiGEM, and it is possible to estimate the effects of house price declines and financial crises on consumption and income using the model. The note also gives a set of ready reckoners for the impacts of house price declines on output and of a given associated fall in the level of housing wealth on the level of consumption.
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A survey of the literature on asset price impacts on the real economy shows a much wider range of work on consumption and related wealth effects than on investment. The existence of wealth effects on consumption per se is little contested, but there remains an issue of whether different effects should hold between countries and across assets. On balance we contend that the literature suggests a role for housing and tangible wealth as well as financial wealth as a determination of consumption. In terms of investment there are numerous studies implying that uncertainty and balance sheet effects on investment can both be detected, albeit the latter more in micro than macro studies. In the light of the investment literature, we undertook panel investment functions on a macro basis for up to 23 OECD countries. Developing earlier work, it was found that the main significant effects arising from asset prices come from the financial accelerator, credit channel and Tobin’s Q (especially in the G7) and uncertainty as proxied by asset price volatility (especially in smaller OECD countries). There is also evidence for non-linearities in volatility. Descriptive analysis as well as tentative cross-sectional regression showed that both balance sheet and uncertainty channels played a role in the recent financial crisis, when investment fell sharply, although the simple accelerator was also important. The work has implications for monetary, fiscal and regulatory policies, all of which can impact on asset prices and the financial sector and thus via this channel on the wider economy.
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The Euro Area economy grew by 0.8 per cent in the first quarter of this year, and is proving more resilient than anticipated in our April forecast. We were then expecting a markedly less robust outturn of an increase of 0.4 per cent. However, despite this positive start, we still anticipate a downturn in the Euro Area's year-on-year economic growth. After peaking at 2.9 per cent in 2006, real GDP growth is projected to slow down to around 2 per cent over the forecast period. Sluggish domestic demand and diminishing contributions from net trade both contribute to this downturn. Household consumption is forecast to expand by 1 per cent in the short term, down from 1.6 per cent in 2007. Consumption growth is expected to be considerably weaker than in 2007 due to accelerating inflation and the slowdown in the growth of housing wealth, particularly in France, Ireland and Spain as well as elsewhere. Moreover, real disposable income growth is expected to slow down from 2 per cent in 2007 to about 1¼ per cent this year. Nominal wages are expected to rise by 3½ per cent on average this year, and HCP inflation is likely to pick up strongly to slightly more than 3¾ per cent per annum, 1½ percentage points above the level of last year.
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Over the summer of 2007 problems began to emerge in financial markets as a result of debt defaults, particularly on US housing lending to individuals with low credit ratings. The globalisation of financial markets has meant that such risks are shared across banks throughout the world and a number of European banks suffered major losses as a result of purchasing high yield high risk bundles of these assets. In this note we discuss the possibility of a systemic banking crisis as a result of debt defaults, putting this risk and its impact on the economy into recent historical context. We also look at the vulnerability of the personal and business sectors to increases in borrowing rates, and at the evidence for a risk related rise in borrowing rates. We then use our model, NiGEM, to investigate the impacts of a significant rise in the spread between lending and borrowing rates for both producers and consumers. Such an increase in spreads might arise when banks wish to rebuild their capital after a crisis or reflect significant capital rationing. In either case they represent the immediate impacts of a crisis in the banking sector. The spread between borrowing and lending rates for producers reflects a risk premium in the business sector, and was used in the September EFN report to the European Commission, whilst the spread between consumer lending and borrowing rates is in use for the first time on the model. The debt-to-income ratio has been rising in the personal sector in a number of countries, and especially in the UK, Ireland and Spain, as we can see from figure 1, and this might indicate where problems could arise.
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At the beginning of 2010, the fiscal situation of Greece was unsustainable, and an ambitious but costly adjustment plan had to be put in place under a consortium of the International Monetary Fund, the European Commission and the European Central Bank. It took three consecutive adjustment programmes, including debt-relief through private sector involvement, to restore confidence in the economy and achieve a budget surplus. In this paper, we provide a theoretical analysis of the Greek Crisis starting from 2010. We build a series of counterfactuals using the National Institute General Econometric Model (NIGEM) to analyse why the cost of the adjustment in terms of GDP loss and increase in debt-to-GDP ratio turned out to be much worse than expected. In doing so, we analyse three scenarios: (i) one in which we simulate a much more conservative cut in public investment by the Greek central government; (ii) a second scenario of a lower risk-premium, signalling, e.g., lower political and re-denomination risks, had the European Central Bank guaranteed its lending of last resort role earlier than 2012; (iii) finally, a similar financial envelope as the one adopted during the first Greek adjustment programme but over a longer period, moving beyond the standard IMF three-year duration programmes. We find that the mix of expenditure cuts and loss of confidence among households and firms explain a large part of the unanticipated costs of the adjustment in the Greek crisis.
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How does debt affect macroeconomic stability? The answer to this question has important implications, because both public and private debt levels have reached historic highs across the OECD. While accumulating debt can help smooth real activity, at high levels debt creates weaknesses in corporate, household and government balance sheets. High debt levels can create vulnerabilities, which amplify and transmit macroeconomic and asset price shocks across the economy and internationally. The empirical evidence shows that high debt levels impair the ability of households and enterprises to smooth consumption and investment and of governments to cushion adverse shocks. The empirical evidence also suggests that when private sector debt levels, particularly for households, rise above trend the likelihood of recession increases. Furthermore, when debt levels are high, recessions tend to be more severe.
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The US current account imbalance has stayed stubbornly high despite the fall in the dollar that we have seen since the beginning of 2003. The exchange rate has fallen by around 15 per cent on average, mainly between the first quarter of 2003 and the first quarter of 2005. As we can see from figure 1, the fall has come in three steps, and each time it fell we might have expected an initial worsening of the current account for a year or so as prices change in advance of quantities (the J curve effect of the first year textbook). Hence we might have expected no sustained improvement until at least a year after the last downward step towards the end of 2004. However, as we can see from figure 2, there is no noticeable improvement in the current account during 2006, suggesting that domestic absorption was rising. At the same time inflation in the US was gradually drifting up under pressure from the weakening exchange rate.
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This empirical study for private consumption in the euro area and the four largest euro area countries validates the need to separate components of income and supports the common practice to split wealth. A focus on income and wealth components avoids an aggregation bias in estimated income and wealth effects. It finds little evidence in favour of an extensive country aggregation issue given direct euro area estimates of income and wealth propensities and forecasts for consumption are not too different from those indirectly aggregated across the four largest euro area countries.
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This paper investigates the relationship between French wealth and household consumption in a nonlinear context. At first, we update the previous French wealth effects estimates by taking into account the post subprime crisis period; we show that the wealth effect is still positive but only about 8%, rather than 13% suggesting that the wealth effect slightly decreased after the subprime crisis. In addition, unlike previous studies, we enable the wealth–consumption relationship to exhibit asymmetry, time variation and nonlinearity. To this end, we specify, on the one hand, two different threshold autoregressive models (TAR and MTAR) in order to reproduce nonlinear wealth effects in the short-term. On the other hand, we propose a time-varying cointegration specification to the consumption–wealth relationship in the long term. Interestingly, our specification enables the introduction of nonlinearity not only asymmetrical adjustment in the short run but also in the long-term relationship in order to capture different and complex forms of wealth effects. We show a significant wealth effect and find evidence of an unstable wealth–consumption relationship, particularly in 2000 and during the subprime crisis, suggesting an increase in the wealth effect during these periods.
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The aim of this thesis is to obtain empirical evidence that provides new insights into various issues related to inequality in personal income distribution. The approach adopted, essentially empirical, allows a novel understanding to issues such as the measurement and determinants of income, wealth and consumption inequality. This approach also offers new evidence on income mobility, spatial segregation and the redistributive preferences of the population. Using data from various secondary sources (macro and microdata), and applying econometric techniques adapted to the object of study, we obtain results that represent a relevant contribution within the literature on inequality. Among the most noteworthy findings, we can point out the significance of the redistributive effects of monetary policy on the international level, the increase in income and wealth inequality in Spain over the last two decades, the relevance of the wealth effect on consumption decisions of Spanish households, the decrease in income mobility, the rise in income segregation in Spanish cities and the important role of subjective perceptions in the demand for redistributive policies.
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This paper estimates the consumption effects of housing and financial wealth using micro-data from the five available waves of the Spanish Survey of Household Finances (2002-2014), covering a marked boom-and-bust cycle. Our results suggest a significant positive relationship between household wealth and consumer spending. Disaggregating by asset type, the value of the main residence is the asset category with the highest estimated effect on consumption, whereas the remaining (other real assets, current accounts and deposits, and other financial assets), although still positive and generally significant, have much more limited effects on consumption.
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Investment and Savings are the backbone of any nation for which every nation making attempts with central bank and other financial institutions. In India the ministry of Finance and commerce takes steps to encourage the investments along with RBI and SEBI. Though investment is retail in nature which is made by individual, it is highly encouraged by the nations. To make the investments one must have knowledge about the avenues. Financial liberalisation which is the result of economic liberalization provides for knowledge and way for new investment alternatives. A Study has been conducted to know the knowledge and awareness of investors about financial liberalisation in Chennai city. Introduction The development strategies of many developing economies including India are framed after giving due importance for the economic factors which will require the implementation of necessary changes for the development of overall economy of the country. The counties have transformed from state oriented economy to market oriented economy. India as a country is not an exception to this rule and has also changed the rule in 1991 and has fallen in line to take-up the rule of market oriented economy. The importance of financial liberalization is developed in the post 1980s because the countries have imposed control over the interest and exchange rates which in turn resulted in the restriction of growth in financial markets. These findings have finally changed financial policies of the country and ended in liberalizing the economy which also led to financial liberalization. Need for the study The rapid development of our country is directly influenced by its capital market and financial services. Its contribution towards the national growth is high and eternal one. In recent days, the awareness of the retail investors and risk appetite leads to more attention and involvement in the capital market. The capital market is greatly influenced by the liberalisation of financial markets. Under these conditions a study has been carried out to know the awareness retail investor about financial liberalisation in Chennai city. Objectives of the study 1. To identify the level knowledge and awareness of investors about financial liberalisation 2. To check the influence of demographic factors in awareness of investors 3. To study the impact of financial liberalisation on knowledge of investors 4. To know the impact of financial liberalisation in savings. Research Methodology In this study the researcher has adopted descriptive research design. The sampling method adopted was non probabilistic convenience sampling. A sample size of 625 respondents was taken for the study under convenient sampling method. Among the 625 questionnaires, only 514 respondents returned the filled in questionnaire, out of this only 457 of them were found usable. The sample of this study covers different parts of Chennai. Hence, the exact sample of the study is 457.
Article
The Institute is a world leader in macroeconomic modelling and forecasting. It has produced quarterly economic forecasts for around sixty years, supported by macroeconomic models. The aim of the original builders of macroeconomic models was to transform understanding of how economies worked and use that knowledge to improve economic policy. In the early years, when computers were rare, macroeconomic modelling was a new frontier and Institute economists were among the first to produce a working model of the UK economy. It is remarkable how quickly models were being used to produce forecasts, assess policy and influence the international macroeconomic research agenda. The models built at the Institute were mainstream in the sense that they followed the contents of standard macroeconomic textbooks, developed with the subject, and fitted the facts as they were known at the time. There were continual improvements in understanding as the subject developed in response to new ideas and developments in the global economy. This article celebrates the development of macroeconomic modelling at the Institute and the contribution it has made to public life.
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An important idea behind the Norwegian oil fund mechanism and the fiscal spending rule is to protect the non-oil economy from the adverse effects of excessive spending of resource revenues over the Government budget. A critical assumption in this respect is that public sector saving is not being offset by private sector dis-saving, which is at stake with the hypothesis of Ricardian equivalence. Based on a framework of co-integrating saving rates, this model provides an empirical test of the Ricardian equivalence hypothesis on Norwegian time series data. Although the model rejects the strong-form presence of Ricardian equivalence, results indicate that the Norwegian approach does not fully succeed in separating spending of resource revenues from the accrual of the same revenues.
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The production of this forecast is supported by the Institute's Corporate Members: Bank of England, HM Treasury, Mizuho Research Institute Ltd, the Office for National Statistics, Santander (UK) plc and by the members of the NiGEM users group.
Article
The macroeconomic outlook for the Euro Area has improved. The first signs of recovery have already started materialising and although the second quarter of 2009 saw GDP contract by 0.2 per cent in quarterly terms, the pace of the decline eased. The first quarter of this year, with GDP collapsing by 2.5 per cent, probably constituted the sharpest contraction in the deepest recession the Euro Area has ever experienced.
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This paper studies the relationship between consumption and wealth based on the concept of cointegration. The analysis focuses on French data over the 1987-2006 period. This relationship is expressed in two ways: in terms of Marginal Propensity to Consume out of wealth (MPC) and in terms of Elasticity of consumption to wealth. Three concepts of consumption are investigated: total households consumption expenditure, consumption excluding financial services and consumption excluding durable goods. Different estimators are also considered. Based on the MPC approach, when considered as permanent by households, an increase (decrease) in total wealth of one euro would lead to an increase (decrease) of 1 cent in total consumption. In terms of elasticity, an increase (decrease) of 10% in wealth would imply also a relatively small impact of 0.8 to 1.1% on consumption depending on the concept of consumption considered. In most cases, the effect of a change in financial wealth is bigger than of a change in housing wealth. The results indicate that the wealth effects in France are smaller than in the UK and US but close to what is observed in Italy. In addition, any deviation of the variables from their common trends is corrected at first by adjustments in disposable income in line with what has been uncovered by studies on Germany and consistent with the saving for the rainy days approach of Campbell (1987). But our results contrast with the seminal study of Lettau and Ludvigson (2004) in the US where asset prices make the bulk of the adjustment.
Conference Paper
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An important idea behind the Norwegian oil fund mechanism and the fiscal spending rule is to protect the non-oil economy from the adverse effects of excessive spending of resource revenues over the Government budget. A critical assumption in this respect is that public sector saving is not being offset by private sector dis-saving, which is at stake with the hypothesis of Ricardian equivalence. Based on a framework of co-integrating saving rates, this model provides an empirical test of the Ricardian equivalence hypothesis on Norwegian time series data. Although the model rejects the strong-form presence of Ricardian equivalence, results indicate that the Norwegian approach does not fully succeed in separating spending of resource revenues from the accrual of the same revenues.
Article
The production of this forecast is supported by the Institute's Corporate Members: Bank of England, HM Treasury, Mizuho Research Institute Ltd, Office for National Statistics, Santander (UK) plc and by the members of the NiGEM users group.
Article
The Office for National Statistics' (ONS) Preliminary Estimate of GDP suggests the quarterly rate of growth accelerated rapidly this year, from 0.3 per cent in the first quarter to 1.1 per cent in the second quarter (figure 1). This positive news should not be taken as a strong indicator of the prospects for the next year, as a quarter of strong growth is often matched by a subsequent weak quarter. In the first quarter of this year demand was driven by government spending and the continued moderation in the rate of inventory reduction, contributing 0.5 and 0.3 percentage point, respectively to GDP growth. Data for the second quarter of this year suggest that the expansion was spread relatively evenly, with a particularly robust contribution from the construction sector. Since the estimates are derived on an output measure we have little information by way of the sources of demand. We expect that much of the demand came from the same sources as in the first quarter. It is possible that some output was delayed from the first to the second quarter due to the bad weather, while retail sales were perhaps boosted by expenditure on electrical goods related to the World Cup in South Africa. We forecast a sharp moderation in the rate of growth in the second half of this year, as figure 1 shows.
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The effect of wealth on consumption is an issue of long-standing interest to economists. Conventional wisdom suggests that fluctuations in household wealth have driven major swings in economic activity both in the United States and abroad. This paper considers the so-called consumption wealth effects. There is an extensive existing literature on wealth effects that has yielded some insights. For example, research has documented the relationship between aggregate household wealth and aggregate consumption over time, and a large number of household-level studies suggest that wealth effects are larger for households facing credit constraints. However, there are also many unresolved issues regarding the influence of household wealth on consumption. We review the most important of these issues and argue that there is a need for much more research in these areas as well as better data sources for conducting such analysis.
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The economy is slowing as expected. NIESR's estimate of monthly GDP suggests that the rate of economic growth slowed from 0.3 per cent in the first quarter of this year to 0.2 per cent in the second quarter of this year (figure 1), the weakest rate of growth since the second quarter of 2001. Recent data on the state of the economy is mixed. Retail sales volume growth surged to 1.8 per cent per quarter in the three months to May 2008, up from a rate of growth of 1.2 per cent in the preceding three months. The index of production, however, recorded a fall of 0.5 per cent in the three months to May 2008. The index of services suggests services output growth has continued to be relatively subdued. The quarterly rate of growth in the three months to April was 0.3 per cent, half the rate of growth in the final quarter of 2007. While the retail sales data are not yet consistent with a consumer led slowdown, the decline of hotel and restaurant output in the three months to April suggests that other components of consumer spending are slowing.
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The paper investigates the factors affecting the equilibrium level of output in a panel of European countries. Output depends on factor inputs and on the technology and the efficiency with which those factors are used. Efficiency may be driven by international conditions and institutional changes such as the Single Market Programme in Europe. The technology indicators used in this study depend upon research and development and also include the level of labour efficiency which is indexed on skills data. The level of the capital stock depends upon the user cost of capital, which may depend upon risk and hence on the volatility of the economy. Recent literature suggests that real exchange rate volatility is important in determining investment and therefore has an impact on equilibrium output. A link of this form is uncovered for the European economies. If policy can reduce these volatilities then it can also raise equilibrium output.
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The Economics of Residential Property Theoretical Building Blocks for the Analysis of Housing Markets Housing and the Wider Economy in the Short and Long Run House Price Shocks and Consumption with Forward Looking Households Housing Wealth, Bequests and Financial Liberalization in the Major Economies The Theory of Economies in Transition Assessing the Impact of Financial Liberalization and Income Shocks on Consumption Evidence from Aggregate Data Consumption, Human Capital and Housing Wealth Evidence from Household Data Financial Liberalization and the Design of Mortgage Contracts Policy Issues.
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This book provides a wide-ranging account of the literature on co-integration and the modelling of integrated processes (those which accumulate the effects of past shocks). Data series which display integrated behaviour are common in economics, although techniques appropriate to analysing such data are of recent origin and there are few existing expositions of the literature. This book focuses on the exploration of relationships among integrated data series and the exploitation of these relationships in dynamic econometric modelling. The concepts of co-integration and error-correction models are fundamental components of the modelling strategy. This area of time-series econometrics has grown in importance over the past decade and is of interest to econometric theorists and applied econometricians alike. By explaining the important concepts informally, but also presenting them formally, the book bridges the gap between purely descriptive and purely theoretical accounts of the literature. The asymptotic theory of integrated processes is described and the tools provided by this theory are used to develop the distributions of estimators and test statistics. Practical modelling advice, and the use of techniques for systems estimation, are also emphasized. A knowledge of econometrics, statistics, and matrix algebra at the level of a final-year undergraduate or first-year undergraduate course in econometrics is sufficient for most of the book. Other mathematical tools are described as they occur. Available in OSO: http://www.oxfordscholarship.com/oso/public/content/economicsfinance/0198288107/toc.html
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Abstract: South Africa experienced substantial rises in the ratios of consumption and household debt to income from 1983, for which conventional explanations in terms of income, income expectations, interest rates and wealth prove inadequate. This paper emphasizes the role of substantial financial liberalization, which is of interest for two reasons. The first is to help understand South Africa's low saving rate, an endemic problem. The second is that unlike the UK, Scandinavia, Mexico and other countries, South Africa's financial liberalization occurred without an asset price boom, thus illuminating the direct role of financial liberalization. Previous attempts to model financial liberalization are not fully satisfactory. Our methodological innovation is to treat financial liberalization as an unobservable, proxied by a spline function, and entering both consumption and debt equations, which are jointly estimated. We also clarify the multi-faceted effects of financial liberalization on consumption. The comprehensive solved-out consumption function uses our own constructed set of personal wealth estimates at market value and income forecasts from a forecasting equation (allowing underlying macro-fundamentals to enter the model). The empirical results corroborate the theory in the paper, confirming the importance for consumer spending of extensive financial liberalization, of fluctuations in a range of asset values and asset accumulation, and of income expectations. Results suggest that households largely pierce the corporate veil. The paper also throws important light on the monetary policy transmission mechanism in South Africa.
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Financial assets are generally chosen for encapsulating wealth effects in empirical work on aggregate consumption, but there is growing interest in tangible wealth, notably housing, as a potential determinant. We estimate consumption functions for the G-5, country-by-country and on a panel basis, which encapsulate roles for both tangible and financial wealth. Results suggest that tangible wealth plays a distinctive role in the determination of consumption in the short- and long-run. We also detect a marked negative effect of real interest rates. Results are of particular relevance to monetary policy, as well as being of importance for modelling and forecasting.
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This paper calculates indices of central bank autonomy (CBA) for 163 central banks as of end-2003, and comparable indices for a subgroup of 68 central banks as of the end of the 1980s. The results confirm strong improvements in both economic and political CBA over the past couple of decades, although more progress is needed to boost political autonomy of the central banks in emerging market and developing countries. Our analysis confirms that greater CBA has on average helped to maintain low inflation levels. The paper identifies four broad principles of CBA that have been shared by the majority of countries. Significant differences exist in the area of banking supervision where many central banks have retained a key role. Finally, we discuss the sequencing of reforms to separate the conduct of monetary and fiscal policies. IMF Staff Papers (2009) 56, 263–296. doi:10.1057/imfsp.2008.25; published online 23 September 2008
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This paper argues that the modern stochastic consumption model, in which impatient consumers face uninsurable labor income risk, matches Milton Friedman's (1957) original description of the Permanent Income Hypothesis much better than the perfect foresight or certainty equivalent models did. The model can explain the high marginal propensity to consume, the high discount rate on future income, and the important role for precautionary behavior that were all part of Friedman's original framework. The paper also explains the relationship of these questions to the Euler equation literature, and argues that the effects of precautionary saving and liquidity constraints are often virtually indistinguishable.
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This article begins with a look at time-series data on aggregate saving for the United States and Japan. After showing that a resolution of conceptual differences substantially narrows the gap in the saving rates between the two countries, the article examines various explanations for Japan's high saving rate by confronting them with a wealth of tabulations from household surveys in Japan. The life-cycle explanation is found to be inadequate. The prevalence of the extended family and bequests are singled out as probably the most important factor contributing to higher saving. An attempt is made to estimate the flow of intergenerational transfers. It is argued at the end that Japan's recent large trade surplus is due more to her slumping investment than any increase in saving.
Book
Cross-country comparisons of sectoral balance sheets offer crucial indications of differences in overall financial structure, which in turn underlie contrasts in financing and economic behaviour. In this context, this book aims to confront theory and extant empirical work with aggregate financial data across the G-7, covering the period from 1970 to 2000. Viewed in the light of the main theoretical and empirical results in the economic literature, it explores the contrasting patterns and development of financial structures in the UK, the US, Germany, Japan, Canada, France and Italy. It uses as raw material sectoral balance sheet data published by national statistical authorities across the corporate, household, general government, foreign, financial, banking and institutional-investor sectors.
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Bibliogr. s. 222-233
Article
Optimization of the part of consumers is shown to imply that the marginal utility of consumption evolves according to a random walk with trend. To a reasonable approximation, consumption itself should evolve in the same way. In particular, no variable apart from current consumption should be of any value in predicting future consumption. This implication is tested with time-series data for the postwar United States. It is confirmed for real disposable income, which has no predictive power for consumption, but rejected for an index of stock prices. The paper concludes that the evidence supports a modified version of the life cycle-permanent income hypothesis.
Article
The paper analyses the effect of equity-price shocks on current account positions for the G-7 industrialized countries during 1974–2007. It uses a Bayesian vector autoregression with sign restrictions for the identification of equity-price shocks and to test empirically for their effect on current accounts. Such shocks are found to exert a sizable effect, with a 10 percent equity price increase, for example, in the United States relative to the rest of the world, worsening the U.S. trade balance by 0.9 percentage points after 16 quarters. However, the response of the trade balance to equity-price shocks varies substantially across countries. The evidence suggests that the channels accounting for this heterogeneity function both through wealth effects on private consumption and to some extent through the real exchange rate of countries. IMF Staff Papers (2009) 56, 633–654. doi:10.1057/imfsp.2009.8; published online 26 May 2009
Article
The paper analyses the effect of equity-price shocks on current account positions for the G-7 industrialized countries during 1974–2007. It uses a Bayesian vector autoregression with sign restrictions for the identification of equity-price shocks and to test empirically for their effect on current accounts. Such shocks are found to exert a sizable effect, with a 10 percent equity price increase, for example, in the United States relative to the rest of the world, worsening the U.S. trade balance by 0.9 percentage points after 16 quarters. However, the response of the trade balance to equity-price shocks varies substantially across countries. The evidence suggests that the channels accounting for this heterogeneity function both through wealth effects on private consumption and to some extent through the real exchange rate of countries. IMF Staff Papers (2009) 56, 633–654. doi:10.1057/imfsp.2009.8; published online 26 May 2009
Article
Many argue that the astonishing growth in Americans' stock portfolios in the 1990s has been a major force behind the growth of consumer spending. This article reviews the relationship between stock market movements and consumption. Using various econometric techniques and specifications, the authors find that the propensity to consume out of aggregate household wealth has exhibited instability over the postwar period. They also show that the dynamic response of consumption growth to an unexpected change in wealth is extremely short-lived, implying that forecasts of consumption growth one or more quarters ahead are not typically improved by accounting for changes in existing wealth. Finally, the impact effect of a wealth shock on consumption growth, while statistically positive, is found to be uncertain. Although recent market gains have provided support for consumer spending, the authors' findings are too limited to encourage reliance on estimates of the stock market effect in macroeconomic forecasts.
Article
The paper analyses the effect of equity-price shocks on current account positions for the G-7 industrialized countries during 1974–2007. It uses a Bayesian vector autoregression with sign restrictions for the identification of equity-price shocks and to test empirically for their effect on current accounts. Such shocks are found to exert a sizable effect, with a 10 percent equity price increase, for example, in the United States relative to the rest of the world, worsening the U.S. trade balance by 0.9 percentage points after 16 quarters. However, the response of the trade balance to equity-price shocks varies substantially across countries. The evidence suggests that the channels accounting for this heterogeneity function both through wealth effects on private consumption and to some extent through the real exchange rate of countries. IMF Staff Papers (2009) 56, 633–654. doi:10.1057/imfsp.2009.8; published online 26 May 2009
Article
To date, studies of wealth effects on consumption have mainly used aggregate wealth definitions on a single-country basis. This study seeks to break new ground by analysing disaggregated financial wealth in consumption functions for G7 countries. Contrary to earlier empirical work, we find that illiquid financial wealth (i.e. securities, pensions and mortgage debt) tends to be a more important long-run determinant of consumption than liquid financial wealth. These results imply potential instability in consumption functions employing aggregate wealth. Our results are robust using SURE; when testing with a nested specification; and when using a linear model. Copyright 2003 Blackwell Publishing Ltd.
Article
For thirty years it has been accepted that consumption is smooth because permanent income is smoother than measured income. This paper considers the evidence for the contrary position, that permanent income is in fact less smooth than measured income, so that the smoothness of consumption cannot be straightforwardly explained by permanent income theory. The paper argues that in postwar U.S. quarterly data, consumption is smooth because it responds with a lag to changes in income.
Article
This paper derives the discrete-time counterpart of Blanchard's overlapping generations model of consumer expenditure. The model is combined with two different models of liquidity-constrained consumers; in the first the percentage of income accruing to such consumers is constant; in the second it is allowed to decrease over time. These models are estimated for five countries over the period 1967-92, and pass all standard specifications as well as some alternative non-parametric tests. Our estimates suggest that in Canada and the USA the number of liquidity-constrained consumers decreased substantially in the late 1970s and early 1980s. In Germany and the UK these changes occurred later and were less pronounced. Copyright 1999 by Blackwell Publishers Ltd and The Victoria University of Manchester
Article
This paper addresses the question of whether financial liberalization and innovation have significantly altered consumption behavior by reducing liquidity constraints as capital markets become more flexible. A consumption model, in which the permanent income hypothesis and extreme Keynesian consumption functions are nested as special cases, is the starting point for this analysis. Estimated values for the sensitivity of consumption to current income for different time periods and for several OECD countries are assessed. These results are then compared in the light of their various econometric properties, country-specific liberalization measures, and a variety of proxies reflecting changing liquidity constraints. Copyright 1995 by Blackwell Publishers Ltd and The Victoria University of Manchester
Article
If some consumers are liquidity-constrained, aggregate consumption should be ‘excessively sensitive’ to credit conditions as well as to income. Moreover, the ‘excess sensitivity’ may vary over time. Using data for the United States, Canada, the United Kingdom, Japan and France, we find a substantial impact of credit aggregates on consumption in all countries considered. Moreover, the borrowing/lending wedge is a significant determinant of consumption in the United States, Canada and Japan. Using extended Kalman filtering techniques, we show that the excess sensitivity varies over time, with a clear tendency to decline in the United States.
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This paper looks at the effects of financial deregulation on personal saving. Using an overlapping generations framework, it argues that financial deregulation will produce an exogenous short-run fall in saving, some of which will be recouped over time, while increasing the sensitivity of saving to wealth, current income, real interest rates and demographic factors. These propositions are tested using data on the eleven standard regions of the UK. It was found that household saving did indeed show an exogenous decline associated with financial innovation, as well as becoming more sensitive to wealth, real interest rates and current income. The empirical results imply that much of the decline in the personal saving rate in the 1980s was caused by the rise in wealth. Deregulation also played a significant direct role. It is estimated that deregulation may have resulted in an autonomous fall in the personal saving rate of 2.25% points, although some of this will be recouped over time. -from Author
Article
In previous work we have argued that aggregate, post-war. United States data on consumption and income are well described by a model in which a fraction of income accrues to individuals who consume their current income rather than their permanent income. This fraction is estimated to be about 50%, indicating a substantial departure from the permanent income hypothesis. In this paper we ask whether the same model fits quarterly data from the United Kingdom over the period 1957–1988 and from Canada, France, Japan, and Sweden over the period 1972–1988. We also explore several generalizations of the basic model.
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We present a model in which individuals' preferences are defined over their consumption, transfers to offspring, and social status associated with income. We show that a separating equilibrium exists where individuals' expenditure on conspicuous consumption is a signal for their unobserved income. In this equilibrium, poor families that climb up the social ladder by the accumulation of wealth engage in conspicuous consumption that prevents them from escaping poverty. Our model may explain why the poor make some choices that do not appear to help them escape poverty. (JEL: D91, O11, O12, O15) (c) 2010 by the European Economic Association.
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Both textbook economics and common sense teach us that the value of household wealth should be related to consumer spending. At the same time, movements in asset values often seem disassociated with important movements in consumer spending, as episodes such as the 1987 stock market crash and the contraction in equity values that occurred in the fall of 1998 suggest. An important first step in understanding the consumption-wealth linkage is determining how closely the two variables are actually correlated, and whether there exist important movements in asset values that are not associated with changes in consumption. This paper provides evidence that a surprisingly small fraction of the variation in household net worth is related to variation in aggregate consumer spending. We use empirical techniques that allow us to quantify the relative importance of permanent and transitory innovations in the variation of consumer spending and wealth and find that transitory shocks dominate post-war variation in wealth, while permanent shocks dominate variation in aggregate consumption. Although transitory innovations are found to have little influence on consumer spending, they have long-lasting effects on wealth , exhibiting a half-life of a little over two years. The findings suggest that most macro models which make no allowance for transitory variation in wealth that is orthogonal to consumption are likely to misstate both the timing and magnitude of the consumption-wealth linkage.
Consumption, Financial and Real Wealth in the G-5”, Discussion Paper no 232Financial Deregulation and Household Saving
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A primer on the economics and time series econometrics of wealth effects. Finance and Economics Discussion Paper, Federal Reserve Board Washington Understanding Consumption Consumer credit conditions in the UK. Housing Outlook Working Paper, www.housingoutlook.co The Canadian Banking System
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A survey of financial liberalisation. Essay in International Finance, 211. Date of receipt of final manuscript
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Financial Structure Why is consumption so smooth?
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