Ivan Tchakarov

Assessing the Impact of a Change in the Composition of Public Spending: A DSGE Approach

Despite intense calls for safeguarding public investment in Europe, public investment expenditure, when measured in relation to GDP, has steadily fallen in the last three decades, evoking fears that economic activity may be correspondingly negatively affected. At the same time, however, public consumption in the EU-12 countries has trended up. In this paper, we provide a macroeconomic assessment of the observed change in the composition of public spending in the euro area in a medium-scale two-country dynamic stochastic general equilibrium (DSGE) model. First, we identify the channels through which both temporary and permanent public investment shocks generate larger fiscal multipliers than exogenous increases in public consumption. Second, we quantify the negative impact of a change in fiscal stance, characterized by a permanent rise in public consumption and a permanent fall in public investment, keeping the overall level of public spending constant. The key message of the paper is that calls for reversing the observed trend in the composition of public spending are well justified.

Balance Sheets, Exchange Rate Policy, and Welfare

The debate about the appropriate choice of exchange rate regime is fundamental in international economics. This paper develops a small open-economy model with balance sheet effects and compares the performance of fixed and flexible exchange rate regimes. The model is solved up to a second-order approximation which allows us to address the issue of risk and welfare rigorously. The paper identifies threshold levels of the debt-to-GDP ratio above which fixed exchange rate regimes are welfare superior to monetary policy rules that imply flexible exchange rate regimes. The results suggest that emerging market economies that suffer from a relatively high level of indebtedness and are constrained in their pursuit of optimal monetary policy, could find it beneficial to opt for a fixed exchange rate regime.

The Gains from International Monetary Cooperation Revisited

This paper examines the issue of whether countries can improve their welfare by coordinating macroeconomic policies. The main purpose is to compute the gains from international monetary cooperation as the difference between the steady state consumption levels associated with the Nash and the cooperative outcomes of the game in which monetary authorities pursue active monetary policy. A numerical second-order approximation makes the solution of the model possible. Contrary to Obstfeld and Rogoff (2002), who claim that the gains from international cooperation in monetary policy are negligible, the paper finds that they could be very significant and reach as high as 2.2 percent of steady state consumption. This suggests that individual countries could experience significant welfare losses if they concentrate only on domestic stabilization policies.

An Estimated Small Open Economy Model of the Financial Accelerator

This paper develops a small open economy model in which entrepreneurs partially finance investment using foreign currency-denominated debt subject to an external finance premium. We use Bayesian estimation techniques to evaluate the importance of balance sheet-related credit market frictions for emerging market countries by incorporating the financial accelerator mechanism. We obtain a sizable value for the external finance premium, which is tightly estimated away from zero. Our results support the inclusion of the financial accelerator in an otherwise standard model that-acting through balance sheets-magnifies the impact of shocks, thereby increasing real and financial volatility. Copyright 2006, International Monetary Fund

Assessing the Impact of a Change in the Composition of Public Spending

Despite intense calls for safeguarding public investment in Europe, public investment expenditure, when measured in relation to GDP, has steadily fallen in the last three decades, evoking fears that economic activity may be correspondingly negatively affected. At the same time, however, public consumption in the EU-12 countries has trended up. In this paper, we provide a macroeconomic assessment of the observed change in the composition of public spending in the euro area in a medium-scale two-country dynamic stochastic general equilibrium (DSGE) model. First, we identify the channels through which both temporary and permanent public investment shocks generate larger fiscal multipliers than exogenous increases in public consumption. Second, we quantify the negative impact of a change in fiscal stance, characterized by a permanent rise in public consumption and a permanent fall in public investment, keeping the overall level of public spending constant. The key message of the paper is that calls for reversing the observed trend in the composition of public spending are well justified.

What are the Potential Economic Benefits of Enlarging the Gulf Cooperation Council

Abstract This paper uses a variant of the IMFs Global Economy Model (GEM) to estimate the macroeconomic benefits of Yemens accession into the Gulf Cooperation Council (GCC). After calibrating the model to Yemen and the GCC block, several simulations are carried out to estimate the potential impact of economic integration on both regions. The paper draws two fundamental conclusions. First, regional integration enhances competition which produces large economic benefits for both Yemen and the GCC. In particular, we show that in some cases economic integration can increase GDP in Yemen by up to 14% and in the GCC by up to 7% over the long run. Second, even if market structures do not improve substantially, GCC enlargement can still generate substantial spillover gains in each block. More specifically, one measure of economic prosperity measured by consumption can increase by up to 7% in Yemen and up to 8% in the GCC.

Much Ado About Nothing? Estimating the Impact of a U.S. Slowdown on Thai Growth

External demand was the main driver of growth in Thailand in 2006 and 2007. However, WEO projections indicate moderating foreign demand in 2008, with U.S. growth being revised downwards to reflect the turmoil in housing and credit markets, and high oil prices. While the share of Thai exports to the US has fallen in recent years, the US remains Thailands largest export destination. We use a small structural model and Bayesian estimation to assess the possible impact of a U.S. slowdown on Thai growth. We find that a 1 percent slowdown in U.S. growth in 2008-relative to the baseline forecast-could have an upper-bound impact on Thai GDP growth of 0.9 percentage points.

The Role of Interest Rates in Business Cycle Fluctuations in Emerging Market Countries: The Case of Thailand

Emerging market countries have enjoyed an exceptionally favorable economic environment throughout 2004, 2005, and early 2006. In particular, accommodative U.S. monetary policy in recent years has helped create an environment of low interest rates in international capital markets. However, if world interest rates were to take a sudden upward course, this would lead to less hospitable financing conditions for emerging market countries. The purpose of this paper is to measure the effects of world interest rate shocks on real activity in Thailand. The analysis incorporates balance sheet related credit market frictions into the IMF’s Global Economy Model (GEM) and finds that Thailand would best minimize the adverse effects of rising world interest rates if it were to follow a flexible exchange rate regime.