Laura Piscitelli

The Impact of Exchange Rate Uncertainty on the Level of Investment

Conventional wisdom has it that increasing price or exchange rate uncertainty will depress investment. Using the Dixit-Pindyck (1994) model, the authors find that there are situations where this will happen and situations where it does not. There are threshold effects, which allows them to identify when rising volatility would increase or decrease investment and also to identify which types of industries would gain, and which would suffer, from a move to fixed exchange rates. This is important for monetary union in Europe since it is likely that, even if trade is insensitive to exchange rate volatility, investment with its longer horizon will be affected. Coauthors are Andrew Hughes Hallett, Jonathan Ireland, and Laura Piscitelli.

A Test for Strong Hysteresis

The mathematical definition of systems withhysteresis, that is nonlinear input-output systemswith memory, is different from the definition usuallyapplied to economic systems. Economic theory andmodelling practice have almost always specified simpledynamic systems with regular leads and lags in theirresponses, corresponding to input-output systems withunit or zero (or at least stable) roots. These modelscannot capture the ‘selective memory’ feature ofhysteretic behaviour, that is, the influence only ofcertain past events (typically, non-dominatedsequences of previous peaks and troughs). There istherefore a difficulty in testing for and validatingeconomic models containing hysteretic behaviour;appropriate empirical tests have not been developed.In particular, the usual unit vs. zero (or stable)root tests used in econometric analysis are unable todetect hysteretic behaviour or to distinguish it frommore conventional economic behaviour. The purpose ofthis paper is to propose a new way of testing forhysteresis, by drawing on some ideas in themathematical/control theory literature and adaptingthem to fit into the economic frameworks with elementsof hysteresis.

Does trade integration cause convergence

Abstract Using a business cycle model, we analyse the conditions for trade integration to produce economic convergence. We find large, stable economies with integrated structures are likely to diverge. But smaller, more volatile or less well integrated economies will converge. The symmetry of shocks is unimportant.

EMU in Reality: The Effect of a Common Monetary Policy on Economies with Different Transmission Mechanisms

The theory of optimal currency areas states that a single currency zone should have symmetry of shocks and structures across regions. Research on monetary union in Europe has either assumed these conditions to hold close enough not to cause problems, or has focussed on asymmetries in shocks. But what if economic structures and/or market responses differ between countries or regions? This paper examines the consequences of a single monetary policy when there are asymmetries in i) the monetary transmissions; ii) the wage/price transmissions; and iii) private sector asset holdings. We find the first and last destabilise the business cycle, and put countries out of phase with one another in a way that cannot be corrected by deficit constrained fiscal policies. The effect is to delay convergence.

Testing for hysteresis against nonlinear alternatives

Abstract A number of studies have hypothesised certain economic behaviour to be hysteretic, but few have actually been able to establish hysteretic behaviour in the data. This is because of the lack of an effective test for hysteresis. This paper compares and contrasts two new measures of hysteretic behaviour, designed explicitly for detecting hysteresis in economic systems. Using Monte Carlo techniques, we show that one has considerably more power than the other against nonlinear, cyclical or multiple equilibria alternatives in the presence of random disturbances. The key properties of this measure appear to be functional form independence and rate independence.

Does One Size Fit All? A currency union with asymmetric transmissions and a stability pact

The theory of optimal currency areas stresses that a single currency zone should have symmetry across shocks and structures. What happens if the monetary transmission mechanisms differ so that a common monetary policy has different effects in different places? Using a fully specified econometric model, we find that such asymmetries are likely to destabilise the business cycle and put countries out of phase with each other in a way that cannot be corrected by deficit-constrained national fiscal policies. Market discipline, however, could achieve this. Hence, the question is whether the markets would create sufficient discipline on their own.

On entry and exit in response to aggregate shocks

This note extends the Dixit-Pindyck analysis of investment, in the form of market entry and exit under sunk costs, to the case of heterogeneous sunk costs. The implication is that the market displays full hysteresis, in the form of remanence and dependence on the nondominated extremum values of the aggregate shocks experienced. These implications are illustrated by numerical simulations.

Simple reordering techniques for expanding the convergence radius of first-order iterative techniques

Abstract This paper contains a new convergence theorem for Gauss–Seidel (SOR) iterations. We use that theorem to show how to reorder equations to improve the speed of convergence of those iterations and to extend their radius of convergence. It is not generally optimal to minimise the number or size of the above diagonal elements in a nonrecursive system.

On the Asymmetric Impacts of a Common Monetary Policy in Europe

Economists have long feared that economic convergence towards monetary union might be superficial or short-lived; more the product of political will than of economic advantage or market incentives. The worry is the convergence criteria were defined in nominal terms, and for one particular moment of time. This says nothing about convergence in structures and responses, or about the ability to remain converged over a period of time. If significant differences remain in structures, or in the national responses to policy changes, shocks, or other events, then it is inevitable that common policies — and a common monetary policy in particular — will have different impacts in different places. That could delay convergence, if not start to drive the union’s economies apart.

A probabilistic framework for hysteresis

We introduce a probabilistic framework for hysteresis, a ubiquitous phenomenon in economic situations involving sunk costs. The framework is applied to a simple model of a firms market entry/exit decisions. We study the influence of sunk cost size, width of the hysteretic loop, and of availability of local information on wealth creation in a sector of the economy.