Peter Isard

Capital Controls, Political Risk, and Deviations from Interest-Rate Parity

It is shown that the interest differential due to political risk, given the prospect of future capital controls, depends essentially on the gross stocks of debt outstanding against different governments and the distribution of world wealth among residents of different political jurisdictions. A simple model of portfolio behavior is used to explain the differential between Euromark rates and interest rates within Germany in the presence of controls on capital flows into Germany between 1970 and 1974. The explanation separates the interest differential into the effective tax imposed by existing controls and a political risk premium associated with prospective controls.

Monetary Policy Strategies

The merits of rules and discretion for monetary policy are considered when the structure of the macroeconomic model and the probability distributions of disturbances are not well defined. When it is costly to delay policy reactions to seldom-experienced shocks until formal algorithmic learning has been accomplished, and when time-consistency problems are significant, a mixed strategy that combines a simple verifiable rule with discretion is attractive. The paper also discusses mechanisms for mitigating credibility problems and emphasizes that arguments against some types of simple rules lose their force under a mixed strategy.

The Effectiveness of Using the Tax System to Curb Inflationary Collective Bargains: An Analysis of the Wallich-Weintraub Plan

For several years prior to the 1971 enactment of wage-price controls, the persistent U.S. inflation kindled much discussion of incomes policy. Among the interesting proposals which emerged, one of the more novel was a prescription for using the tax system to curb inflationary collective bargains. This approach was at first advocated separately by Henry C. Wallich (1970a, 1970b) and Sidney Weintraub (1971), who later collaborated in outlining a tax-based incomes policy (TIP).1 Following a history of frustration in other attempts to improve the long-run tradeoff between high employment and price stability, such proposals warrant serious attention. The purpose of this note is to analyze the economic incentives that TIP would provide, in order to identify conditions under which it would succeed, in theory, at holding down both wages and prices (Sections III and IV). Brief consideration is also given to the equally important practical aspects of designing and administering a set of efficient and equitable tax rules (Section II). The effectiveness of TIP is argued to be ambiguous in theory, insofar as it depends primarily upon assumptions which are not easily verified. In addition, several practical difficulties are noted.

Multimod Mark III: The Core Dynamic and Steady State Model

This study describes the Mark III version of MULTIMOD, the IMFs multi region macroeconomic model. Mark III version of MULTIMOD differs from its predecessor in several important respects. New features include a core steady-state analogue model, a new model of teh inflation-unemployment nexus, and extended non-Ricardian specification of consumption-saving behavior, and improved specifications and estimates of investment behavior and international trade equations. In addition, the introduction of a new solution algorithm has greatly increased the robustness, speed of convergence, and accuracy of the simulations.

Simple Monetary Policy Rules Under Model Uncertainty

Using stochastic simulations and stability analysis, the paper compares how different monetary policy rules perform in a moderately nonlinear model with a time-varying NAIRU. Rules that perform well in linear models but implicitly embody backward-looking measures of real interest rates (such as conventional Taylor rules) or substantial interest rate smoothing perform very poorly in models with moderate nonlinearities, particularly when policymakers tend to make serially-correlated errors in estimating the NAIRU. This challenges the practice of evaluating policy rules within linear models, in which the consequences of responding myopically to significant overheating are extremely unrealistic.

Uncovered Interest Parity

This paper provides an overview of the uncovered interest parity assumption. It traces the history of the interest parity concept, summarizes evidence on the empirical validity of uncovered interest parity, and discusses different interpretations of the evidence and the implications for macroeconomic analysis. The uncovered interest parity assumption has been an important building block in multiperiod models of open economies, and although its validity is strongly challenged by the empirical evidence, at least at short time horizons, its retention in macroeconomic models is supported on pragmatic grounds by the lack of much empirical support for existing models of the exchange risk premium.

Methodology for Current Account and Exchange Rate Assessments

This chapter reports on Coordinating Group on Exchange Rate Issues’ (CGER) works and provides perspectives on alternative frameworks for assessing exchange rates and the rationale for CGERs general approach. The primary motivation for the work of the CGER is to identify cases where exchange rates appear to be substantially out of line with medium-run macroeconomic fundamentals. It is recognized that such situations can have different interpretations, depending on the cyclical positions of economies and other circumstances. The assessments of exchange rates among industrial country currencies rely primarily on an application of a macroeconomic balance framework. This framework focuses on the extent to which the current account positions associated with prevailing exchange rates are consistent with medium-run fundamentals. Substantial discrepancies between exchange rates and their medium-run equilibrium levels, when they emerge, raise two different, however, related issues for the IMF to address in its exercise of bilateral and multilateral Surveillance.

Equilibrium Exchange Rates: Assessment Methodologies

The paper describes six different methodologies that have been used to assess the equilibrium values of exchange rates and discusses their limitations. It applies several of the approaches to data for the United States as of 2006, illustrates that different approaches sometimes provide substantially different assessments, and asks which methodologies deserve the most weight in such situations. It argues that while it is generally desirable to consider the implications of several different approaches, since different approaches provide different types of perspectives, two of the methodologies seem particularly relevant for identifying threats to macroeconomic stability and growth.

A portfolio-balance rational-expectations model of the dollar-mark exchange rate

Abstract A model is developed in which current account imbalances can be ‘financed’ through transfers of bonds denominated in either currency. The reduced form links the current spot rate to the expected future spot rate via a risk premium, which depends on the global currency mix of outside assets that governments impose on private portfolios through budget deficits and interventions and on the global distribution of private wealth among regions with different portfolio preferences. An iterative procedure generates rational expectations forecasts of the dollar-mark rate which perform somewhat better than forward rates in predicting monthly changes in the spot rate.

The Portfolio-Balance Model of Exchange Rates and Some Structural Estimates of the Risk Premium

Este articulo se centra en el modelo de equilibrio de cartera como marco conceptual para abordar varias cuestiones todavia no resueltas sobre el comportamiento de los tipos de cambio. Un objetivo importante es contribuir a una mejor comprension de la importancia relativa de los diferentes cauces a traves de los cuales los desequilibrios en cuenta corriente pueden influir en los tipos de cambio. Un segundo objetivo es el de facilitar estimaciones estructurales de la prima de riesgo en una determinada moneda, definida como la diferencia entre la tasa prevista de apreciacion y la prima a termino correspondiente a esa moneda. Se demuestra que la prima de riesgo depende de los deficit presupuestarios, de los desequilibrios en cuenta corriente y de la intervencion oficial en divisas. Las primas a termino observadas han sido pequenas en relacion con las variaciones de los tipos de cambio registradas desde marzo de 1973. De por si, esto no significa necesariamente que las variaciones cambiarias hayan sido predominantemente imprevistas, dado que las primas de riesgo pueden ser elevadas. Sin embargo, la interpretacion que aqui se ofrece de los datos empiricos, utilizando el modelo de equilibrio de cartera, indica que las primas de riesgo pueden explicar solamente una proporcion reducida de las discrepancias entre las primas a termino y las variaciones observadas de los tipos de cambio. Se sugiere, pues, en conclusion, que las primas de riesgo no han desempenado un papel prominente en la determinacion de los tipos de cambio y que las variaciones cambiarias han sido en su mayor parte imprevistas por los participantes en el mercado.Este articulo se centra en el modelo de equilibrio de cartera como marco conceptual para abordar varias cuestiones todavia no resueltas sobre el comportamiento de los tipos de cambio. Un objetivo importante es contribuir a una mejor comprension de la importancia relativa de los diferentes cauces a traves de los cuales los desequilibrios en cuenta corriente pueden influir en los tipos de cambio. Un segundo objetivo es el de facilitar estimaciones estructurales de la prima de riesgo en una determinada moneda, definida como la diferencia entre la tasa prevista de apreciacion y la prima a termino correspondiente a esa moneda. Se demuestra que la prima de riesgo depende de los deficit presupuestarios, de los desequilibrios en cuenta corriente y de la intervencion oficial en divisas. Las primas a termino observadas han sido pequenas en relacion con las variaciones de los tipos de cambio registradas desde marzo de 1973. De por si, esto no significa necesariamente que las variaciones cambiarias hayan sido predominantemente imprevistas, dado que las primas de riesgo pueden ser elevadas. Sin embargo, la interpretacion que aqui se ofrece de los datos empiricos, utilizando el modelo de equilibrio de cartera, indica que las primas de riesgo pueden explicar solamente una proporcion reducida de las discrepancias entre las primas a termino y las variaciones observadas de los tipos de cambio. Se sugiere, pues, en conclusion, que las primas de riesgo no han desempenado un papel prominente en la determinacion de los tipos de cambio y que las variaciones cambiarias han sido en su mayor parte imprevistas por los participantes en el mercado.