Roger N. Waud

The Almon Lag Technique and the Monetary Versus Fiscal Policy Debate

Abstract This article discusses possible problems associated with the Almon lag technique, caused by misspecification of the length of the lag or the degree of the polynomial. It is argued that the choice of the lag length is particularly treacherous. Finally, two studies of the relative importance of fiscal and monetary policy are reexamined, and it is shown how insufficient attention to these problems has significantly affected their conclusions.

Monetary Policy Reaction Functions, Consistent Expectations, and the Burns Era

THIS PAPER ESTIMATES monetary policy reaction functions for the 197W77 period using monthly data. These estimates shed light on several questions regarding monetary policy during the Burns era. During this period the Federal Reserve expressed an increased interest in the behavior of monetary aggregates that led to the articulation of specific growth targets for these aggregates. However, a number of analysts have questioned the degree to which the Federal Reserve has systematically responded to deviations from such targets and its willingness to allow the variability of interest rates required for effective control of the money stock. Critics have also charged that during the Burns era the Federal Reserve failed to take syetematic and sustained action in response to price instability, and that attempts to curb inflation consisted of short periods of monetary stringency interspersed with periods of relative ease dictated by concerns over rising unemployment. In the international sphere, the move to a floating exchange rate for the dollar (March 1973) has raised the question of whether and to what extent Federal Reserve policy has responded to changes in the strength of the dollar. More broadly, critics have charged that the Federal Reserve has not responded in a balanced systematic way to stabilization targets, that instead it has responded erratically, attempting to achieve one goal and then another, some say in part due to

An Examination of Aggregate Price Uncertainty in Four Countries and Some Implications for Real Output

This study constructs measures of aggregate price uncertainty for four industrialized countries (Canada, West Germany, Great Britain, and the United States) and attempts to assess the extent to which more rapid and more variable price changes appear to have contributed to increased aggregate price uncertainty. For this purpose we examine the relationship across countries and through time between the rate of inflation, inflation variability, and our measures of price uncertainty. In addition we use our measures of price uncertainty to examine the hypothesis, variously put forward by Marshall, Keynes, Milton Friedman, and Okun, that higher aggregate price uncertainty is likely tor esult in lower real output and higher unemployment. Our results suggest that the higher and more variable inflation of the 1970s did increase uncertainty about the aggregate price level in Canada, Great Britain and the United States, but the evidence for West Germany would not sustain such a conclusion. Finally,we did find evidence of a significant negative output effect of aggregate price uncertainty for Canada and the United Kingdom, but not for the United States or West Germany.

The Asymmetric Effects of Political Pressures on U.S. Monetary Policy

Abstract A number of studies have estimated reaction functions focusing solely on economic state variables such as inflation and unemployment. Other reaction function studies have focused on political measures as regressors. In this study we include both sets of variables to see if political measures are significant when we control for economic state variables. Reaction functions are estimated for the 1959–91 period and for subperiods corresponding to the tenures of different Federal Reserve Board chairmen. We find significant effects for a measure of political influence on the Federal Reserve for the whole period and some subperiods.

The Changing Relationship between Aggregate Price and Output: The British Experience

Over the past two and a half decades Great Britain has exhibited the most noticeable increase in inflation variability among the ten major noncommunist industrialized countries. In addition, there has been an apparent worsening in the output-inflation tradeoff. This paper attempts to identify and empirically assess possible causes of the deterioration in the British output-inflation tradeoff in the context of a new classical-type model. Supply-side shocks can cause an increase in the inflation rate and a decrease in real output, and it is estimatedthat such shocks interacted with inflation variability to reduce real output roughly 3.3 percent between the period 1957-1968 and the period 1969-1980. Also contributing to the deterioration in the output-inflation tradeoff, it is estimated that the decline in the natural rate of real output due to inflation variability (as hypothesized by Milton Friedman) amounted to about 2.3 to 2.5 percent between these two subperiods.

The determinants of Federal Reserve policy actions: A re-examination

In an earlier article (Journal of Macroeconomics, 1997) we presented estimates of Federal Reserve reaction functions including variables representing economic and political influences. Our goal was to examine the relative importance of political versus economic influences in determining Federal Reserve actions, as well as to see which economic state variables influenced Federal Reserve actions during various time periods. This paper extends our earlier work in three ways. First, we re-estimate the monetary policy reaction functions in our earlier study in a way which obviates possible reverse causation problems and better approximates the information set that was available to the Open Market Committee at the time its decisions were made. Second, we now have five more years of data which allows us to examine the Greenspan years more fully. Third, we divide our sample period, 1965-1994, into two sub-periods, pre-1979 and post-1979, to examine the view that the Federal Reserve evidenced greater concern for inflation in the latter sub-period. The essential change from our earlier study is to use the interval between FOMC meetings as our observation rather than a calendar month. This change is shown to have significant effects on the estimated importance of political factors and economic state variables as determinants of Federal Reserve actions.

Optimal seigniorage versus interest rate smoothing

Abstract Various studies have found support for the optimal seigniorage hypothesis in postwar U.S. data. Others find support for an interest rate smoothing hypothesis. The problem is that these hypotheses can be observationally equivalent, yet both cannot be valid at the same time. This paper finds that U.S. data do not support a key implication of the optimal seigniorage hypothesis, but do support the interest rate smoothing hypothesis during certain Fed chairman regimes.

The variability of output-inflation tradeoffs

Abstract This paper examines the nature of the variability of the output-inflation tradeoff in the United States, Canada, and the United Kingdom. A stochastic coefficient regression specification is used to allow for the possibility that the tradeoff varies continuously over time. Where our estimates show evidence of variability in the terms of the output-inflation tradeoff we examine the extent to which such variability might be associated with period-by-period variation in the variance of inflation and aggregate demand along lines suggested by the new classical models of Robert Lucas.

Net Outlay Uncertainty and Liquidity Preference as Behavior toward Risk

In the mean variance portfolio framework, as developed by Tobin, the only reason for holding the riskless asset money is to guard against the possibility of loss of value due to the variability of the rate of return on the risky asset, or assets. The purpose of this paper is to introduce another familiar rationale for liquidity preference into the mean-variance framework and analyze its implications for risk-bearing, portfolio behavior. This rationale stems from the uncertainty surrounding income or inflow and expenditure or outlay or what we may call net outlay (net outlay equals income or inflow minus expenditures or outflow), and the inherent threat of forced portfolio liquidation associated with this type of uncertainty. It is shown that in the net-outlay uncertainty model that risk neutral investors, risk lovers, and plungers may all exhibit portfolio diversifying behavior, unlike their implied behavior in the usual Tobin-type, mean-variance framework. For simplicity we assume that there are only two assets-cash and savings accounts. Like Tobins [6] analysis and much of the subsequent mean-variance portfolio literature,l we will focus only on one time period. Hence it is assumed that the individual or firm makes a decision about portfolio holdings on the first day of the period and that this decision fixes the portfolio until the last day of the period. We will assume that there is no uncertainty about the rate of return on the savings account on the last day of the period, the concern in the usual mean-

Politics, deficits, and the Laffer curve

ConclusionsEven if there were only a positively sloped tax rate-tax revenue relationship, or if a negatively sloped region were not in the relevant tax rate range, the existence of a lagged private sector response to tax rate change that exceeds the relevant time horizon for political decision makers is conducive to the existence of a budget deficit bias. Given the existence of a negatively sloped region of the Laffer curve, especially if it begins at reasonably low tax rates, determined attempts to eliminate or just reduce deficits can become self-defeating, particularly if there is a structural deficit.3 Moreover, once the economy is on the downward sloping portion of the Laffer curve a combination of political expediency, uncertainty about the shape of the curve, and a common belief that tax rate increases reduce deficits all can conspire to keep the budget trapped in deficit. Finally, given the existence of inflation and a marginally progressive income tax, deficit growth may be less if there is indexation of income tax rates to inflation, contrary to conventional wisdom.