Working Papers
2017
May 5, 2017
Farms, Fertiliser, and Financial Frictions: Yields from a DSGE Model
Description: This paper develops a Dynamic Stochastic General Equilibrium (DSGE) model with a financial accelerator which captures key features of low-income countries (LICs). The predominance of supply shocks in LICs poses distinct challenges for policymakers, given the negative correlation between inflation and the output gap in the case of supply shocks. Our results suggest that: (1) in the face of a supply-side shock, the most desirable interest rate rule involves simply targeting current inflation and smoothing the policy interest rate; and (2) ignoring financial frictions when evaluating policy rules can be particularly problematic in LICs, where financial frictions loom especially large.
May 5, 2017
Bank Balance Sheets and the Value of Lending
Description: We study 1,400 UK syndicated loans, together with the financial history of the lead bank and the borrowing firm. We interpret abnormal equity returns around loan announcements as the value of the lending relationship to the firm. We find that: (i) Consistent with previous evidence, the value of lending is higher when the firm is riskier or more opaque, suggesting that it primarily reflects the lead bank’s screening and monitoring activities. (ii) As a bank becomes larger, more profitable or more capitalized, the value of its loans first increases and then decreases. The largest, most capitalised or most profitable banks do not give the most valuable loans. (iii) Firms which receive low-value loans are more likely to experience low profitability and financial distress during the lending relationship. By relating the state of bank balance sheets to borrower performance, we offer a new angle to evaluate the impact of financial conditions on the real economy.
May 5, 2017
Can They Do It All? Fiscal Space in Low-Income Countries
Description: According to U.N. estimates, low-income countries will have to increase their annual public spending by up to 30 percent of GDP to achieve the Sustainable Development Goals (SDGs), raising the question of whether they can do it all. This paper develops a new metric of fiscal space in low-income countries that accounts for macroeconomic uncertainty, allowing us to assess whether those spending needs can be accommodated. Illustrative simulations based on this methodology imply that, even under benign conditions, the fiscal space available in lowincome countries is likely insufficient to undertake the spending needed to achieve the SDGs. Improving public investment efficiency and domestic revenue mobilization can somewhat narrow the gap but it will require major efforts relative to recent trends.
May 5, 2017
Evaluating the Impact of Non-Financial IMF Programs Using the Synthetic Control Method
Description: We use the Synthetic Control Method to study the effect of IMF advice on economic growth, inflation, and investment. The analysis exploits the existence of IMF programs that do not involve any financing (Policy Support Instruments, “PSIs”). This enables us to focus on the effects of IMF monitoring, advice, and approval (as opposed to direct financial assistance). In addition, countries with non-financial programs are typically not crisis-struck – thereby mitigating the reverse causality problem and facilitating the construction of counterfactuals. Results suggest that treated countries add about 1 percentage point in annual real GDP per capita growth, with inflation being lower by some 3 percentage points per year. While we do not find evidence for an impact on total investment and the resulting capital stock, PSI-treatment does seem to stimulate foreign direct investment.
May 4, 2017
Variance Decomposition Networks: Potential Pitfalls and a Simple Solution
Description: Diebold and Yilmaz (2015) recently introduced variance decomposition networks as tools for quantifying and ranking the systemic risk of individual firms. The nature of these networks and their implied rankings depend on the choice decomposition method. The standard choice is the order invariant generalized forecast error variance decomposition of Pesaran and Shin (1998). The shares of the forecast error variation, however, do not add to unity, making difficult to compare risk ratings and risks contributions at two different points in time. As a solution, this paper suggests using the Lanne-Nyberg (2016) decomposition, which shares the order invariance property. To illustrate the differences between both decomposition methods, I analyzed the global financial system during 2001 – 2016. The analysis shows that different decomposition methods yield substantially different systemic risk and vulnerability rankings. This suggests caution is warranted when using rankings and risk contributions for guiding financial regulation and economic policy.
May 4, 2017
Multivariate Filter Estimation of Potential Output for the United States
Description: Estimates of potential output are an important component of a structured forecasting and policy analysis system. Using information on capacity utilization, this paper extends the multivariate filter developed by Laxton and Tetlow (1992) and modified by Benes and others (2010), Blagrave and others (2015), and Alichi and others (2015). We show that, although still fairly uncertain, the real-time estimates from this approach are more accurate than estimates constructed from naïve univariate statistical filters. The paper presents illustrative estimates for the United States and discusses how the end-of-sample estimates can be improved with additional information.
May 4, 2017
Investing in Public Infrastructure: Roads or Schools?
Description: Why do governments in developing economies invest in roads and not enough in schools? In the presence of distortionary taxation and debt aversion, the different pace at which roads and schools contribute to economic growth turns out to be central to this decision. Specifically, while costs are front-loaded for both types of investment, the growth benefits of schools accrue with a delay. To put things in perspective, with a “big push,” even assuming a large (15 percent) return differential in favor of schools, the government would still limit the fraction of the investment scale-up going to schools to about a half. Besides debt aversion, political myopia also turns out to be a crucial determinant of public investment composition. A “big push,” by accelerating growth outcomes, mitigates myopia—but at the expense of greater risks to fiscal and debt sustainability. Tied concessional financing and grants can potentially mitigate the adverse effects of both debt aversion and political myopia.
May 4, 2017
Taking Stock: Who Benefited from the Oil Price Shocks?
Description: The effect that the recent decline in the price of oil has had on growth is far from clear, with many observers at odds to explain why it does not seem to have provided a significant boost to the world economy. This paper aims to address this puzzle by providing a systematic analysis of the effect of oil price shocks on growth for 72 countries comprising 92.8% of world GDP. We find that, on net, shocks driving the oil price in 2015 shaved off 0.2 percentage points of growth for the median country in our sample, and 0.17 percentage points in GDP-weighted terms. While increases in oil supply and shocks to oil-specific demand actually boosted growth in 2015 (by about 0.2 and 0.4 percentage points, respectively), weak global demand more than offset these gains, reducing growth by 0.8 percentage points. Counterfactual simulations for the 72 countries in our sample underscore the importance of diversification, rather than low levels of openness, in shielding against negative shocks to the world economy.
May 3, 2017
Reforming Energy Policy in India: Assessing the Options
Description: Spreadsheet models are used to assess the environmental, fiscal, economic, and incidence effects of a wide range of options for reducing fossil fuel use in India. Among the most effective options is ramping up the existing coal tax. Annually increasing the tax by INR 150 ($2.25) per ton of coal from 2017 to 2030 avoids over 270,000 air pollution deaths, raises revenue of 1 percent of GDP in 2030, reduces CO2 emissions 12 percent, and generates net economic benefits of approximately 1 percent of GDP. The policy is mildly progressive and (at least initially) imposes a relatively modest cost burden on industries.
May 1, 2017
Central Bank Legal Frameworks in the Aftermath of the Global Financial Crisis
Description: Drawing on the 2016 update of the IMF’s Central Bank Legislation Database, this paper examines differences in central bank legal frameworks before and after the Global Financial Crisis. Examples from select countries show that many central bank laws have undergone changes in objectives, decision-making, accountability, and data collection. A wider cross-country survey illustrates the common occurrence of price stability in central bank objectives, and varying practices in defining financial stability, “independence” versus “autonomy,” and who within a central bank determines monetary policy. The highlighted facts illustrate the uses of the database and could be a starting point for further analyses.