Working Papers
2010
December 1, 2010
Macroeconomic Effects of Public Pension Reforms
Description: The paper explores the macroeconomic effects of three public pension reforms, namely an increase in retirement age, a reduction in benefits and an increase in contribution rates. Using a five-region version of the IMF‘s Global Integrated Monetary and Fiscal model (GIMF), we find that public pension reforms can have a positive effect on growth in both the short run, propelled by rising consumption, and in the long run, due to lower government debt crowding in higher investment. We also find that a reform action undertaken cooperatively by all regions results in larger output effects, reflecting stronger capital accumulation due to higher world savings. An increase in the retirement age reform yields the strongest impact in the short run, due to the demand effects of higher labor income and in the long run because of supply effects.
December 1, 2010
Learning About Inflation Measures for Interest Rate Rules
Description: Empirical evidence suggests that goods are highly heterogeneous with respect to the degree of price rigidity. We develop a DSGE model featuring heterogeneous nominal rigidities across two sectors to study the equilibrium determinacy and stability under adaptive learning for interest rate rules that respond to inflation measures differing in their degree of price stickiness. We find that rules responding to headline inflation measures that assign a positive weight to the inflation of the sector with low price stickiness are more prone to generate macroeconomic instability than rules that respond exclusively to the inflation of the sector with high price stickiness. By this we mean that they are more prone to induce non-learnable fundamental-driven equilibria, learnable self-fulfilling expectations equilibria, and equilibria where fluctuations are unbounded. We discuss how our results depend on the elasticity of substitution across goods, the degree of heterogeneity in price rigidity, as well as on the timing of the rule.
December 1, 2010
European Financial Linkages: A New Look At Imbalances
Description: We document external investment positions among European Union countries at the start of the financial crisis through the creation of a new database comprising bilateral external financial asset and liabilities, excluding reserve assets and derivatives. While there are some gaps in the data, the overall coverage of reported bilateral net international investment positions (IIPs) appears satisfactory. The dataset provides a richer picture of financial linkages, enabling us to map the financing of Euro area imbalances. Creditor and debtor positions vis-à-vis the rest of the EU have tended to increase between 2000 and 2008, with capital flowing largely from wealthier to catching-up economies. This has in particular resulted in an increased interdependency among Euro Area economies.
December 1, 2010
Rebalancing in Japan: The Role of Private Consumption
Description: Boosting growth through rebalancing is critical for addressing pressures from Japan’s aging population. This paper focuses on one important untapped source of growth - private consumption, and argues that the key to reviving consumption is boosting household disposable income through higher wages, especially in services, and higher property income. The paper also suggests that the impact of higher property income on consumption could be potentially large.
December 1, 2010
Export Versus FDI in Services
Description: In the literature on exports and investment, most productive firms are seen to invest abroad. In the Helpman et al. (2004) model, costs of transportation play a critical role in the decision about whether to serve foreign customers by exporting, or by producing abroad. We consider the case of tradable services, where the marginal cost of transport is near zero. We argue that in the purchase of services, buyers face uncertainty about product quality, especially when production is located far away. Firm optimisation then leads less productive firms to self-select themselves for FDI. We test this prediction with data from the Indian software industry and find support for it.
December 1, 2010
Income Uncertainty and Household Savings in China
Description: China’s household saving rate has increased markedly since the mid-1990s and the age-savings profile has become U-shaped. We find that rising income uncertainty and pension reforms help explain both of these phenomena. Using a panel of Chinese households covering the period 1989-2006, we document that strong average income growth has been accompanied by a substantial increase in income uncertainty. Interestingly, the permanent variance of household income remains stable while it is the transitory variance that rises sharply. A calibration of a buffer-stock savings model indicates that rising savings rates among younger households are consistent with rising income uncertainty and higher saving rates among older households are consistent with a decline in the pension replacement ratio for those retiring after 1997. We conclude that rising income uncertainty and pension reforms can account for over half of the increase in the urban household savings rate in China since the mid-1990s as well as the U-shaped age-profile of savings.
December 1, 2010
Transforming China: Insights from the Japanese Experience of the 1980s
Description: China is poised on the brink of a transition to a service-based economy. The Japanese experience of the 1980s provides several insights about the way to manage such a transition and the downsides to avoid. In particular Japan offers useful insights on (1) the limits to an export-oriented growth strategy; (2) the role of exchange rate, macroeconomic policies, and structural reforms in rebalancing the economy toward the nontradables sector; and (3) the risks associated with financial liberalization. The similarities between the Chinese economy today and the Japanese economy of the 1980s make these insights relevant for China. However, with the benefit of analyzing the Japanese experience and, given the important differences between the two economies, China should be able to successfully rebalance its growth pattern while avoiding the downsides encountered by Japan.
December 1, 2010
Managing Public Debt and Its Financial Stability Implications
Description: This paper explores the relationship between the level and management of public debt and financial stability, and explains the channels through which the two are interlinked. It suggests that the broader implications of a debt management strategy and its implementation should be carefully analyzed by debt managers and policy makers in terms of their impact on the government's balance sheet, macroeconomic developments, and the financial system.
December 1, 2010
Are House Prices Rising Too Fast in China?
Description: Sharp increase in house prices combined with the extraordinary Chinese lending growth during 2009 has led to concerns of an emerging real estate bubble. We find that, for China as a whole, the current levels of house prices do not seem significantly higher than would be justified by underlying fundamentals. However, there are signs of overvaluation in some cities’ mass-market and luxury segments. Unlike advanced economies before 2007-8, prices have tended to correct frequently in China.Given persistently low real interest rates, lack of alternative investment and mortgage-to-GDP trend, rapid property price growth in China has, and will continue to have,a structural driver.
December 1, 2010
Are House Prices Rising too Fast in Hong Kong SAR?
Description: Sharp increase in house prices in Hong Kong SAR in 2009-2010 has led to concerns of an emerging real estate bubble. According to our measure of price deviation from fundamentals, which should be taken as an early warning indicator of market exuberance, the current level of house prices in Hong Kong SAR does not seem to be significantly higher than would be justified by underlying fundamentals. Moreover, unlike advanced economies before 2007-8, deviation from fundamentals has not been persistent in Hong Kong.Going forward, low interest rate and improving growth prospects, as well as a tight supply, particularly in the mass market, means that house price growth will continue to be strong.This is the period in which vulnerability may be accumulating, and tight prudential standards and fiscal measures will be required to tame price inflation.