Working Papers
1999
July 1, 1999
We Just Averaged over Two Trillion Cross-Country Growth Regressions
Description: We investigate the issue of model uncertainty in cross-country growth regressions using Bayesian model averaging (BMA). We find that the posterior probability is distributed among many models, suggesting the superiority of BMA over any single model. Out-of-sample predictive results support that claim. In contrast with Levine and Renelt (1992), our results broadly support the more “optimistic” conclusion of Sala-i-Martin (1997b), namely, that some variables are important regressors for explaining cross-country growth patterns. However, the variables we identify as most useful for growth regression differ substantially from Sala-i-Martin’s results.
July 1, 1999
Global Moral Hazard, Capital Account Liberalization and the “Overlending Syndrome”
Description: The removal of government guarantees in borrowing countries does not eliminate the moral hazard problem posed by the existence of deposit guarantees in lender countries. The paper shows that, after restrictions on international capital flows are lifted, banks in low-risk developed countries benefit from lending funds captured in home markets at low deposit rates to high-risk/high-yield projects in emerging economies, even though these projects command lower expected returns. This, in turn, has a negative impact on bank profitability in the borrowing country, even when foreign funds are intermediated through domestic banks. The results are consistent with the surge in international bank lending flows that led to recent banking crises in Asia.
July 1, 1999
The Rise and Fall of the Pyramid Schemes in Albania
Description: What lessons can be drawn from the unprecedented growth and spectacular collapse of financial pyramid schemes in Albania? This paper discusses the origins of the pyramid schemes and the way the authorities handled them. It also analyzes the economic effects of the pyramid schemes, concluding that despite the descent into anarchy triggered by the schemes’ collapse their direct effects on the economy are difficult to specify and appear to have been limited. Finally, the paper argues that prevention of pyramid schemes is better than cure, and that governments and international financial institutions should be vigilant in clamping down on frauds.
July 1, 1999
Measures of Potential Output: An Application to Israel
Description: This paper estimates measures of potential output for Israel, with the aim of providing evidence on whether the recent growth slowdown is principally a cyclical slowdown or a structural shift toward a slower growth path after the dramatic developments associated with the years of heavy immigration. Israel poses a challenge because traditional methods of measuring potential output assume relatively stable conditions over an extended period of time. We employ five methodologies to derive estimates and find that four of the measures imply the slowdown stems largely from reduced growth of potential output rather than a cyclical slowdown.
July 1, 1999
The Structural Budget Balance The IMF’s Methodology
Description: This paper describes the methodology used by the IMF staff to calculate the structural budget balance, estimates of which are published regularly in the IMF’s World Economic Outlook. The structural budget balance is the government’s actual fiscal position purged of the estimated budgetary consequences of the business cycle, and is designed in part to provide an indication of the medium-term orientation of fiscal policy. Interpretation of the structural budget balance requires caution in several respects, however, some of which are reviewed in the paper. The paper then considers briefly the potential usefulness of the structural budget balance as a tool for enforcement--under the Stability and Growth Pact--of the European Economic and Monetary Union reference value on the deficit specified in the Maastricht Treaty.
July 1, 1999
Trade in Financial Services and Capital Movements
Description: International financial liberalization may alter saving-investment imbalances and patterns of capital flows across countries. In a panel of OECD countries for 1990–96, this study examines how the liberalization of capital movements and financial services trade affects net private capital flows. Capital inflows tend to fall (rise) with the liberalization of commercial presence in banking and securities (insurance) services, possibly reflecting an increase (decrease) in saving. Capital account liberalization is found to stimulate capital inflows, suggesting that better access to external financing helps sustain larger fiscal and current account deficits. When cross-border trade is liberalized, capital flows change insignificantly.
July 1, 1999
External Vulnerability in Emerging Market Economies: How High Liquidity Can Offset Weak Fundamentals and the Effects of Contagion
Description: This paper investigates the factors behind the 1994 and 1997 crises and whether these can explain the 1998 crisis. The study reveals that: (i) variables used in an Early Warning System model developed by IMF staff scored well in predicting the 1998 crisis out-of-sample; (ii) all three crisis episodes can be well explained by a parsimonious set of core fundamentals and liquidity related variables; and (iii) the presence of an IMF-supported program significantly reduced the depth of crises. The results suggest that as a rule of thumb countries should hold reserves to the tune of short-term debt to avoid contagion-related crises, provided their current deficits are modest and their real effective exchange rates are not significantly misaligned.
July 1, 1999
Military Spending, the Peace Dividend, and Fiscal Adjustment
Description: The end of the Cold War has ushered in significant changes in worldwide military spending. This paper finds that the easing of (1) international tensions, (2) regional tensions, and (3) the existence of IMF-supported programs are related to lower military spending and a higher share of nonmilitary spending in total government outlays. These factors account for up to 66 percent, 26 percent, and 11 percent of the decline in military spending, respectively. Furthermore, fiscal adjustment has implied a larger cut in military spending of countries with IMF-supported programs.
July 1, 1999
Signaling Fiscal Regime Sustainability
Description: This paper proposes a signaling model that offers a new perspective on why governments deviate from optimal tax smoothing and delay debt stabilization. In our model, dependable—but not fully credible—governments have an incentive to tighten the fiscal regime when the signaling effect on credit ratings is larger (that is, when a sufficiently large stock of debt has been accumulated). At this point, they may deviate from tax smoothing not to be mimicked by weak governments. The model predicts that primary balances and debt stocks are complementary inputs in the credit rating function as tests on Italian, Irish, Belgian, and Danish data show.
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