Fiscal policy reforms and dynamic Laffer effects

This paper looks at the conditions under which a dynamic Laffer effect occurs. Using a basic model, we explain and reconcile selected findings in the literature. We numerically show that a lower tax rate on capital income is the best candidate for obtaining a dynamic Laffer effect—here defined as an improvement in the long-run budget balance of the government. Moreover, ignoring the stock of initial debt and changes in labor supply lead to an overestimation and underestimation of the effect, respectively. Finally, we show that when lower taxes on factor income are financed by higher taxes on consumption, there exists a wide array of combinations for which there is an improvement in both the long-run government budget balance and lifetime welfare. These combinations, however, differ in their implications for labor supply and immediate welfare effects.     

Debt relief schemes and welfare

This paper shows that concerted debt reduction may be welfare-improving even when the investment disincentive effect of a debt overhang is not large enough to place the debtor country on the wrong side of the debt Laffer curve. Whether the appropriate relief scheme involves debt reduction or new money, however, depends on whether investment disincentives or liquidity constraints dominate. It is shown that, except under very special circumstances, mixed policy packages involving both debt and liquidity relief may not yield the desired results. (JEL F34).     

BAD taxation: Disintermediation and illiquidity in a bank account debits tax model

This paper uses a dynamic general equilibrium model to study the economic effects of bank account debits (BAD) taxation. Australia and various Latin American countries have levied or levy BAD taxes. Aspects such as financial disintermediation, market illiquidity, and impacts on dividend and interest rates are considered. Part of the BAD tax revenue may be fictitious, due to increased interest payments on government debt. The Brazilian BAD tax (CPMF) experience is evaluated. The empirical analysis confirms some theoretical predictions. Incidence base over GDP appears to be sensitive to the tax rate, possibly engendering a Laffer curve. The tax may also cause real interest rates to increase. Furthermore, the deadweight losses are relatively large, even if revenues are small. The theoretical and empirical results suggest that the BAD tax is not adequate for revenue collection. JEL Code E62 · H20     

Tail risk in the European sovereign bond market during the financial crises: Detecting the influence of the European Central Bank

Since 2008, the European Central Bank (ECB) is conducting an expansionary monetary policy on an unprecedented scale. The consequence is a historical low interest rate environment in the eurozone and inflated prices for the majority of euro area government bonds. This paper presents a study of the tail behavior of triple-A rated euro area government bonds during the financial crisis 2007/08, the European sovereign debt crisis and the episode of expansionary monetary policy by the ECB. First, the analysis determines whether daily returns of euro area government bonds exhibit fat tails. Second, tests are conducted for variation in tail risk among euro area government bonds with different maturities. Third, it is estimated whether the tail behavior has significantly changed during the financial crisis, the European sovereign debt crisis and the resulting market interventions by the ECB. The study is based on daily data of the spot yield curve for triple-A rated euro area government bonds with a remaining maturity from three months to thirty years. Evidence is found for fat tails for the left-and right-hand side of the return distribution for all considered bond maturities in the sample. Moreover, the results indicate a convex term structure of tail risks and a structural change in the tail behavior of short-term bonds with a remaining maturity of less than one year during the past two crises. In contrast, the test outcomes for the majority of the considered long-term bonds do not indicate any significant change in the tail behavior, despite the introduction of unconventional asset purchase programs by the ECB which directly target these securities.     

Impact of interest rate surprises on Islamic and conventional stocks and bonds

This paper studies the impact of interest rate news surprises on Islamic and conventional stock and bond indices, using a dataset which covers interest rate announcements and forecasts, as well as stock and bond indices in three Islamic and eight non-Islamic countris. We find that interest rate surprises tend to have a smaller impact on the returns and volatility of Islamic than conventional bonds because Islamic bonds are structured to avoid explicit interest rates. However, interest rate surprises have about the same or bigger impact on the returns and volatility of Islamic relative to conventional stocks, despite the low amounts of cash and debt holdings of firms comprising Islamic stock indices.     

Rational expectations and the effects of government debt

This paper incorporates the effects of government debt into a standard rational expectations macroeconomic model. Due to limited current information, even when the most extreme propositions about fiscal neutrality are true, there are output and interest rate effects of unanticipated changes in government debt. Therefore the observation of a positive correlation between government deficits and output or interest rates does not imply that government bonds are net wealth.     

Unemployment,Government Spending and the Laffer Effect*

The paper studies the effects of income tax rate changes in a general equilibrium model with frictional unemployment. Laffer curve effects, by which a tax rate reduction may increase the level of government spending or its share in output, are shown to be possible under certain conditions. These are the presence of unemployment benefit payments, government budget balance through fiscal spending adjustment and limited quantitative importance of labour reallocation costs. Endogenous government spending acts as a fiscal accelerator if the fiscal burden of unemployment benefit payments is large, but reduces the employment effects of tax rate cuts if it is low.     

社会信用、刚兑信仰与地方政府隐性债务

防范化解地方政府隐性债务风险是当前我国亟待解决的重要问题。本文基于2007年至2019年293个地级市面板数据,研究社会信用对地方政府隐性债务的影响。我们发现:(1)社会信用下滑会导致地方政府隐性债务规模提高和融资成本上升。(2)社会信用通过影响市场金融资源供给和政府债务需求进而影响隐性债务规模与融资成本,但上述机制在有无“刚兑信仰”情境下存在差异。(3)对比新《预算法》和“43号文”出台前后社会信用对隐性债务影响的异质性发现,债务管制显著提高了融资平台的市场化程度。虽然政策前期金融市场更多呈现出一种观望态度,但违约事件打破了金融市场对地方政府隐性债务的“刚兑信仰”,隐性债务发行受到的市场约束力度显著增强。本文对更好地认识地方政府隐性债务风险、理解当前债务治理措施的有效性以及未来如何通过完善社会信用体系建设化解地方政府隐性债务风险具有启示意义。     

Corporate debt and unconventional monetary policy: The risk-taking channel with bond and loan contracts

We investigate the effects of unconventional monetary policies on corporate debt through the risk-taking channel using corporate bond and syndicated loan contracts from 2000 to 2016 in Japan. In this period, the policy rate remained fixed near the zero bound. Using the daily changes in the yield curve on monetary policy meeting days, we identify one call rate shock and two unconventional monetary policy shocks that do not affect short-term rates. We find that QE shocks, which move all medium-to-long-term rates, increase the maturity of debt contracts, especially for syndicated loans. In addition, such QE shocks decrease the size of corporate bonds with short maturity. On the other hand, QQE shocks, which raise medium-term rates and lower long-term rates, decrease the size of loans and corporate bonds with longer maturity. These effects imply the existence of the risk-taking channel of unconventional monetary policy: it stimulates investment in longer-maturity assets and decreases investment in assets with lower yields. Our findings show that unconventional policies affect debt contracts even in an extremely low interest rate environment.     

Predicting the bear stock market: Macroeconomic variables as leading indicators

This paper investigates whether macroeconomic variables can predict recessions in the stock market, i.e., bear markets. Series such as interest rate spreads, inflation rates, money stocks, aggregate output, unemployment rates, federal funds rates, federal government debt, and nominal exchange rates are evaluated. After using parametric and nonparametric approaches to identify recession periods in the stock market, we consider both in-sample and out-of-sample tests of the variables’ predictive ability. Empirical evidence from monthly data on the Standard & Poor’s S&P 500 price index suggests that among the macroeconomic variables we have evaluated, yield curve spreads and inflation rates are the most useful predictors of recessions in the US stock market, according to both in-sample and out-of-sample forecasting performance. Moreover, comparing the bear market prediction to the stock return predictability has shown that it is easier to predict bear markets using macroeconomic variables.     

Monetary policy effects in times of negative interest rates: What do bank stock prices tell us?

This paper investigates bank stock performance following different monetary policy actions in times of positive and negative interest rates. Controlling for the broader stock market, monetary policy announcements that cause an unanticipated downward shift in the yield curve and a flattening of the shorter-end of the yield curve are found to persistently reduce bank stock prices once the interest rate environment is negative. Consistent with the deposits channel of monetary policy, the effects are larger and more persistent for banks that are relatively dependent on deposit funding. By contrast, a surprise movement in the slope of the longer-end of the yield curve does not impact bank stock prices in times of negative interest rates. Accounting data confirm that a parallel drop in the yield curve following a monetary policy decision in a negative interest rate environment hurts banks through shrinking deposit margins.     

地方政府隐性债务与城投债定价

由于1994年《预算法》限制了中国地方政府凭借自身信用发行政府债券的能力,地方政府通过设立融资平台的方式发行了大量城投债券。虽然城投债被普遍认为是含有政府隐性担保的,但隐性担保主体认定尚未有共识。本文通过加总地方政府下属融资平台有息债务总额的方法,构建地方政府隐性债务负担率指标,并通过分析地方政府隐性债务负担率对城投债一二级市场信用利差的影响,进一步探索市场对城投债隐性担保责任主体的认定。研究发现,政府隐性债务负担率高的地方城投债信用利差偏高,并且这种影响随政策以及宏观形势而变化。自滇公路违约函事件后,投资者在城投债定价中开始普遍关注地方政府隐性债务负担率的信息;而在43号文明确了地方政府债务置换措施后,省级政府的隐性债务负担率开始成为城投债定价的重要影响因素。这说明投资者认可的地方隐性担保的责任主体是随时间变动的。     

Convertible calls and corporate taxes under asymmetric information

This paper develops a signalling model of call of convertible securities (bonds or preferred stock) in the presence of corporate taxes and asymmetric information about future earnings. In equilibrium, managers with relatively unfavorable information call to force convertible holders to convert to common stock (in spite of the loss of corporate tax benefits if the convertibles are bonds), while those with relatively favorable information do not call. The model predicts that the announcement period common stock returns are more negative at the call of convertible bond than at the call of convertible preferred stock. Furthermore, we predict that when the importance of the tax deductibility of interest differs among firms, so does the stock price reaction to the announcement of convertible debt call. Specifically, the loss of equity value at the announcement decreases with the amount of non-debt tax shield that the calling firm owns, decreases with the book value of convertible debt called, and increases with corporate taxes.     

Monetary-fiscal policy interactions and the price level:Background and beyond

The paper presents the fiscal theory of the price level in a variety of models, including endowment economies with lump-sum taxes and production economies with proportional income taxes. We offer a microeconomic perspective on the fiscal theory by computing a Slutsky-Hicks decomposition of the effects of tax changes into substitution, wealth, and revaluation effects. Revaluation effects arise whenever tax changes alter the value of outstanding nominal government liabilities by changing the price level. Under certain assumptions on monetary and fiscal behavior, the revaluation effect reflects the fiscal theory mechanism. When taxes distort, two Laffer curves arise, implying that a tax increase can lower or raise the price level and the revaluation effect can be positive or negative, depending on which side of a particular Laffer curve the economy resides. Jel Code: E31 · E52 · E62     

Insured uncovered interest parity

The current literature suggests that uncovered interest parity (UIP) does not hold because of differences in risk in holding different currency denominated debt. We test whether this risk is related to sovereign credit risk in government bonds. We consider an insured uncovered interest parity relationship – that is, one where debt is insured with credit default swap (CDS) contracts. CDS rates help explain the UIP puzzle but have no predictive power for carry trade returns and currency movements.     

Banks,firms and the relative pricing of tax-exempt and taxable bonds

The traditional analysis of the relative pricing of tax-exempt and taxable debt is a habitat theory of the term structure of interest rates. In the traditional analysis the preferences of investors for particular maturities of debt lead to unique pricing relations at every point on the yield curve which are indicative of investor marginal tax brackets. Recent work by Fama (1977) suggests that banks are potential arbitrageurs across tax-exempt and taxable bond markets which force a particular equilibrium on the pricing of short-term bonds. Miller (1977) suggests that the choice of debt or equity financing by firms in the aggregate forces a similar equilibrium on the pricing of all tax-exempt and taxable bonds. This paper exploits the institution of Regulation Q and its effects on the banking system to bring evidence to bear on the predictions of these three models.     

Fiscal and Monetary Policy Coordination,Macroeconomic Stability,and Sovereign Risk Premia

In standard macroeconomic models, equilibrium stability and uniqueness require monetary policy to actively target inflation and fiscal policy to ensure long‐run debt sustainability. We show analytically that these requirements change, and depend on the cyclicality of fiscal policy, when government debt is risky. In that case, budget deficits raise interest rates and crowd out consumption. Consequently, countercyclical fiscal policies reduce the parameter space supporting stable and unique equilibria and are feasible only if complemented with more aggressive debt consolidation and/or active monetary policy. Stability is more easily achieved, however, under procyclical fiscal policies.     

A modern history of fiscal prudence and profligacy

Drawing on a newly collected historical dataset of fiscal stocks and flows, we analyze the determinants of variation, both across countries and over time, in how fiscal policy responds to increases in the government debt-to-GDP ratio. The fiscal data comprise revenues, primary expenditures, interest bill, and government debt for 55 countries for up to two hundred years. The policy response (increase in the primary fiscal balance in response to debt increases) is found to be significantly weaker when sovereign borrowing costs are low, inflation is high, and potential economic growth worsens unexpectedly. These results are robust to political factors.     

Scarcity of safe assets,inflation, and the policy trap

A goal of this paper is to make sense of the seemingly puzzling behavior of interest rates and inflation – and the role of central banks in that behavior – during and after the Great Recession, particularly in the United States. To this end, we construct a model in which government debt plays a key role in exchange, and can bear a liquidity premium. If asset market constraints bind, then there need not be deflation under an indefinite zero interest rate policy (ZIRP). Further, ZIRP may not be optimal under these circumstances. A Taylor-rule central banker could be subject to a ZIRP trap and persistently undershoot target inflation. As well, a liquidity premium on government debt creates additional Taylor rule perils, because of a persistently low real interest rate. We make a case that this is the key policy predicament currently faced by many central banks in the world.     

Understanding and managing interest rate risk at banks

Banks in many countries hold significant quantity of bonds issued by their sovereign. This nexus of bank balance sheets with the sovereign debt can amplify in a two-way loop the effect of a rise in sovereign debt yields on banks and vice-versa. The rise in sovereign debt yields tends to be episodic, exhibiting conditional volatility, and banks need to manage this risk proactively to dampen the two-way loop. Lessons are drawn from this perspective for understanding and managing of interest rate (or ‘duration’) risk at Indian banks from their holdings of government securities. Moral hazard implications of regulatory forbearance policies when the two-way loop materializes are also discussed.