Forward exchange,short term capital flows and monetary policy

Summary This paper re-examines the relationships between short term capital flows and monetary policy, in the light of a new theoretical approach of the forward exchange market. They contend that the traditional forward exchange market theory is a misleading one as it fails to give all the importance it deserves to the distinction between covered and uncovered exchange transactions and to the actual role of the arbitrageurs. As a consequence of this analysis, they demonstrate that the problem of monetary management in an open economy must be dealt with in a way different from what has been usual, and they conclude that monetary policy, central banks' intervention on the foreign exchange market and direct controls on capital movements can still have some efficiency in the struggle against inflation, either of the domestic or the imported type.     

On the theory of macroeconomic policy

Summary Jan Tinbergen originated the theory of policy in the 1950s. Here I apply it to contemporary macroeconomics. The two standard instruments of short-run demand management cannot achieve the two usual targets, full employment and price stability. With respect to those goals, these two instruments are collinear, except for small and transient effects on foreign exchange rates. But the mix of fiscal and monetary policies, relative to one another, does have important effects on the composition of national output, as between investment and consumption.I point out that policy-makers, like portfolio managers, should diversify the instruments they use when they are uncertain of their effects. I discuss some pitfalls in the empirical estimation of policy effects, especially possible misinterpretations of simple correlations, and I note that policy rules cannot be invariant to changes in macroeconomic structure. I argue that policy rules should involve responses to new information and in practice allow discretion. Finally, I suggest that Tinbergen's theory of policy needs to be extended to policy coordination among nations.Third Tinbergen Lecture delivered on October 20, 1989, in Utrecht for the Royal Netherlands Economic Association.     

Target zones and wealth effects: Current account implications of alternative policy assignments

This paper evaluates the current-account implications of coordinated disinflationary policy in a two-country framework, when fiscal policy is assigned to control inflation and monetary policy is used to hold down the exchange rate at its target zone level. The performance of an alternative regime, where monetary policy controls inflation and fiscal policy is assigned to control the current account is also assessed.     

Financial instability and the real economy

Summary The paper deals with three different areas of the financial sphere: national moneys, exchange rates and financial claims, markets and institutions. For each of them, it tries to identify the main forms of instability which may occur, their causes and consequences for the real economy. Depending on the area concerned, the forms of instability include inflation, fluctuations and misalignments in interest rates, exchange rates and asset prices and finally solvency and liquidity crises of institutions. It is concluded that, over the last fifteen years, significant progress has been made in the policy framework to counteract instabilities in the national and monetary spheres. The conclusion is more mixed with regard to the structure of financial markets.[/p]We are grateful to Julian Alworth, Svein Andresen, Gavin Bingham, Joe Bisignano, Michael Hutchison and Paul van den Bergh for useful comments.     

Interpretation of error covariances with nonrandom data: An empirical illustration of returns to college education

Conclusion This paper reviews two models of selectivity and gives an interpretation of the covariance terms that are particular to self-selectivity models. While the second model examined in this paper has been discussed elsewhere, the estimates presented for the first model have not been discussed in previous papers. More importantly though, the paper proposes an hypothesis about the expected relationship between error covariances. According to this hypothesis, if all individuals who are faced with the choice between two regimes (1 and 2) choose the regime which yields a maximum value, then the expected relationship between covariances is ₁ < ₂ . If all individuals choose that regime which yields a minimum value, then the expected relationship between covariances is ₁ > ₂ . This relationship holds for a very general class of selectivity models, so long as individuals are choosing between regimes by comparing the expected value (to them) of each regime.This paper was written while I was working under the professional development program at CNA.     

Game equilibrium modelling

Summary Non-cooperative game theory has in recent years become one of the main tools in the social sciences and economics. It deals with decision problems of more than one (rational) player. The actions of those players result in outcomes that are the best that may have happened to a player, given the actions of the other players. This is precisely the content of the 'Nash equilibrium' concept. It would be nice when each game had a unique Nash equilibrium. Unfortunately, both non-existence and multiple equilibria occur. An important role in game theory is played by the information available to the players. Among the economic applications are: the Theory of Industrial Organisation, Bargaining and the Economic Theory of Information.Comments by Eric van Damme and Casper de Vries on an earlier draft of this paper have greatly improved the presentation. I have benefited from the comments of the editor and an anonymous referee ofDe Economist. For all omissions, all possible errors and the revealed views in this paper, I alone am responsible.     

Exchange rate theories

Summary A four-period classification is used to categorise recent exchange-rate theories or models. In the very short period, only capital flows are relevant. In the short period, both capital flows and payments on the current account play a role. In the long period, the capital account and the current account are individually in equilibrium. In the very long period, purchasing power parity holds. Cash-in-advance models are dealt with separately. Many models that purport to explain exchange rates do in fact not provide for the exchange of currencies. No model stands up satisfactorily to econometric testing. Speculative bubbles, the peso problem and news play havoc with tests of the uncovered interest parity theorem, the core of the monetary models. This aside, the fundamental assumption of rational expectations itself is suspect. There does not seem to be such a thing as a true model.I am indebted to Dr. W.J.B. Smits and Professor J.W. Gunning for helpful discussions on a number of issues pertinent to this article.     

Policies for economic growth

Summary The old growth theory of the 1950s led to certain conclusions about the sorts of economic policies that would promote economic growth, and also about their limitations. The new growth theory of the 1980s makes much stronger assumptions and leads to correspondingly stronger conclusions about the scope of growth-promoting policy. This article argues that: (1) empirical work so far has neither confirmed nor denied the strong assumptions underlying the new theory; (2) the theory is worth pursuing because of its intrinsic interest and the possibilities it opens up; (3) whatever the final verdict on the new theory, both theory and evidence support the belief that significant long-run gains, even if not permanent changes in the growth rate, can be achieved by increased investment in the broadest sense, including human capital, technological knowledge, and industrial plant and equipment.Fifth Tinbergen Lecture delivered on October 4, 1991, in Amersfoort for the Royal Netherlands Economic Association     

Inflation Targeting as a Coordination Device

The paper analyses inflation targeting when two independent policy authorities (a central bank and a National Government) have divergent preferences for the optimal policy mix. We demonstrate that the main advantage of inflation targeting, as a policy regime, is that it represents a simple proxy for full coordination between policy authorities. Inflation targeting therefore helps because it reduces the conflicts between fiscal and monetary policy, expecially where there are strong spillovers between the two policies. These results are then tested, and largely validated, in a simulation framework using a small open economy calibrated model.     

Post- war European economic development as an out of equilibrium growth path. The case of the Netherlands

The paper examines a number of aspects of post-war economic development of the Netherlands in the light of recent out of equilibrium growth theory. It contains a comparison of the stylized facts of the long run performance of the economies of the United States and the Netherlands which suggests that the US has been on an equilibrium growth path for more than a century, but that the Netherlands followed a radically different growth path, especially after 1945. It is attempted to explain this erratic behaviour of the investment ratio and the wage share after 1945 by examining two aspects more in detail: the financing of the acceleration of growth after 1945 and the phase of too rapid growth during the 1950s and 1960s, when the growth of the demand for labour tended to be higher than the increase in its supply.     

Tax Level and Tax Internalization Effects on Union Wage Bargaining

High taxes and generous social benefits are often blamed for causing unemployment. The conventional view is that if taxes on labour are (too) high, jobs will be lost and that generous social benefits will exert an upward pressure on unions' wage claims. In the case where unions co-ordinate their wage bargaining strategy, this need not be the case. A simple model is used to illustrate the effects of the tax rate level and tax internalization on unions' wage bargaining strategy. A high marginal tax rate along with endogeneity of the average tax rate shifts the union's trade-off between wages and employment in favour of the latter. These shifts may have contributed to the success of the so-called polder model or tulip model of the Netherlands.     

Commitment and coordination in a dynamic game model of international economic policy-making

In this paper, we consider a dynamic game model of two identical countries. Policy-makers of both countries have quadratic intertemporal objective functions and want to stabilize domestic output, domestic inflation, and the real rate of exchange. We present different analytical and numerical solutions for this policy game. Noncooperative open-loop equilibria are interpreted as requiring unilateral commitment and policy-makers' credibility. Potential gains from cooperation are present, as the noncooperative equilibrium solutions are not Pareto-optimal. Under an information pattern that admits memory strategies, the possibility of obtaining cooperative results without coordination and commitment arises.     

The Dutch Transportation System in the nineteenth Century

The actual discussion on the Betuwe-line and the construction of this new railway for freight transportation from Rotterdam to Germany is placed into a historical perspective. Right from the beginning of railway history in the Netherlands, the construction of an Iron Rhine was disputed. As analytical tool, the social saving approach is used. The conclusion of this cost-benefit analysis is that it did not and does not matter that much for the level of welfare in the Low Countries or the Rhineland whether the goods from major coastal ports are transported on the river Rhine or by the four Iron Rhines.     

The perspective of the SDR's position in monetary reserves on the robustness of optimal portfolio results

Summary To gain an empirical impression of the SDR's attractiveness as a reserve asset, an amended mean-variance analysis is applied to official reserves. The main amendments bear upon the choice of the numeraire and the rejection of both the capital market line and the effective yield's positive marginal utility-frequently assumed in empirical analysis. Comparison of the outcome with that recently obtained by Ben-Bassat shows a large sensitivity of optimal portfolio results for slight differences in assumptions. A second, substantial kind of sensitivity of an asset's position in a portfolio appears to ensue from the influence of other competing functions of reserves.The authors are Professor and Assistant Professor of International Economics, University of Amsterdam, The Netherlands. The research of the second author was financially supported by the Netherlands organization for the advancement of pure research (Z.W.O.), no. 46-108. This research is part of the project Exchange-rate and monetary policy in international dependence. The paper was presented earlier at the conference Research in international finance, Jouyen-Josas, France (June 19 and 20, 1986). Computational assistance by Jeannette Capel, Reiner Gratama, and Martin O. Nijkamp and comments by an anonymous referee are gratefully acknowledged.     

The economics of dying: A misapplication of tools

Conclusions Unlike McKenzie and Tullock, we do not know how personsshould treat their bodily organs or what is an ideal exit. That depends upon their utility goals, which are defined in output terms specific to the decision maker. We contend that the body is an input into the utility production process, and therefore, as with any input, it must be maintained and repaired at a level consistent with the output goals for maximization of utility. Thus, from this framework, it is quite consistent for a person to die with healthy organs without any thought of belief in reincarnation or the desire to bequeath one's bodily organs to others, or religious values. Self interest is all that must prevail.Also, the fact that there are interrelationships between the organs in the system, and at points these relationships take on fixed factor characteristics such that reduced levels of operation in one organ can create disorientation or coma or damage to other organs, means that the body cannot die as M-T suggest. Zero capacity for all organs at death is a technical impossibility as well as being inconsistent with the output goals of utility maximizers.     

Economic theories of leisure: Some comments and suggestions

Summary Most economic theories of leisure are concerned with valuations of leisure time related to income as an opportunity cost. After a critical discussion of these theories, leisure time as a constraint is introduced in the theory of consumer behaviour by (1) distinguishing between pleasant and unpleasant consumer activities, (2) discussing the effects on individual's welfare of changes, in the duration of both types of activities and (3) developing time-saving concepts. A theoretical framework for consumer choices under time and/or income constraints leads to suggestions for the lines along which leisure research should be developed as a basis for welfare policy in the widest sense.My thanks are due to Professors P. Hennipman, L. H. Klaassen, A. Pais and Mr. D. B. Needham for the valuable suggestions they made during the preparation of this article. Several parts of it will be presented in a more detailed form in a thesis on the subject.     

Substitution assumptions versus empirical evidence in manpower planning

Summary There exist basically two manpower planning methodologies. Firstly, the manpower requirements approach which stipulates that there are needs in the economy for given numbers of qualified persons in the labour force. Secondly, the rate of return approach which focuses on the costs and benefits of producing one extra qualified person at the margin.This paper contrasts the theoretical foundations of the two approaches with particular emphasis on the degree of substitution between different types of educated labour. The empirical evidence on elasticities of substitution is reviewed and it is concluded that the cost-benefit model fits better the real world.I am indebted to Dr. Christopher Dougherty for reading a draft of this paper and making many important corrections.     

Real Impacts of Intra-European Exchange Rate Variability: A Case for EMU?

Intra-European exchange rate variability has significant economic costs. VAR causality tests show that higher short-run variability of exchange rates against other EU currencies was associated with higher unemployment, less employment, and lower investment for most EU member countries. Robustness tests show that this result holds up in the presence of both policy instruments that might have had an impact on exchange rate variability and cyclical variables that might have influenced labor demand. A model that incorporates the option value of waiting suggests that even short-term spikes in volatility exert a strong impact on investment and labor markets.     

Shocks and the Viability of a Fixed Exchange Rate Commitment

The incentive to renege on a commitment to a fixed exchange rate is shown to be state contingent. A fixed exchange rate policy is not viable under unusual circumstances, and the incentive to violate the commitment is larger in the case of contractionary shocks than in the case of expansionary shocks. The possibility that the exchange rate regime is changed in unusual circumstances has significant effects also under normal circumstances, implying systematic devaluation expectations, excessive real wages and (ex post) real rates of interest, lower output and loss of reserves, which in turn reduces the incentive to initiate a fixed exchange rate policy. Moreover, policyshifts may be contagious among countries.     

The golden rule of accumulation and the open economy

Summary This paper examines the factors which determine the volume of consumption per capita in a small open economy in the long run. The analysis is based on a neoclassical model. It is proved that-in general — Phelps' golden rule of accumulation does not hold for an open economy. This conclusion follows from the decline in the terms of trade, which is generated in an open economy by an increase in the share of investment. The influence of labour supply and world expenditure on the consumption per capita also depend heavily on the induced change in the terms of trade. The analytical results of the model are illustrated by means of a few numerical examples.This paper is written within the framework of the research program Possibilities and Limitations of National and International Economic Policy, code K.H.T. XIII-85-44.