The Credibility of Hong Kong's Currency Board System: Looking Through the Prism of MS‐VAR Models with Time‐Varying Transition Probabilities

This paper employs a Markov regime‐switching VAR model to describe and analyse the time‐varying credibility of Hong Kong's currency board system. The endogenously estimated discrete regime shifts are made dependent on macroeconomic fundamentals. This enables us to determine which changes in macroeconomic variables can trigger switches between the low and high credibility regimes. We carry out extensive testing to search for the most appropriate specification of the Markov regime‐switching model. We find strong evidence of regime switching behaviour that portrays the time‐varying nature of credibility in the historical data.     

Conditional Markov chain and its application in economic time series analysis

Motivated by the great moderation in major US macroeconomic time series, we formulate the regime switching problem through a conditional Markov chain. We model the long‐run volatility change as a recurrent structure change, while short‐run changes in the mean growth rate as regime switches. Both structure and regime are unobserved. The structure is assumed to be Markovian. Conditioning on the structure, the regime is also Markovian, whose transition matrix is structure‐dependent. This formulation imposes interpretable restrictions on the Hamilton Markov switching model. Empirical studies show that this restricted model well identifies both short‐run regime switches and long‐run structure changes in the US macroeconomic data. Copyright © 2010 John Wiley & Sons, Ltd.     

Measuring and predicting heterogeneous recessions

This paper examines the usefulness of a more refined business cycle classification for monthly industrial production (IP), beyond the usual distinction between expansions and contractions. Univariate Markov-switching models show that a three regime model is more appropriate than a model with only two regimes. Interestingly, the third regime captures ‘severe recessions’, contrasting the conventional view that the additional third regime represents a ‘recovery’ phase. This is confirmed by means of Markov-switching vector autoregressive models that allow for phase shifts between the cyclical regimes of IP and the Conference Board's Leading Economic Index (LEI). The timing of the severe recession regime mostly corresponds with periods of substantial financial market distress and severe credit squeezes, providing empirical evidence for the ‘financial accelerator’ theory.     

The political economy of exchange rate regime determination: Theory and evidence

This paper studies exchange rate regime choice from a positive perspective by modeling the interplay of monetary and fiscal policy, credibility and financial market microstructure as factors influencing the decision on de facto regime. The model shows how a small open economy reliant on foreign sources of financing is likely to opt for a stable regime. Furthermore, a stable political environment with a high degree of accountability is conducive to choosing a flexible regime. The findings suggest that flexible rather than fixed exchange rate regimes provide more fiscal discipline.     

Regime switching in stochastic models of commodity prices: An application to an optimal tree harvesting problem

This paper investigates whether a regime switching model of stochastic lumber prices is better for the analysis of optimal harvesting problems in forestry than a more traditional single regime model. Prices of lumber derivatives are used to calibrate a regime switching model, with each of two regimes characterized by a different mean reverting process. A single regime, mean reverting process is also calibrated. The value of a representative stand of trees and optimal harvesting prices are determined by specifying a Hamilton-Jacobi-Bellman Variational Inequality, which is solved for both pricing models using a implicit finite difference approach. The regime switching model is found to more closely match the behavior of futures prices than the single regime model. In addition, analysis of a tree harvesting problem indicates significant differences in terms of land value and optimal harvest thresholds between the regime switching and single regime models.     

The Engineer and The Plumber: Mediating Mumbai's Conflicting Infrastructural Imaginaries

Two decades ago, the rules governing the provision of piped municipal water supply in Mumbai became linked to the policy frameworks governing eligibility for a property titling scheme. This article outlines the ideological basis and practical implications of the shift, as well as the contradictions of the new regulatory regime. The article demonstrates how these contradictions have been mediated by the material and practical knowledge, embodied expertise, local authority and wide‐ranging socio‐political work of two sets of actors: municipal water engineers and a cast of characters known locally as ‘plumbers’. The social, political and hydraulic imaginaries animating the work of ‘plumbing’ are bound up with a temporal and spatial imaginary distinctly at odds with the network‐flow conception of hydraulic engineering within which the work of water supply planning and distribution in Mumbai is conceptualized, materialized and institutionalized. The hydraulic and legal contradictions of these clashing infrastructural idioms––of flow and event––have rendered the regulatory framework highly unstable. These contradictions eventually erupted in Mumbai's waterscape, leaving the city's water infrastructures suspended in a highly politicized state of limbo between dueling infrastructural imaginaries.     

A flexible prior distribution for Markov switching autoregressions with Student-t errors

This paper proposes an empirical Bayes approach for Markov switching autoregressions that can constrain some of the state-dependent parameters (regression coefficients and error variances) to be approximately equal across regimes. By flexibly reducing the dimension of the parameter space, this can help to ensure regime separation and to detect the Markov switching nature of the data. The permutation sampler with a hierarchical prior is used for choosing the prior moments, the identification constraint, and the parameters governing prior state dependence. The empirical relevance of the methodology is illustrated with an application to quarterly and monthly real interest rate data.     

Estimating cigarette-tax revenue

This paper presents a cigarette-tax revenue model which predicts potential tax revenues. The model is unique in that revenues are estimated in a two-stage process which is invariant to the type of state sales/excise tax regime. The model also controls for cross-state spillover effects. The empirical model was estimated using data from Alabama and surrounding states from 1955 to 1990. The results suggest the demand for cigarettes in Alabama is relatively inelastic; spillover effects are found but are small in scale; and additional revenue potentials can be realized by changes in the tax regime.     

Politics in the Informalizing Metropolis: Displacement,Resettlement and Unstable Negotiations in Uncivil Ahmedabad

This article documents the displacement of Baoris, an adivasi (indigenous) community living in the city of Ahmedabad, India, and their subsequent resettlement along the city's precarious urban–rural frontier. I argue that this process signals the informalization of rights and territories, representing a political regime of governing in the remaking of the contemporary Indian metropolis. Recent actions taken by the Ahmedabad Municipal Corporation to evict Baoris from the inner city are situated within the entangled processes and politics of urban restructuring, liberalization and Hindu nationalism. The absence and erosion of democratic protections, however, has not precluded the possibility of political negotiations with the local agents of state and capital, and this article assesses the tactics that community residents have deployed in their bid to maintain claims to territory, labour and services. I end by tempering enthusiasm for the informalizing city as a site for realizing alternative forms of justice and possible democratization.     

THE DEBATE ABOUT THE REVIVED BRETTON‐WOODS REGIME: A SURVEY AND EXTENSION OF THE LITERATURE

This paper surveys the literature dealing with the thesis put forward by Dooley, Folkerts‐Landau and Garber (DFG) that the present constellation of global exchange‐rate arrangements constitutes a revived Bretton‐Woods regime. DFG also argue that the revived regime will be sustainable, despite its large global imbalances. While much of the literature generated by DFG's thesis points to specific differences between the earlier regime and revived regime that render the latter unstable, we argue that an underlying similarity between the two regimes renders the revived regime unstable. Specifically, to the extent that the present system constitutes a revived Bretton‐Woods system, it is vulnerable to the same set of destabilizing forces – including asset‐price bubbles and global financial crises – that marked the latter years of the earlier regime, leading to its breakdown. We extend the Markov switching model to examine the relation between global liquidity and commodity prices. We find an evidence of commodity‐price bubbles in both the latter stages of the earlier Bretton‐Woods regime and the revived regime.     

Inference and prediction in a multiple-structural-break model

This paper develops a new Bayesian approach to structural break modeling. The focuses of the approach are the modeling of in-sample structural breaks and forecasting time series allowing out-of-sample breaks. The model has several desirable features. First, the number of regimes is not fixed but is treated as a random variable. Second, the model adopts a hierarchical prior for regime coefficients, which allows for the coefficients of one regime to contain information about coefficients of other regimes. Third, the regime coefficients can be integrated analytically in the posterior density; as a consequence the posterior simulator is fast and reliable. An application to US real GDP quarterly growth rates links groups of regimes to specific historical periods and provides forecasts of future growth rates.     

Shortfall risk minimization in a discrete regime switching model

Abstract There have been profound ideas on how to measure risk which have influenced the financial market. Shortfall risk minimization is one of the methods which has attracted considerable attention. This problem has been studied for the binomial model in Runggaldier and Zaccaria (2000) and Runggaldier, Trivellato and Vargiolu (2002) and for the trinomial model in Scagnelatto and Vargiolu (2002). In this paper, we investigate shortfall risk minimization in a discrete regime switching model. In the model, we have two possible regimes, which are both binomial. To fix ideas, we can think of the second regime as being the consequence of the presence of inside information, but this can also be due to other factors. Explicit solutions for one-period models are given.     

Ramsey equilibrium with liberal borrowing

This paper considers a multi-agent one-sector Ramsey equilibrium growth model with borrowing constraints. The extreme borrowing constraint used in the classical version of the model, surveyed in Becker (2006), and the limited form of borrowing constraint examined in Borissov and Dubey (2015) are relaxed to allow more liberal borrowing by the households. A perfect foresight equilibrium is shown to exist in this economy. We describe the steady state equilibria for the liberal borrowing regime and show that as the borrowing regime is progressively liberalized, the steady state wealth inequality increases. Unlike the case of a limited borrowing regime, an equilibrium path need not converge in the case of liberal borrowing regime. We show through an example that a two period cyclic equilibrium exists when agents are allowed to borrow against their two period future wage income. This result is similar to the possibility of non-convergent equilibrium capital stock sequences in the model with no borrowing.     

Inflation Volatility with Regime Switching

This paper presents a new approach to model U.S. inflation dynamics by allowing regime switching in an unobserved components stochastic volatility framework. We use a modified particle filter to construct likelihood and estimate the model using MLE. The number of regimes is determined based on a bootstrap. We find that a model with three regimes and regime‐dependent constant volatilities has superior performance. In addition, we show that since 2000:II, U.S. inflation has entered a regime with moderate volatility where most of the volatility comes from transitory shocks.     

Forecasting GDP over the Business Cycle in a Multi‐Frequency and Data‐Rich Environment

This paper merges two specifications recently developed in the forecasting literature: the MS‐MIDAS model (Guérin and Marcellino, 2013) and the factor‐MIDAS model (Marcellino and Schumacher, 2010). The MS‐factor MIDAS model that we introduce incorporates the information provided by a large data set consisting of mixed frequency variables and captures regime‐switching behaviours. Monte Carlo simulations show that this specification tracks the dynamics of the process and predicts the regime switches successfully, both in‐sample and out‐of‐sample. We apply this model to US data from 1959 to 2010 and properly detect recessions by exploiting the link between GDP growth and higher frequency financial variables.     

Modelling the conditional volatility of commodity index futures as a regime switching process

Commodity index futures offer a versatile tool for gaining different forms of exposure to commodity markets. Volatility is a critical input in many of these applications. This paper examines issues in modelling the conditional variance of futures returns based on the Goldman Sachs Commodity Index (GSCI). Given that commodity markets tend to be ‘choppy’ (Webb, 1987 ), a general econometric model is proposed that allows for abrupt changes or regime shifts in volatility, transition probabilities which vary explicitly with observable fundamentals such as the basis, GARCH dynamics, seasonal variations and conditional leptokurtosis. The model is applied to daily futures returns on the GSCI over 1992–1997. The results show clear evidence of regime shifts in conditional mean and volatility. Once regime shifts are accounted for, GARCH effects are minimal. Consistent with the theory of storage, returns are more likely to switch to the high‐variance state when the basis is negative than when the basis is positive. The regime switching model also performs well in forecasting the daily volatility compared to standard GARCH models without regime switches. The model should be of interest to sophisticated traders who base their trading strategies on short‐term volatility movements, managed commodity funds interested in hedging an underlying diversified portfolio of commodities and investors of options and other derivatives tied to GSCI futures contracts. Copyright © 2001 John Wiley & Sons, Ltd.     

Fluctuating uncertainty and flexibility value

A simple model of recurrent fluctuating uncertainty with two types of investment assets, commitment and flexible, where fluctuating uncertainty is defined as changes between high and low confidence regimes, is constructed. By assuming risk neutrality, I find analytically a formula for flexibility value that is defined as the difference between the expected return to the commitment asset and the expected return to the flexible asset. This flexibility value is positive in the low confidence regime because of a positive attribute of the flexibility asset that is the option to utilize new information later. The relation between flexibility value and other parameters of the model is also considered. Flexibility value increases as the information an individual obtains in the high confidence regime increases or the discounting factor of the individual increases. Finally, flexibility value can increase even if, ceteris paribus, the return to the commitment asset increases.     

Exchange rate regime choice and currency crises

Exchange rate regime choice is not exogenous, but it depends on the structural, political and financial features of countries. However, it is often the case that the regime actually pursued and the one that is imposed by country features do not match one to one. The existing empirical crisis models do not take fully into account the regime in which the crisis unfolded. The aim of this paper is to incorporate the appropriateness of the regime choice into the standard currency crisis model. The results show that the odds of crisis increase significantly in countries which have chosen regimes inconsistently.     

Inferring the private information content of trades: a regime‐switching approach

This paper presents an empirical model for inferring the private information content of trades at the transaction level. The trade‐indicator model of Glosten and Harris ( 1988 ) is extended to a two‐state regime‐switching setting, and the model is estimated using tick‐by‐tick data from the New York Stock Exchange (NYSE). The specialist is found to react in accordance with the proposed model. Bid–ask quotes set after the execution of a trade reflect the conjectured information content of that particular trade. Based on the estimated model four empirical results emerge: (a) the suggested regime‐switching model fit data well; (b) the reverse J‐shaped pattern of intra‐daily quoted spreads is shown to agree with the clustering of costs incurred by the specialist through trading with better‐informed agents; (c) on average 9% of all trades are found to reveal private: information to the specialist; (d) results regarding the trading volume of informed traders support the stealth trading hypothesis suggested by Barclay and Warner ( 1993 ). Copyright © 2003 John Wiley & Sons, Ltd.