THE POLITICS OF PRECOMMITMENT WITH ELECTORAL UNCERTAINTY AND TRANSACTION COSTS

Despite the lack of legal channels through which binding commitments can be made by the government, economic and political factors enable it to affect future outcomes. In practice, large transaction costs are associated with any significant change of policy, and therefore the current government can adopt policies so that certain outcomes are more likely to be realized by its successor. In this paper it is argued that transaction costs combined with electoral uncertainty are likely to drive the current government to adopt a policy which is extreme relative to the preferences of the existing political parties. This policy is adopted in order to ensure that due to transaction costs, the future government will not depart radically from the most preferred policy of the current government. If the current policy is likely to affect the election outcome, then, in addition to the above considerations, the electorate attitudes would have to be taken into account by the government. Hence, the current government confronts two factors in choosing its policies: the behavior of the future government and the behavior of the electorate. The interplay between the two factors determines the choice of the current policy.     

Some evidence on the international inequality of real interest rates

This paper undertakes econometric tests of the hypothesis that ex-ante real interest rates are equal across countries with highly integrated capital markets. The issue is of practical importance because the violation of real rate equality is a necessary condition for monetary policy to influence the open economy through the real interest rate channel. Although an empirical literature concerning real rate equality already exists, previous investigators have focused on pre-tax real rates. This paper contributes to the literature by attempting to incorporate the effects of taxation into the analysis.     

A Binomial Basis for the Cox, Ingersoll and Ross Model of the Term Structure of Interest Rates

The technical demands of the Cox, Ingersoll and Ross (1985a and 1985b) papers are such that they can only be mastered by those who have a good understanding of some deep mathematics and statistical concepts, including the techniques of continuous time stochastic calculus and the measure theory upon which it is based, the Kuhn-Tucker theory surrounding non-linear optimisation techniques as well as variational methods founded on solutions of non-linear differential equations. Hence, our purpose here is to formalise both investor preferences and the supply side which underscores the Cox, Ingersoll and Ross (1985b) 'square root' model of the term structure of interest rates in terms of some simple binomial filtration processes, thereby avoiding most of the intricate technical detail contained in the original papers. These procedures not only allow for a more focused evaluation of the model's underlying strengths and weaknesses but also provide a framework for assessing some of the strategies which the model makes available for hedging exposure against adverse interest rate movements.     

Immunizing Foreign Exchange Contracts Against Swap Rate and Volatility Risks

Swap rate risk, also called the problem of' "maturity gaps," originates from foreign currency holdings whenever the involved contracts have differing maturities. Such differing maturities give rise to a sensitivity of the portfolio values with respect to the "swap rate," or differential between the relative interest rates in two countries. Volatility risk, which typically affects only currency contracts having asymmetric payoffs (such as currency options), gives rise to a sensitivity of portfolio values with respect to changes in the exchange rate volatility. In this article we show how currency portfolios may be immunized , or made insensitive, to both swap rate risk and volatility risk, in the sense of Macaulay's (1938) classical treatment of interest rate risk. The European currency option contract is the primary subject of our discussion, since we show that both ordinary forward contracts and other complicated currency contracts are equivalent to suitable combinations of European currency options.     

The Effect of Federal Reserve Accounting Rules on the Equilibrium Level of Overnight Repo Rates

This paper addresses whether Federal Reserve Board accounting requirements are sufficiently pervasive to create regularities in government overnight repurchase agreement (repo) rates. US bank settlement regulations allow overnight government repos as substitutes for Federal (Fed) funds. We find that overnight government repos exhibit rate changes and variance regularities consistent with regularities identified in the Fed funds market, which have been shown to result directly from the Federal Reserve regulations and accounting policies governing the US bank settlement process. Thus, we conclude that the overnight government repo rates are influenced in a similar manner by regulatory rules. However, since the rate changes are not large economically, the influence of regulatory accounting practices does not violate the premise of an efficient market.