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1992 Quarter 1 | Vol. 28, No. 1


Recent Behavior of Velocity: Alternative Measures of Money
by John B.Carlson and Susan M. Byrne

Changes in the structure of the U.S. financial industry over the last decade have raised questions about the reliability of M2 as the primary guide for monetary policy. Although the simple ratio of economic activity to M2 - that is, M2 velocity - indicates nothing unusual, the relationship between velocity and interest rates has been disrupted in recent years. This appears to be related to a breakdown in money demand in 1988, which could in turn be linked to the restructuring of depositories. The authors examine the velocities of two alternative monetary aggregates, but find that, like M2, these measures are not impervious to financial change.

PDF file 405K

Commodity Prices and P-Star
by Jeffrey J. Hallman and Edward J. Bryden

The P-Star (P*) model forecasts inflation by exploiting the stability of M2 velocity and the tendency of the real economy to operate near its potential. For a given stock of M2, P* is the price level that would prevail if velocity were at its mean and real income equaled potential output. The ratio of the actual price level (P) to P* can be considered an indicator of how the current money stock will affect inflation over the next several years. Over shorter horizons, other factors may be expected to influence the inflation rate. This paper shows how the P* model can be modified to include information about the recent behavior of commodity prices. This modified model yields more accurate short-run inflation forecasts while still retaining the property that, over longer horizons, only money matters.

PDF file 675K

The Causes and Consequences of Structural Changes in U.S. Labor Markets: A Review
by Randall W. Eberts and Erica L. Groshen

During the initial stages of the expansion of the 1980s, wage growth remained relatively subdued. Even as the economy picked up steam later in the decade, tight labor markets did not drive up wages to the extent that past experience would have suggested. In an effort to find out what was behind this unusual wage restraint, the Federal Reserve Bank of Cleveland held a two-day conference in October 1989 on the causes and consequences of structural changes in U.S. labor markets. This article provides an overview of those proceedings.

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1992 Quarter 2 | Vol. 28, No. 2



Intervention and the Bid-Ask Spread in G-3 Foreign Exchange Rates
by William P. Osterberg

Recent research suggests that central-bank intervention may influence the volatility of foreign exchange rates or impair the efficiency of such markets. Using official daily intervention data for Germany, Japan, and the United States, the author tests for whether the anticipation of intervention explains wider bid-ask spreads. No evidence is found for such a relationship in the spot and forward rates of marks/dollars and yen/ dollars. Rather, it appears that narrower spreads are associated with periods of purported intervention and that spreads are narrower if, conditional on the occurrence of intervention, the market is likely to have expected intervention.

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An Ebbing Tide Lowers All Boats: Monetary Policy, Inflation, and Social Justice
by David Altig

Some economists argue that, because low-income individuals are unduly burdened by unemployment and not much affected by inflation in the short run, fairness dictates expansionary monetary policy in times of sluggish economic activity. However, individuals with low incomes are likely to be hurt in the long run if such policies lead to higher inflation. This paper argues that the same social justice criterion that justifies the call for the Fed to "do something" during recessions supports the case for a long-run anchor to the price level.

PDF file 975K

Sluggish Deposit Rates: Endogenous Institutions and Aggregate Fluctuations
by Joseph G. Haubrich

This paper provides an equilibrium analysis of how endogenously arising financial institutions alter the impact of macroeconomic shocks. It explains the low volatility (sluggishness) of bank interest rates relative to other short-term rates and illustrates a powerful principle: When aggregate disturbances also have distributional consequences, the shock can change the pattern of prices specified by efficient contracts. Interest-rate sluggishness arises because banks provide insurance against individual uncertainty, which itself is affected by economic conditions.

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1992 Quarter 3 | Vol. 28, No. 3



Comparing Central Banks' Rulebooks
by E.J. Stevens

A central bank's daylight overdraft and reserve requirement rules influence payments institutions and its own monetary policy operating practices. This article contrasts Federal Reserve rules with those of the Deutsche Bundesbank, the Bank of Japan, and the Bank of England. The fundamental lesson is that no unique set of regulations is necessary for the effective performance of a central bank's monetary and payments system functions. However, adopting a different ruiebook (by eliminating Federal Reserve daylight overdrafts or reserve requirements, for example) would entail some adaptation of payments institutions and monetary policy operating practices. Comparisons to the other central banks indicate what some of these adaptations might be.

PDF file 655K

Forbearance, Subordinated Debt, and the Cost of Capital for Insured Depository Institutions
by William P. Osterberg and James B. Thomson

Requiring banks to issue subordinated debt has been proposed as a way to reduce the deposit insurance subsidy and to increase market discipline. Using a modified cost of capital framework, this article develops an explicit pricing model for subordinated debt that considers the possibility of Federal Deposit Insurance Corporation forbearances. The results reveal that forbearance alters the required rate of return on subordinated debt while increasing its value to debt holders. Moreover, the authors show that a policy of forbearance weakens the effectiveness of such debt in reducing deposit insurance premiums and as a source of market discipline.

PDF file 485K

An Introduction to the International Implications of U.S. Fiscal Policy
by Owen F. Humpage

A commonly held belief is that aggregate U.S. fiscal policy measures- in particular, the federal budget deficit-are directly linked to U.S. interest rates, exchange rates, and the trade balance. Through the use of Engle-Granger cointegration tests and the development of simple two-period, two-country models, the author illustrates a complex relationship that depends on the distortionary nature of taxes and on relative differences between public and private propensities to consume and to import. Fiscal policies can cause trade deficits, but this need not be the case.

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1992 Quarter 4 | Vol. 28, No. 4


White- and Blue-Collar Jobs in the Recent Recession and Recovery: Who's Singing the Blues?
by Erica L. Groshen and Donald R. Williams

Throughout the 1990-91 recession, media reports, unaided by rigorous substantiation, asserted that white-collar workers were being hit disproportionately hard. This paper investigates the veracity of that claim by using aggregate data from the Bureau of Labor Statistics for the six downturns and recoveries since 1960. The authors find that, as usual, the latest episode exacted a greater toll on blue-collar workers. However, the extremely slow growth in white-collar employment was unusual by historical standards. Furthermore, the recent recession was generally harsher than the previous downturns for white-collar workers, but milder than the historical median for their blue-collar counterparts.

PDF file 480K

Assessing the Impact of Income Tax, Social Security Tax, and Health Care Spending Cuts on U.S. Saving Rates
by Alan J. Auerbach, Jagadeesh Gokhale, and Laurence J. Kotlikoff

Today's policy reform proposals seem to be motivated not by concerns about the dramatic decline in U.S. saving rates during the past decade, but instead by the recent sluggishness in economic growth, perceived unfairness in the tax system, and runaway health care expenditures. These concerns have given impetus to proposals for reductions in income and Social Security taxes on middle-income households and for health care spending cuts. The impact of such plans on national saving will obviously depend on the financing method adopted. This paper, through the use of generational accounting, assesses their likely effect on both current and future national saving.

PDF file 415K

History of and Rationales for the Reconstruction Finance Corporation
by Walker F.Todd

Proposals for government intervention to support the capital positions of financial institutions tied to regional or national interests usually build upon a memory, increasingly hazy with the passage of time, of the original governmental rescue program of the 1930s, the Reconstruction Finance Corporation (RFC). This paper analyzes the history of and theoretical rationales for the RFC. Particular attention is paid to the necessity of separating the traditional fiscal policy operations of a government-funded rescue mechanism from the traditional monetary policy operations of a central bank. The author also draws comparisons between the RFC of the 1930s and today's Resolution Trust Corporation, created by Congress to manage the thrift industry crisis of the late 1980s.

PDF file 770K

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