Boston College Economics Working Papers

#266 Financial Liberalization and the Efficiency of Investment Allocation

by Fabio Schiantarelli, Andrew Weiss, Fidel Jaramillo, Miranda Siregar
February 1994

Abstract: In this paper we investigate whether financial liberalization improves the efficiency with which investment funds are allocated. We develop a simple measure of efficiency and apply it to firm level panel data for Indonesia and Ecuador. We find evidence that financial liberalization has indeed improved the allocation of investment, particularly in Indonesia

#267 Trends and Cycle Variations in the Cross-Sectional Distribution of Debt for U.K. Companies: Some Stylized Facts

by Fabio Schiantarelli, Mustafa Caglayan, P. Beaudry, M. Devereaux
March 1994

#268 Credit Where Credit is Due? How Much, For Whom, and What Difference Does it Make? A Review of the Macro and Micro Evidence on the Real Effects of Financial Reform

by Fabio Schiantarelli, Izak Atiyas, Gerard Caprio, Jr., John Harris, Andrew Weiss
December 1993

#269 Strategic Lobbying and Antidumping

by James E. Anderson
October 1993

Abstract: Anti-dumping is often defended as a pressure valve which reduces more illiberal forms of protectionist pressure. In the domino dumping model of Anderson (1992, 1993) this need not be true as exporters dump to obtain market access in the event of a VER. The contribution of this paper is to show that anti-dumping opens a channel for strategic lobbying through which lobbying commitments can have favorable effects on the decisions of exporting firms, and through which antidumping enforcement can encourage lobbying. Thus a "de-politicizing" institution can perversely be responsible for politicizing trade policy all the more.

#270 When Are Anonymous Congestion Charges Consistent with Marginal Cost Pricing?

by Richard Arnott, Marvin Kraus
March 1994

Abstract: There are constraints on pricing congestible facilities. First, if heterogeneous users are observationally indistinguishable, then congestion charges must be anonymous. Second, the time variation of congestion charges may be constrained. Do these constraints undermine the feasibility of marginal cost pricing, and hence the applicability of the first-best theory of congestible facilities? We show that if heterogeneous users behave identically when using the congestible facility and if the time variation of congestion charges is unconstrained, then marginal cost pricing is feasible with anonymous congestion charges. If, however, the time variation of congestion charges is constrained, optimal pricing with anonymous congestion charges entails Ramsey pricing.

#271 Comparing Alternative Models of the Term Structure of Interest Rates

by Christopher F. Baum, Basma Bekdache
June 1994

Abstract: A variety of methods for fitting the term structure of interest rates are based on "no-arbitrage" models. From the original cubic spline methods of McCulloch through the more recent smoothing spline approaches of Fisher and Zervos, attempts have been made to generate estimates which allow for local flexibility and a parsimonious representation. Alternative approaches, such as Coleman et al.'s piecewise linear forward rate function and Nelson and Siegel's parametric model have been proposed as superior.

We conduct an exhaustive examination of seven no-arbitrage methods of term structure modelling, applying each method to Treasuries and evaluating both price errors and yield errors in- and out-of-sample. We document a marked difference in the performance of the methods in- and out-of-sample. The Fisher et al. method works very well, but is computationally intensive. The much simpler Nelson-Siegel approach has surprising power in pricing bonds out-of-sample.

#272 Measuring the Welfare Impact of Fiscal Policy

by James E. Anderson
August 1994

Abstract: This paper is a guide to welfare cost measurement with all the basic elements of fiscal policy active in a representative consumer economy. By developing a simple dual framework which nevertheless is more general than the special cases usually employed, we are able to clear up several confusions in the literature on the welfare cost of tax changes. We argue for the natural dominance of a single measure of welfare cost. We do a similar analysis of the parallel literature on government project evaluation, and are able to clear up the confusing concept of the marginal social cost of funds.

#273 Effective Protection Redux

by James E. Anderson
July 1994

Abstract: This paper rehabilitates effective protection. The usual definition of the effective rate of protection is the percentage change in value added per unit induced by the tariff structure. The problem is that in general equilibrium this measure corresponds to no economically interesting magnitude. The effective rate of protection for sector j is defined here as the uniform tariff which is equivalent to the actual differentiated tariff structure in its effects on the rents to residual claimants in sector j. This definition applies to general as well as partial equilibrium economic structures, has obvious relevance for political economy models and seems to correspond to the motivation for the early effective protection literature. Like the earlier effective rate formula, the concept is operational using the widely available set of Computable General Equilibrium (CGE) models.

#274 A Model of Hyperinflation

by T. Christopher Canavan
July 1994

Abstract: Standard models of hyperinflation use a money demand function based on asset- market considerations: households adjust their real balances according to expected inflation, which is the negative of the real rate of return to money. But these models yield inaccurate and sometimes counterintuitive predictions. One is that if a hyperinflation is a price-level bubble, then hyperinflation is possible at any rate of money growth. Another is that, for some equilibria, an increase in a government's reliance on seignorage reduces rather than raises the steady-state inflation rate. This paper proposes an alternative way to look at hyperinflation based on a careful description of the microeconomics of monetary exchange. Money is primarily an institution required to finance consumption and only incidentally a financial asset. The decision to accept money is a decision to engage in monetary exchange, and a hyperinflation occurs when most households choose to abstain from monetary exchange. The macroeconomic implications of this model are more appealing than those of the traditional models. First, while a hyperinflation in my model may have the same properties as a price-level bubble, this "bubble" is very unlikely when money growth is low and inevitable when money grows too quickly. Second, a greater reliance on seignorage increases the rate of inflation, and can ultimately cause a hyperinflation. The model also mimics the non-monotonic path of real balances as inflation accelerates. Finally, the model suggests that it may be very difficult to restore a currency's place in exchange after a hyperinflation.

#275 An Alternative Strategy for Estimation of a Nonlinear Model of the Term Structure of Interest Rates

by Christopher F. Baum, Olin Liu
August 1994

Abstract: This paper develops and tests a nonlinear general equilibrium model of the term structure of interest rates based on the framework of Cox, Ingersoll and Ross (CIR, 1985). The contributions of this paper to the literature are both theoretical and empirical. The theoretical advantages of the general equilibrium model developed in this paper over the CIR model are (a) the risk premium is endogenously derived as a nonlinear function of the instantaneous interest rate. (b) The nonlinear model shows that the term premium need not be strictly increasing in maturity as in CIR's model; it can be either increasing or humped, a result that is consistent with recent findings by Fama (1984) and McCulloch (1987). (c) Yields of different maturities are not perfectly correlated, but exhibit positive correlations. A partial differential equation for valuing the discount bond price is presented, and a closed-form expression is derived. The term structure of interest rates derived from this nonlinear model may be increasing, decreasing, humped or inverted, depending on parameter values.
In an empirical application of the model, we develop a strategy for estimation which permits analysis of the modelÕs temporal stability. Our modelÐlike that of CIRÐexpresses the underlying stochastic process as a highly nonlinear function of two fundamental, time-invariant parameters. Many researchers have found that general equilibrium models such as CIRÕs provide quite poor explanations of the evolution of the term structure of interest rates. As an alternative strategy to that of fitting the fundamental parameters, we employ nonlinear system estimation of the unrestricted reduced-form parameters with a moving-window strategy in order to capture the term structure volatility caused by factors other than the instantaneous interest rate. We purposefully do not impose any law of motion on the estimated volatilities. This methodology is shown to have strong predictive power for the observed term structure of interest rates, both in-sample and out- of-sample.

#276 Specific Human Capital Investment and Wage Profiles

by Chongen Bai
November 1992

#277 Specific Human Capital Investment and Turnover Under Uncertainty

by Chongen Bai, Yijiang Wang
July 1994

Abstract: An equilibrium model of labor contracts under asymmetric information is developed. A profit-maximizing firm offers a wage but retains the right to lay off the worker based on its private observation of the worker's productivity ex post. The worker invests in specific human capital, unobservable to the firm, to improve the retention probability. It is shown that, under not very restrictive conditions, productivity uncertainty has adverse effects on the firm's wage offer to the worker, the worker's investment in firm-specific human capital, employment stability, and average productivity. A comparison between American and Japanese firms is made to explore the implication of the finding.

#278 Macroeconomic Policy and Methodological Misdirection in the National Income and Product Accounts

by Martin Fleming, John Jordan, and Kathleen Lang
September 1994

#279 Capital Structure and Product Market Strategy

by Chongen Bai, Shan Li
July 1994

Abstract: This paper develops a general framework to analyze the relationship between a firm's capital structure and its product market strategy and presents a taxonomy of whether debt makes a firm tough or soft in product market competition and how strategic considerations affect the leverage of a firm based on the nature of the firm's agency problem and the characteristics of the product market. We then review the related literature and point out unexplored linkages between capital structure and product market strategies. Finally, we discuss the empirical implications of our theoretical results.

#280 The Economics of Residential Real Estate Brokerage

by Richard Arnott
June 1994

#281 An Empirical Investigation of Risk Premia in the Foreign Currency Futures Basis

by Christopher F. Baum, John Barkoulas
October 1994

A revised version (January 1996) of this paper, now entitled "Time-Varying Risk Premia in the Foreign Currency Futures Basis," is forthcoming in Journal of Futures Markets and may be downloaded in Adobe Acrobat format (192 K): published in Journal of Futures Markets 16:7, 735-755.

Abstract (revised January 1996): Significant time-varying risk premia exist in the foreign currency futures basis, and these risk premia are meaningfully correlated with common macroeconomic risk factors from equity and bond markets. The stock index dividend yield and the bond default and term spreads in the U.S. markets help forecast the risk premium component of the foreign currency futures basis. The specific source of risk matters, but the relationships are robust across currencies. The currency futures basis is positively associated with the dividend yield and negatively associated with the spread variables. These correlations cannot be attributed to the expected spot price change component of the currency futures basis, thus establishing the presence of a time-varying risk premium component in the currency futures basis.

#282 Alleviating Traffic Congestion: Alternatives to Road Pricing

by Richard Arnott
September 1994

Abstract: Economists' favorite remedy for traffic congestion is road pricing. Not only is road pricing based on sound economic principles, but also given current technology it could be implemented at reasonable cost and in a flexible and sophisticated manner. But there are serious obstacles to the widespread adoption of road pricing. There are problems of phase-in: the fixed costs of introducing any system of road pricing, as well as the problems of coordinating road pricing across jurisdictions, including standardization and the treatment of out-of-towners. Political acceptability is an even more serious obstacle. How can congestion pricing be "sold" to economically unsophisticated voters who are justifiably suspicious of any new government taxes and charges? This paper will not argue against road pricing, though it will point out some of the difficulties associated with the policy that economists have tended to ignore or to gloss over. Rather, it will examine some of the alternatives to road pricing. More specifically, it will f focus on two related questions, one positive, one normative, on the assumption that congestion pricing is not introduced, at least on city streets. The positive question: What are the likely effects of policies other than road pricing on alleviating road congestion? The normative question: What mix of policies (road pricing excluded) would be most effective in alleviating traffic congestion? Throughout the focus will be on urban traffic congestion. Alternatives to road pricing can be grouped into five categories: 1. Expansion and upgrading of existing road capacity; 2. Expansion and upgrading of mass transit; 3. Regulation; 4. Information; 5. Non-road transport pricing. While the emphasis of the paper will be on qualitative analysis, there will be some attempts at quantification via back-of-the-envelope calculations.

#283 Macroeconomic Policy Implications of Oil in Colombia

by Robert G. Murphy
October 1994

Abstract: This paper develops and applies a small econometric model to illustrate the likely short-term macroeconomic effects on the economy of Colombia resulting from the recent discovery and planned development of new oil resources. In performing the analysis, the paper considers various assumptions concerning government fiscal, monetary, and exchange-rate policies so as to assess the ability of policy to influence the effects that the oil discovery will have on the economy. Comparisons of these alternative policy simulations strongly suggest that appropriate macroeconomic policies can reduce significantly the negative consequences of the "Dutch disease," the symptoms of which are reflected in an over-valued exchange rate and declining non-oil export and import-competing sectors. The simulations also demonstrate, however, that some degree of relative price adjustment will be needed for the Colombian economy. In particular, attempts to limit relative price adjustment through the real exchange rate simply force the requisite relative price adjustment to occur through domestic price inflation in reducing the real purchasing power of the peso. Managing this tradeoff between domestic price inflation and real appreciation of the exchange rate should be the overriding concern of macroeconomic policy.


Copies of BC Economics Working Papers are available by request to feinschreiber/ec@hermes.bc.edu. There is no charge for single copies.