APPENDIX Description of Data
All data on nominal and real GDP are seasonally adjusted quarterly series. These series, and the data on consumer prices, the yield curve, and broad monetary aggregates are all obtained from national sources compiled by IMF staff. For the monetary base, various sources were utilized. These are described for each of the seven countries in the following paragraphs, and the resulting annual adjusted monetary base series are presented in Table Al.
Estrella, Arturo, and Gikas A. Hardouvelis, “The Term Structure as a Predictor of Real Activity,” Journal of Finance (June 1991), pp. 555–76.
Fischer, Stanley, “Macroeconomic Policy,” in International Economic Cooperation, edited by Martin Feldstein (Chicago: University of Chicago Press for NBER, 1988).
Friedman, Milton, and Anna J. Schwartz, A Monetary History of the United States, 1867, 1960 (Princeton, New Jersey: Princeton University Press, 1963).
Hargraves, Monica, and Garry J. Schinasi, “Monetary Policy, Financial Liberalization, and Asset Price Inflation,” Annex I in World Economic Outlook (Washington: International Monetary Fund, May 1993), pp. 81–95.
International Monetary Fund, “Price Stability,” Box 2 in World Economic Outlook (Washington: International Monetary Fund, May 1993), pp. 24–25.
McCallum, Bennett T., “Specification and Analysis of a Monetary Policy Rule for Japan,” Monetary and Economic Studies, Bank of Japan (November 1993), pp. 1–45.
Bennett McCallum is the H.J. Heinz Professor of Economics at Carnegie-Mellon University. Work on this paper was begun when Professor McCallum was a visiting scholar in the Research Department. We are indebted to Peter B. Clark and David T. Coe for advice and encouragement, to Robert P. Flood for comments on an earlier draft, and to Toh Kuan, Sheila Bassett, and Sungcha Cha for expert assistance. The views expressed are the authors’ alone and do not necessarily represent the views of the International Monetary Fund.
Whether the aggregate spending measure should pertain to asset exchanges as well as production (or consumption) flows is an issue, raised by Hargraves and Schinasi (1993), that will be reserved for a future study.
That actual central banks, at least in the G-7 countries, do not use the base as a control instrument is well known and will be discussed below.
Other approaches could be explored, such as extracting the “permanent” component of the velocity series by means of time-series decomposition methods.
Actual inflation targets and monetary policy objectives vary among the major industrial countries, but 2 percent inflation per year may be considered roughly consistent with price stability. See International Monetary Fund (1993).
Our estimates of long-run real growth rate are not intended to be refined measures. They are simply averages of realized rates over 1961-92, rounded to the nearest 1/2 percent (annual basis). The values obtained in this manner are 3 percent except for Japan (4 percent for 1972-92), Canada (4 percent), and the United Kingdom (2 percent). It would be straightforward to adopt more sophisticated estimates of potential output growth.
As a sum of liability items on the central bank’s own balance sheet, the base could be monitored daily—or even more frequently—and adjusted by open-market operations whenever observations depart from desired values.
Much has been made recently of the “stability” of M2 velocity in the United States over the past 30 years. But this phenomenon—more accurately described as the absence of any upward or downward drift—most emphatically did not prevail prior to 1960; see Friedman and Schwartz (1963, p. 640). Reasons for the change in behavior are not known so we are dubious regarding explicit or implicit predictions of future drift-free behavior.
Recent papers on the information content of the term structure spread, or the spread between short-term rates on private and government securities, have explored their predictive value for aggregate variables. One of the explanations offered for the information content of these spreads is that they reflect the current stance of monetary policy. Some of these studies stress, however, that it is the real effects of monetary policy, not the effects on prices, that is relevant. See, for example, Estrella and Hardouvelis (1991). To the extent that the information content does derive from monetary policy however, the choice between such interest rate spreads and the monetary impulse measure is in part an empirical one, and some assessments are made in Section VI.
Data underlying the measures are available from the authors.
The importance of adjusting for reserve requirements can be illustrated by the case of France in 1975. The International Financial Statistics “Reserve Money” series fell from FF 152.3 billion at the end of 1974 to FF 119.4 billion at the end of 1975, which might appear to be a contraction of epic proportions. Over the same time, however, the ratio of required reserves on sight deposits fell from 17 to 2 percent. With initial required reserves in excess of FF 50 billion, roughly FF 44 billion were freed by the reduction in the required ratio. So the overall effect was not strongly contractionary.
In the case of the United Kingdom the series is not adjusted, but reserve requirements are low enough to be nonbinding.
In Germany, reserve requirements on demand deposits varied according to bank size until March 1977, after which they varied on a “progressive scale” based on the first DM 10 million of a bank’s deposits, the next DM 10-100 million, etc.
For Japan the reference value of rr° chosen was the 2.5 percent rate that prevailed without change from April 1981 until October 1991. For Germany, the reference value was the 12.1 percent rate that prevailed from February 1987 to February 1992.
Seasonal adjustment was also required for the Italian series.
Inflation did indeed fall beginning in 1990, but not all the way to 2 percent.
In addition, during much of 1992 and 1993 mortgage refinancing activity contributed greatly to faster Ml and reserve growth in the United States because some mortgage funds were mandated to hold demand deposits for a period following the prepayment of mortgages.
Between 1986 and their peak in 1989, stock prices in Japan more than quadrupled, while goods price inflation as reflected in the CPI or GDP deflator remained below 2 percent per year. It is noteworthy in Figure 2 that the velocity adjustment term in 1987-90 is relatively large and negative, possibly reflecting in part the shift in the pattern of transactions during this period away from the flow of goods and services and toward assets whose sales are not included in GDP. For a discussion of the role of monetary policy in the asset price inflation in Japan—and, to a lesser extent, in the United States and United Kingdom—see Hargraves and Schinasi (1993).
The sharp decline in the IM measure in 1986 is an artifact of our reserve adjustment procedure. In May 1986, reserve requirements on time and saving deposits were reduced substantially, leading to a considerable reduction in reserve demand. However reserve requirements on demand deposits were not changed at the time, so the reserve adjustment procedure described earlier does not capture this change.
The 0.12 magnitude exceeds the fraction of west German GDP represented by east Germany, but is smaller than the analogous fraction in terms of domestic demand.
The 1990 values of the GDP and base variables are averages of quarterly values, and two quarters passed before unification, so even if the full impact occurred in 1990, the appropriate adjustment to the annual average growth rates is to assign half to 1990 and half to 1991.
During 1979-82 the monetary aggregate then being targeted, Sterling M3, grew very rapidly—well above its target range—thereby inappropriately signalling that monetary policy was loose. The instability of M3 velocity at that time was recognized and attributed to financial innovation and the removal in 1980 of the “corset” that had suppressed M3 growth.
Regarding the unsmoothed quarterly IMl measures that have not reported, it may be worth mentioning that their severe choppiness comes primarily from the DLB series, rather than from DLVBAR (which is already smoothed), and presumably reflects the fact that the various central banks have not regarded stability of base growth rates as a desideratum. An exception to this statement applies to Germany, where Central Bank Money was a target variable for a number of years.
It should be noted that the IMlAVG measure is equivalent to one based on growth rates calculated for each quarter relative to the same quarter one year earlier.
The adjustment made for German unification in the quarterly data was to subtract 7 percent from the growth rate of the monetary base in 1990:3; 3 percent in 1990:4; and 2 percent in 1991:1. The caveats noted earlier in the discussion of the adjustment to the annual series apply here as well.
The sharp increase in inflation in 1980-81 does not have a correspondingly large rise in the impulse measure in prior years. However, as the other panels in Figure 11 show, alternative measures of monetary conditions also do not seem to capture this episode.
The choice of broad aggregate differs across countries so as to conform somewhat with national preferences. The aggregates used are as noted in the figures.
Because of data limitations, one difference between our calculated base series for Germany and those for other countries is that currency held by banks is not counted in “currency in circulation.”
The quarterly series for coins in an end-of-period series. For 1978 to 1990:3, a quarterly series on reserves and currency was obtained by averaging monthly data. For 1990:4 to 1993, end-of-quarter values for currency and reserves were used because vault cash—which began to count toward reserve requirements in 1990:4—is published as an end-of-quarter series.
The Bank of Italy’s Statistical Bulletin reports growth rates of its adjusted monetary base series; underlying level data were obtained from the Bank of Italy.