Abstract
IMF research summaries on global population aging and pension reform (by Mario Catalán) and on questions about decoupling (by M. Ayhan Kose); country study on the United States (by Koshy Mathai); listing of visiting scholars at the IMF during June–August 2008; listing of contents of Vol. 55 No. 3 of IMF Staff Papers; listing of recent IMF Working Papers; and a listing of recent external publications by IMF staff.
Koshy Mathai
With the U.S. economy now in a slump driven by the housing downturn and the credit crisis it spawned, IMF staff working on the United States have focused their recent research efforts on housing, financial sector issues, and macrofinancial linkages. Earlier, considerable attention was devoted to international spillovers and global imbalances, fiscal challenges, and monetary policy. This article provides a brief guide to these analyses, which have provided the underpinnings to the IMF staff’s policy line during annual Article IV consultations with the United States.
Gyrations in the housing market have often been tied to the broader business cycle, with the current episode in the United States a particularly notable example. Bubbles are often alleged, but assessing the equilibrium level of house prices is difficult. Updating and extending work originally done by Mühleisen and Kaufman (2003), Klyuev (2008) finds that prices are some 11 to 12 percent overvalued and are not closely anchored to fundamentals, implying that the housing cycle is likely to last some time and that prices could well undershoot equilibrium.
The United States is currently going through its first major nationwide housing downturn since the Great Depression, and there is thus little historical precedent for what the implications will be for the economy at large. Analysis in the April 2003 World Economic Oulook found that, in other industrial countries, housing busts have typically been associated with long recessions, as hits to bank and household balance sheets were only slowly resolved (IMF, 2003). This international evidence for a prolonged slowdown is further supported in Estevão and Barrera’s (2008) work on regional housing cycles in the United States; they find that parts of the country experiencing housing busts—such as New England or California in the early 1990s—have typically suffered unusually long downturns even when controlling for reverse causation.
Three other papers examine the role of housing finance. Schnure (2005) describes an evolution from local-bank-based mortgages to nationwide funding based on securitization. He runs house price regressions over different time periods and regions of the country to establish that pricing errors declined as mortgage finance developed. Mühleisen (2006) examines how U.S. mortgage-backed securities have become a globally attractive asset and discusses whether foreign capital inflows helped to create a housing bubble. Kiff and Mills (2007) pay special attention to the subprime mortgage market that was at the heart of the current crisis, tracing the market’s development, examining why it got into trouble, and assessing the impact of the crisis on financial institutions and households. The authors conclude with a discussion of risk management and consumer protection in the “originate-to-distribute” model, as well as possible policy responses.
Broader financial issues are covered in several other papers. Bhatia (2007) provides an overview of the new financial landscape, with a “core” of heavily regulated institutions—depositories, government-sponsored enterprises, and major broker-dealers—surrounded by an increasingly important, but lightly regulated, “periphery.” Bhatia describes and motivates the U.S. regulatory philosophy—which is to focus on cases of systemic importance and those in which moral hazard is particularly important, while leaving financial innovation relatively unconstrained elsewhere—and provides some suggestions on regulatory policy going forward.
Empirical analyses of financial risks are developed in De Nicoló and others (2004), who focus on the 20 biggest of the “large complex banking groups” (LCBGs). They find that systemic vulnerability may have increased over time, suggesting the need for regulatory surveillance not only of individual LCBGs, but also of the system as a whole, a theme Bhatia (2006) picks up in his analysis of financial innovation and systemic risk in the U.S. banking sector.
In the same vein, Capuano and Segoviano (2008) analyze the extent to which bank default risks are interlinked. The authors quantify default dependence among the major commercial and investment banks and assess how it varies over time. The key result is that interconnections rise at the very time that individual defaults become more likely—in other words, financial turmoil increases systemic risks even more than risks to individual institutions.
Recent analysis by the IMF’s U.S. team has also quantified macrofinancial linkages to examine the link between tighter financial conditions and growth. Using vector autoregressions (VARs), Swiston (2008) estimates impulse responses from financial variables—including, importantly, bank lending standards—to growth, in order to build up a financial conditions index (FCI). The FCI suggests that macrofinancial linkages are large but occur with some lag, implying that recently observed financial turmoil could lower growth by some 1 to 2 percent over the next two years. In a complementary paper, Bayoumi and Melander (2008) take a more structural approach, estimating a series of equations tracing out the impact of changes in bank capital on credit extension, then on spending, income, and back again on bank capital. Through this very different approach, the authors derive similar estimates of the likely growth impact of recently observed financial shocks.
Another strand of the team’s research has examined external spillovers as well as risks from the external deficit. On spillovers, Bayoumi and Swiston (2007a) assess the size, direction, and channels of international growth links. They run VARs of quarterly growth in four regions—the United States, the euro area, Japan, and a diverse group of small, industrial countries whose very diversity suggests that shocks affecting all of them can proxy well for global shocks. The VAR results suggest that shocks to U.S. activity affect the rest of the world—and largely through financial, as opposed to trade, channels—while shocks elsewhere have little impact on the United States. Bayoumi and Swiston (2007b) pick up on this work by using data from inflation-indexed bonds to examine international spillovers of real interest rates and inflation expectations. The authors find that U.S. bond markets drive world bond markets, and that real interest rates are much more linked than inflation expectations. Some earlier papers also examined spillovers, with Kose (2003a) documenting the growth in linkages between the United States and the rest of the G-7 and suggesting that global factors have become increasingly important in driving business cycles, and Cardarelli and Kose (2003) performing simulations suggesting that increased U.S. budget deficits would not only slow long-run domestic growth through crowding out, but also raise global interest rates and slow activity elsewhere as well.
It should come as no surprise that the U.S. team has also devoted considerable research effort to analyzing current account sustainability. Balakrishnan, Bayoumi, and Tulin (2007) examine alternative explanations for the easy financing of the U.S. current account deficit. The authors highlight the importance of declining home bias and financial deepening in other industrial countries, and conclude that the key issue is the degree to which these are likely to continue. Swiston (2005) comes at the same question by focusing on the U.S. net international investment position (NIIP). He finds that global portfolios do not appear to hold excessive amounts of U.S. assets, suggesting that continued U.S. borrowing will be possible, but cautions that the NIIP is weaker than would be expected and deteriorating rapidly. Finally, Kumhof, Laxton, and Muir (2005) use the IMF’s Global Fiscal Model to conclude that fiscal tightening would lead to a substantial improvement in the current account while also—as suggested by Cardarelli and Kose (2003)—lowering global interest rates.
Finally, a number of papers have examined trade issues, with Justiniano and Krajnyak (2005) looking at the rapid decline of the U.S. trade balance, Hilaire (2003) discussing the U.S. emphasis on regional and bilateral trading arrangements, Kose (2003b) focusing on the North American Free Trade Agreement in particular, and Alexandraki (2004) analyzing U.S.-China trade.
With all the attention paid to problems in the housing and financial sectors, as well as to global imbalances, it may be easy to forget the severe fiscal challenges facing the United States, but these remain very real, and a number of staff papers have focused on these issues. Bayoumi, Botman, and Kumar (2005) use the IMF’s Global Fiscal Model to analyze the effects of various Social Security and tax reforms, concluding that personal retirement accounts are unlikely to be helpful in macroeconomic terms and that lowering taxes on investment income would be beneficial, but only if done in a revenue-neutral manner. Ivaschenko (2005) hones in on the key driver of long-term spending pressures—namely, rising medical costs—and presents cross-country analysis showing precisely how much of an outlier the United States is in terms of health expenditure, without matching benefits in outcomes. Bayoumi and Gonçalves (2007) look at the historical growth of government over the past half-century and see no evidence that “starving the beast” is likely to work, while Kumhof, Laxton, and Leigh (forthcoming) supplement this with some Global Integrated Monetary and Fiscal Model simulations. Rial and Gorter (2007) report on a pilot study to implement the IMF’s Government Finance Statistics Manual 2001 methodology in the United States.
Nearer-term fiscal issues have also caught the attention of IMF researchers. Swiston, Mühleisen, and Mathai (2007) construct a data set of tax revenues adjusted for changes in tax law and then perform econometric analyses showing that recent buoyancy was explained largely by capital gains and corporate profits. Mühleisen and Swiston (2004) analyze tax and spending options to meet the current adminstration’s deficit target, while Swiston (2004) describes the spread of the alternative minimum tax and possible policy solutions. Finally, Ivaschenko (2003) examines fiscal problems at the state and local levels and analyzes their likely impact on growth.
Other papers have focused on monetary policy and communications. Rabanal (2004) contrasts the simple policy rules studied by academics with the more nuanced descriptions (e.g., the “risk management approach”) used by central bankers. He estimates a policy rule with time-varying parameters and finds that the Fed operates differently depending on where the economy is in the business cycle. Kişinbay, Rogers, and Stone (2005) consider the pros and cons of the Fed’s adopting an explicit inflation objective, concluding that such a move would indeed be helpful for long-term expectations and near-term policy transparency, and would not make it substantially more difficult to achieve output/employment goals.
While the papers described above span the major themes of study over the past few years, research has also been conducted on a variety of other topics, including household savings, labor markets, energy policy, and the effects of the information technology revolution.
References
Alexandraki, Katerina, 2004, “U.S. Trade with China: Trends and Policies,” United States: Selected Issues, IMF Staff Country Report 04/228.
Balakrishnan, Ravi, Tamim Bayoumi, and Volodymyr Tulin, 2007, “Globalization, Gluts, Innovation, or Irrationality: What Explains the Easy Financing of the U.S. Current Account Deficit?” IMF Working Paper 07/160.
Bayoumi, Tamim, and Fernando Gonçalves, 2007, “Government for the People: On the Determinants of the Size of U.S. Government,” IMF Working Paper 07/289.
Bayoumi, Tamim, and Ola Melander, 2008, “Credit Matters: Empirical Evidence on U.S. Macro-Financial Linkages,” IMF Working Paper 08/169.
Bayoumi, Tamim, and Andrew Swiston, 2007a, “Foreign Entanglements: Measuring the Size and Source of Spillovers Across Industrial Countries,” IMF Working Paper 07/182.
Bayoumi, Tamim, and Andrew Swiston, 2007b, “Ties that Bind: Measuring International Bond Spillovers Using Inflation-Indexed Bond Yields,” IMF Working Paper 07/128.
Bayoumi, Tamim, Dennis Botman, and Manmohan Kumar, 2005, “Effects of Social Security and Tax Reform in the United States,” United States: Selected Issues, IMF Staff Country Report 05/258.
Bhatia, Ashok, 2006, “U.S. Banking: Financial Innovation and Systemic Risk,” United States: Selected Issues, IMF Staff Country Report 06/278.
Bhatia, Ashok, 2007, “New Landscape, New Challenges: Structural Change and Regulation in the U.S. Financial Sector,” United States: Selected Issues, IMF Staff Country Report 07/265.
Capuano, Christian, and Miguel Segoviano, 2008, “Analyzing the Sources of (In)stability in the U.S. Banking Sector,” United States: Selected Issues, IMF Staff Country Report 08/217.
Cardarelli, Roberto, and Ayhan Kose, 2003, “Domestic and International Impact of U.S. Budget Policies,” United States: Selected Issues, IMF Staff Country Report 03/245.
De Nicoló, Gianni, and others, 2004, “U.S. Large Complex Banking Groups: Business Strategies, Risks, and Surveillance Issues,” United States: Selected Issues, IMF Staff Country Report 04/228.
Estevão, Marcello, and Natalia Barrera, 2008, “House Prices and Regional Cycles in the United States,” United States: Selected Issues, IMF Staff Country Report 08/217.
Hilaire, Alvin, 2003, “The United States and the New Regionalism/Bilateralism,” United States: Selected Issues, IMF Staff Country Report 03/245.
International Monetary Fund (IMF), World Economic Outlook April 2003, Chapter II (Washington, IMF).
Ivaschenko, Iryna, 2003, “Budget Crisis of State and Local Governments in the United States: Will It Hinder Economic Growth?” United States: Selected Issues, IMF Staff Country Report 03/245.
Ivaschenko, Iryna, 2005, “Diagnosing the High Cost of U.S. Medical Care,” United States: Selected Issues, IMF Staff Country Report 05/258.
Justiniano, Alejandro, and Kornelia Krajnyak, 2005, “Why Has the U.S. Trade Balance Widened So Fast?” United States: Selected Issues, IMF Staff Country Report 05/258.
Kiff, John, and Paul Mills, 2007, “Money for Nothing and Checks for Free: Recent Developments in U.S. Subprime Mortgage Markets,” United States: Selected Issues, IMF Staff Country Report 07/265.
Kişinbay, Turgut, Scott Rogers, and Mark Stone, 2005, “Should the Fed Adopt an Explicit Inflation Objective?” United States: Selected Issues, IMF Staff Country Report 05/258.
Klyuev, Vladimir, 2008, “What Goes Up Must Come Down? House Prices in the United States,” United States: Selected Issues, IMF Staff Country Report 08/217.
Kose, Ayhan, 2003a, “Globalization and Business Cycles in the United States,” United States: Selected Issues, IMF Staff Country Report 03/245.
Kose, Ayhan, 2003b, “Economic Integration in the Americas: Lessons from NAFTA,” United States: Selected Issues, IMF Staff Country Report 03/245.
Kumhof, Michael, Douglas Laxton, and Dirk Muir (with assistance from Susanna Mursula), 2005, “Consequences of Fiscal Consolidation for the U.S. Current Account,” United States: Selected Issues, IMF Staff Country Report 05/258.
Kumhof, Michael, Douglas Laxton, and Daniel Leigh, forthcoming, “To Starve or Not to Starve the Beast,” IMF Working Paper.
Mühleisen, Martin, 2006, “The Attractiveness of U.S. Financial Markets: The Example of Mortgage Securitization,” United Sates: Selected Issues, IMF Staff Country Report 06/278.
Mühleisen, Martin, Martin Kaufman, 2003, “Are U.S. House Prices Overvalued?” United States: Selected Issues, IMF Staff Country Report 03/245.
Mühleisen, Martin, and Andrew Swiston, 2004, “United States: Perspectives on Fiscal Consolidation,” United States: Selected Issues, IMF Staff Country Report 04/228.
Rabanal, Pau, 2004, “Monetary Policy Over the U.S. Cycle,” United States: Selected Issues, IMF Staff Country Report 04/228.
Rial, Isabel, and Cornelis Gorter, 2007, “Applying the GFSM 2001 Framework to U.S. Fiscal Data,” United States: Selected Issues, IMF Staff Country Report 07/265.
Schnure, Calvin, 2005, “Boom-Bust Cycles in Housing: The Changing Role of Financial Structure,” United States: Selected Issues, IMF Staff Country Report 05/258.
Swiston, Andrew, 2004, “The Increasing Scope of the Alternative Minimum Tax,” United States: Selected Issues, IMF Staff Country Report 04/228.
Swiston, Andrew, 2005, “A Global View of the U.S. Investment Position,” United States: Selected Issues, IMF Staff Country Report 05/258.
Swiston, Andrew, 2008, “A U.S. Financial Conditions Index: Putting Credit Where Credit is Due,” IMF Working Paper 08/161.
Swiston, Andrew, Martin Mühleisen, and Koshy Mathai, 2007, “U.S. Revenue Surprises: Are Happy Days Here to Stay?” United States: Selected Issues, IMF Staff Country Report 07/265.