Knowledge that Transforms

This paper replicates standard consumption function tests of Ricardian equivalence using series generated from a model which nests Ricardian equivalence within a non-Ricardian alternative (due to finite horizons and/or distortionary taxation). The author shows that the estimates of the effects of taxation on consumption are not robust and that standard tests may have weaknesses which can lead to conflicting results, whether Ricardian equivalence holds or not. The simulations also show that no clear conclusions about Ricardian equivalence can be drawn from observing a low correlation between the current account and government budget deficits.

Almost six years have passed since Argentina introduced a currency board system called convertibility. It consists of a one-for-one peg between the peso and the U.S. dollar and full backing of the monetary base with international reserves. In spite of its resounding success in reducing inflation, there is still a considerable degree of skepticism in the world, although not so much in Argentina, about whether convertibility is a suitable monetary arrangement for the long run. Prestigious economists have argued that convertibility was a useful tool to stop hyperinflation in Argentina but that it is not suitable for countries facing less dramatic conditions (see John Williamson [1995] and the speeches by Max Corden, Stanley Fischer, and Williamson in World Bank [1997]). According to them, even Argentina should think of abandoning this system as a way to promote economic growth and higher employment. International institutions like the International Monetary Fund and the World Bank have been extremely supportive of convertibility in Argentina. But in private they are concerned about what Sebastian Edwards, former World Bank chief economist for Latin America, has called the exit problem, (i.e., how a country like Argentina can get out of the commitment to a fixed exchange rate without risking price stability).

This paper argues that the primary objective of monetary policy should be long run price stability or at least a low average rate of in°ation. But there is also a welfare improving role for monetary policy in helping the economy adjust to nonpolicy shocks. This gives rise to a fundamental tension in the conduct of monetary policy. Understanding this tension is central to interpreting the qualitative properties of actual monetary policy, for evaluating its e®ects and for thinking about alternative institutions that would lead to better monetary policy. Is there a core of practical macroeconomics that we should all believe? 1 Given my limited space constraints, I won't try to discuss a top ten list of eternal macro truths. Nor will I discuss the importance of modelling macro phenomena using quantitative general equilibrium models. Instead I will approach the question from the perspective of stabilization policy. So de¯ned, my answer to the question is: Yes, there is a core of practical macro. And as regards stabilization policy, most of it has been learned in the past twenty eight years as

Resource pooling in intergenerational households was tested to ascertain the potential policy implications for the welfare of elderly adults. Currently unmarried elderly respondents from a total of 583 households who resided with one of their adult children were included based on the Survey of Assets and Health Dynamics a nationally representative sample of community-resident persons aged 70 and older in 1993. Total household non-labor income and the childs non-labor income was measured in addition to the value of housing assets and home ownership. The regression results provided strong evidence that the intergenerational households do not behave in a way that is consistent with common-preference models. Income under the childs control had a sizable and statistically significant effect on intra-household allocation. Increases in the childs non-labor income decreased both the probability of the childs full-time work and the probability of providing parental care. As the childs control of resources increased more time was allocated to activities other than labor supply and parental care. Neither of the income variables had a significant impact on the parents use of formal care. The childs income had a significant positive effect on the households demand for prescription drugs for the parent. With respect to parental dental visits although the parameter estimate for total household income exhibited the expected positive and significant effect the coefficient on childs income was statistically insignificant at conventional levels (p = 0.17). Home ownership had a significant effect on the childs allocation of time to market work. Two simulations involving the shifting of resource control within the household and providing additional cash assistance to eligible families suggested that resource control has a significant impact on labor supply and informal care. Cash transfer to coresident children might result in lower total care than policies which provide additional resources directly to the parent.

The authors develop a model in which states may choose to form coalitions to capture efficiency gains from policy coordination. Joining a coalition entails setting the policy variable to maximize the coalition's aggregate payoff at a Nash equilibrium against nonmembers and to commit to a transfer scheme to share the gains. With two states, the unique equilibrium structure is complete federation; with more than two states, incomplete federation can be the unique equilibrium. Interpreting this result in terms of custom unions, the trend to trading-bloc formation may be equilibrium behavior even with cooperation and transfers within customs unions.

Prize Lecture to the memory of Alfred Nobel, December 9, 1997