State of confidence, overborrowing and the macroeconomic stabilization puzzle
AbstractIn this paper we model macroeconomic instability as the outcome of the dynamical interaction between debt accumulation and the “state of confidence” in a small open economy with a super-fixed exchange rate arrangement. Our analysis is set in a theoretical framework where balance-sheets effects govern external financing to firms and the state of confidence is largely pro-cyclical. We analyse the conditions for the dominance of unstable chains in the out-of-equilibrium dynamics which determine financial fragility, systemic instability and, as a consequence, macroeconomic stabilization puzzle. Indeed, the choice of a tight fiscal policy is likely to be destabilizing inasmuch as it exacerbates the liquidity crunch taking place in the course of a recession. At the same time, a reduction in interest rates may not be sufficient to switch off macroeconomic instability, and a direct stimulus to aggregate expenditure may be required to avoid an economic collapse. We conduct an “experimental” study with reference to Argentina during the currency board years in order to understand what the implications would have been for dynamical stability of “appropriate” monetary and fiscal policies oriented to macroeconomic stabilization. Our empirical results are based on the sensitivity analysis of a continuous-time econometric model and confirm the dangerousness of conventional austerity policies in times of recession.
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Bibliographic InfoPaper provided by Centre for Empirical Economics and Econometrics, Department of Statistics, "Sapienza" University of Rome in its series DSS Empirical Economics and Econometrics Working Papers Series with number 2014/2.
Length: 25 pages
Date of creation: Jan 2014
Date of revision:
Continuous Time Econometrics; Debt; Macroeconomic stability.;
Find related papers by JEL classification:
- C33 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Models with Panel Data; Spatio-temporal Models
- C62 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Existence and Stability Conditions of Equilibrium
- C61 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Optimization Techniques; Programming Models; Dynamic Analysis
- O11 - Economic Development, Technological Change, and Growth - - Economic Development - - - Macroeconomic Analyses of Economic Development
- O33 - Economic Development, Technological Change, and Growth - - Technological Change; Research and Development; Intellectual Property Rights - - - Technological Change: Choices and Consequences; Diffusion Processes
- O34 - Economic Development, Technological Change, and Growth - - Technological Change; Research and Development; Intellectual Property Rights - - - Intellectual Property and Intellectual Capital
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