Should We Trust the Empirical Evidence from Present Value Models of the Current Account?

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Should We Trust the Empirical Evidence from Present Value Models of the Current Account?

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Mercereau, Benôit
Miniane, Jacques Alain

Abstract

The present value model of the current account has been very popular, as it provides an optimal benchmark to which actual current account series have often been compared. We show why persistence in observed current account data makes the estimated optimal series very sensitive to small-sample estimation error, making it close to impossible to determine whether the paths of the two series truly bear any relation to each other. Moreover, the standard Wald test of the model will falsely accept or reject the model with substantial probability. Monte Carlo simulations and estimations using annual and quarterly data from five OECD countries strongly support our predictions. In particular, we conclude that two important consensus results in the literature ? that the optimal series is highly correlated with the actual series, but substantially less volatile ? are not statistically robust.

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Paper provided by Kiel Institute for the World Economy in its series Economics Discussion Papers with number 2008-10.

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Date of creation: 2008
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Handle: RePEc:zbw:ifwedp:7211

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Find related papers by JEL classification:
C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation and Testing
C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods: General - - - Bayesian Analysis
F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
F32 - International Economics - - International Finance - - - Current Account Adjustment; Short-term Capital Movements

This paper has been announced in the following NEP Reports:

NEP-ALL-2008-04-29 (All new papers)
NEP-CBA-2008-04-29 (Central Banking)
NEP-ECM-2008-04-29 (Econometrics)
NEP-IFN-2008-04-29 (International Finance)
NEP-OPM-2008-04-29 (Open MacroEconomics)

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Cashin, P., 1996. "Are Australia's Current Account deficits Excessive?," Department of Economics - Working Papers Series 533, The University of Melbourne.
Other versions:
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Other versions:
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Other versions:
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Other versions:
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Campbell, John Y & Shiller, Robert J, 1987. "Cointegration and Tests of Present Value Models," Journal of Political Economy, University of Chicago Press, vol. 95(5), pages 1062-88, October. [Downloadable!] (restricted)
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