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Private sector balance, financial markets, and U.S. cycle: A SVAR analysis

  • Casadio, Paolo
  • Paradiso, Antonio

Purpose – Considering the sectoral balance approach of Godley, and focusing only on the two main components of the private sector balance for the U.S. economy (household and non-financial corporate balance), we investigate the relationship between these two sectors, the financial variables, and economic cycle. In particular, we consider all these relationships endogenously. Design/methodology/approach – We estimate a structural VAR model between household and (non-financial) corporate financial balances, financial markets, and economic cycle and we perform an impulse response analysis. All the variables are expressed as cyclical components applying the Hodrick-Prescott filter. Findings - The main result is that: (1) household and corporate balances react to financial markets in the way we expected and discussed; (2) the economic cycle influences the two financial balances; (3) the corporate balance has a positive impact on the cycle; (4) the economic cycle and financial balances influence the financial variables. In particular, point (3) shows that the corporate balance is a leading component of the cycle as suggested by Casadio and Paradiso (2009) and accords with Minsky’s theory of financial instability. Research limitations/implications – The analysis does not include the foreign sector (current-account balance). Originality/value – Our contribution is an important step forward with respect to the two main contributions in literature which use this approach: the Levy Institute macroeconomic team and Goldman Sachs. Methodologically their models are based on some assumptions (such as exogeneity or market clearing price mechanism for the financial markets) which we overcome considering all the relationships studied in an endogenous manner.

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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 28105.

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Date of creation: 18 Dec 2010
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Handle: RePEc:pra:mprapa:28105
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  1. Wynne Godley, 1999. "Seven Unsustainable Processes: Medium-Term Prospects and Policies for the United States and the World," Economics Strategic Analysis Archive 99-10, Levy Economics Institute.
  2. Paolo Casadio & Antonio Paradiso, 2009. "A Financial Sector Balance Approach and the Cyclical Dynamics of the U.S. Economy," Economics Working Paper Archive wp_576, Levy Economics Institute.
  3. Gennaro Zezza, 2009. "Fiscal Policy and the Economics of Financial Balances," Economics Working Paper Archive wp_569, Levy Economics Institute.
  4. Wynne Godley & Dimitri B. Papadimitriou & Greg Hannsgen & Gennaro Zezza, 2007. "The U.S. Economy: Is There a Way Out of the Woods?," Economics Strategic Analysis Archive sa_nov_07, Levy Economics Institute.
  5. Juselius, Katarina, 2006. "The Cointegrated VAR Model: Methodology and Applications," OUP Catalogue, Oxford University Press, number 9780199285679.
  6. John B. Taylor, 1999. "Monetary Policy Rules," NBER Books, National Bureau of Economic Research, Inc, number tayl99-1.
  7. Hyman P. Minsky, 1992. "The Financial Instability Hypothesis," Economics Working Paper Archive wp_74, Levy Economics Institute.
  8. Dimitri B. Papadimitriou & Greg Hannsgen & Gennaro Zezza, 2009. "Sustaining Recovery--Medium-term Prospects and Policies for the U.S. Economy," Economics Strategic Analysis Archive sa_dec_09, Levy Economics Institute.
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