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

  • Mercereau, Benoît
  • Miniane, Jacques Alain
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    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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    File URL: http://www.economics-ejournal.org/economics/discussionpapers/2008-10
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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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    1. Cashin, P., 1996. "Are Australia's Current Account deficits Excessive?," Department of Economics - Working Papers Series 533, The University of Melbourne.
    2. Jonathan David Ostry, 1997. "Current Account Imbalances in AsEAN Countries; Are they a Problem?," IMF Working Papers 97/51, International Monetary Fund.
    3. Maurice Obstfeld & Kenneth Rogoff, 1994. "The Intertemporal Approach to the Current Account," NBER Working Papers 4893, National Bureau of Economic Research, Inc.
    4. James M. Nason and John H. Rogers, 2001. "The Present Value Model of the Current Account Has Been Rejected: Round Up the Usual Subjects," Computing in Economics and Finance 2001 102, Society for Computational Economics.
    5. Campbell, John & Shiller, Robert, 1987. "Cointegration and Tests of Present Value Models," Scholarly Articles 3122490, Harvard University Department of Economics.
    6. Lutz Kilian, 1998. "Small-Sample Confidence Intervals For Impulse Response Functions," The Review of Economics and Statistics, MIT Press, vol. 80(2), pages 218-230, May.
    7. Campbell, John Y. & Shiller, Robert J., 1989. "The dividend ratio model and small sample bias : A Monte Carlo study," Economics Letters, Elsevier, vol. 29(4), pages 325-331.
    8. Ahmed, Shaghil, 1986. "Temporary and permanent government spending in an open economy: Some evidence for the United Kingdom," Journal of Monetary Economics, Elsevier, vol. 17(2), pages 197-224, March.
    9. Timothy Callen & Paul Cashin, 2001. "Capital controls, capital flows and external crises: evidence from India," The Journal of International Trade & Economic Development, Taylor & Francis Journals, vol. 11(1), pages 77-98.
    10. Sheffrin, S.M. & Woo, W.T., 1989. "Present Value Tests Of An Intertemporal Model Of The Current Account," Papers 61, California Davis - Institute of Governmental Affairs.
    11. Geert Bekaert & Robert J. Hodrick, 2000. "Expectations Hypotheses Tests," NBER Working Papers 7609, National Bureau of Economic Research, Inc.
    12. Gruber, Joseph W., 2004. "A present value test of habits and the current account," Journal of Monetary Economics, Elsevier, vol. 51(7), pages 1495-1507, October.
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