eh447 08 09 week 3 1 great depressions in economic history n.
Download
Skip this Video
Loading SlideShow in 5 Seconds..
EH447, 08/09, Week 3-1 Great Depressions in Economic History PowerPoint Presentation
Download Presentation
EH447, 08/09, Week 3-1 Great Depressions in Economic History

Loading in 2 Seconds...

play fullscreen
1 / 49

EH447, 08/09, Week 3-1 Great Depressions in Economic History - PowerPoint PPT Presentation


  • 123 Views
  • Uploaded on

EH447, 08/09, Week 3-1 Great Depressions in Economic History. Did Monetary Forces Cause the Great Depression?. Did Monetary Forces Cause the Great Depression?. Albrecht Ritschl Univ. of Pennsylvania and Humboldt Univ. of Berlin Ulrich Woitek Univ. of Zurich. Conventional wisdom.

loader
I am the owner, or an agent authorized to act on behalf of the owner, of the copyrighted work described.
capcha
Download Presentation

PowerPoint Slideshow about 'EH447, 08/09, Week 3-1 Great Depressions in Economic History' - tyrell


An Image/Link below is provided (as is) to download presentation

Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author.While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server.


- - - - - - - - - - - - - - - - - - - - - - - - - - E N D - - - - - - - - - - - - - - - - - - - - - - - - - -
Presentation Transcript
eh447 08 09 week 3 1 great depressions in economic history

EH447, 08/09, Week 3-1 Great Depressions in Economic History

Did Monetary Forces Cause the Great Depression?

did monetary forces cause the great depression

Did Monetary Forces Cause the Great Depression?

Albrecht Ritschl

Univ. of Pennsylvania and Humboldt Univ. of Berlin

Ulrich Woitek

Univ. of Zurich

conventional wisdom
Did Monetary Forces Cause the Great Depression?Conventional wisdom
  • Monetary hypothesis

Hayek (1931): money too loose

Friedman/Schwartz (1963): money too tight

  • Investment/spending hypothesis

Keynes (1937), Hansen (1938): declines in fertility, immigration

Temin (1976): Residential investment

later additions to monetary paradigm on great depression
Did Monetary Forces Cause the Great Depression?Later additions to monetary paradigm on Great Depression
  • Financial accelerator/banking transmission:

Bernanke (1983, 1995), Bernanke/Gertler (1990)

  • Nominal wage stickiness:

Bernanke/Carey (1996)

  • Money in DSGE models of Great Depr.:

Bordo/Erceg/Evans (2000) (nominal wage stickiness)

Christiano/Motto/Rostagno (2003) (no exogenous monetary policy shock, but yes liquidity preference shock, which the Fed should have accommodated)

critics of monetary paradigm
Did Monetary Forces Cause the Great Depression?Critics of monetary paradigm
  • Productivity shocks, little role for money :

Cole/Ohanian (2000), Cole/Ohanian/Leung (2005)

  • Slow recovery, related to wages:

Cole/Ohanian (2005)

  • Rise in preference for leisure:

Chari/Kehoe/McGrattan (2002)

  • Investors’ animal spirits/sunspots:

Harrison/Weder (2004)

evaluating monetary paradigm
Did Monetary Forces Cause the Great Depression?Evaluating monetary paradigm
  • Little consensus in existing literature
  • Overfitting properties of DSGE:

what you want is what you get

  • But: Sims (1999)
    • VAR approach, closest to what we do here
    • Monetary policy shocks throughout 20th century explain < 20% of output variance
    • holds also for Great Depression
what this paper does
Did Monetary Forces Cause the Great Depression?What this paper does
  • Submit Friedman/Schwartz et al. hypothesis to rigorous test

 the only other work doing this (in passing) seems to be Sims (1999)

  • Use off-the-shelf specifications of monetary policy channels
  • Account for Lucas critique
  • Account for time-varying volatility
what this paper does continued
Did Monetary Forces Cause the Great Depression?What this paper does (continued)
  • We employ VARs
    • Bayesian (non-random, non-sample dataset)
    • Time-varying coefficients (structural breaks)
    • Time-varying VCV matrix (TVAR volatility)
  • Two exercises on policy effectiveness
    • Granger causality: policy effectiveness as forecast improvement (Lucas-proof)
    • Identifying assumptions: time-varying impulse-response functions (partly prone to Lucas critique)
mcmc how we currently extend this research
Did Monetary Forces Cause the Great Depression?MCMC: How we currently extend this research
  • Cogley/Sargent’s (2005) VAR/GARCH methodology (first results confirm ours)
  • With different sets of coauthors:
    • Replace VAR with factor-augmented VAR a la Bernanke/Boivin/Eliasz (2005) (same result)
    • Replace VAR with Bayesian Dynamic Factor Analysis of International Business Cycle a la Otrok/Whiteman (2003, 2004) (same result)
preview of results did monetary forces cause the great depression
Did Monetary Forces Cause the Great Depression?Preview of Results: Did Monetary Forces Cause the Great Depression?

No.

Even less so than in

Sims (1999).

And we tried really hard ..

estimation strategy
Did Monetary Forces Cause the Great Depression?Estimation strategy

Assume a VAR of order p :

with time-dependent coefficient matrices At-1

where Var(ut)=Qt obtained from OLS estimate

slide12
Did Monetary Forces Cause the Great Depression?

Coefficient matrices are time-varying according to:

or, for every equation i :

priors
Did Monetary Forces Cause the Great Depression?Priors

We assume a Litterman prior with:

where

  • for every equation i, , all others zero
  • the initial VCV matrix is diagonal with a number of restrictions on diag. elements
motivation for bayesian approach
Did Monetary Forces Cause the Great Depression?Motivation for Bayesian Approach
  • Bayesian unit roots: we have given dataset of (very short) length, do not want to fuzz about asymptotic properties, any classical unit root test would have very little power
  • Hence, won’t exploit asymptotic characteristics / cointegration properties for identification
implementation
Did Monetary Forces Cause the Great Depression?Implementation
  • In this version:
    • Kalman filter updating to time t,

t = 1928:1,…,1935:6

    • Obtain and Cholesky-decompose for every t
    • Back out IRFs and VarDecs for every t
  • Next version: MCMC
    • Run Monte Carlo simulations on posterior marginal distributions of coefficients
    • Obtain convergence through Markov Chain properties (ca. 50-500 000 iterations)
    • Discard realizations with explosive roots
two exercises
Did Monetary Forces Cause the Great Depression?Two exercises
  • First exercise: Granger causality of policy instrument for output
    • VAR w/ policy instrument should improve output forecast
    • If output forecast from VAR including policy instrument is “bad”, conclude that policy is ineffective (provided transmission mechanism is correctly specified)
    • No counterfactual exercises: have Lucas critique on board
two exercises1
Did Monetary Forces Cause the Great Depression?Two exercises
  • Second exercise: impulse response functions
    • Traditional Cholesky decomposition
    • Two runs: order policy instrument both first and last (the latter implicitly assumes policy reaction functions)
  • But: TVAR coefficients and VCV
    • IRF takes on different values every period
    • So does variance decomposition
    • Plot IRFs and VarDecs at given intervals as time series graphs
    • Great way of visualizing structural breaks
    • Hello, Lucas …
vcv decomposition a quick refresher
Did Monetary Forces Cause the Great Depression?VCV decomposition: a quick refresher
  • General VCV matrix:

Response of xi,t+s cannot easily be attributed to shock uj,t in any variable xj,t.

finding
Did Monetary Forces Cause the Great Depression?Finding

There always exists matrix decomposition:

such that

where D is a diagonal matrix and where has the desired orthogonality properties:

four specifications
Did Monetary Forces Cause the Great Depression?Four specifications
  • Money / income causality:
    • M1 (alternatively: High Powered Money)
    • Non-borrowed reserves
    • Total reserves
    • Wholesale prices
    • CPI
    • Output
four specifications1
Did Monetary Forces Cause the Great Depression?Four specifications
  • Interest rate targeting:
    • Federal Discount Rate
    • Non-borrowed reserves
    • Total reserves
    • Wholesale prices
    • CPI
    • Output
four specifications2
Did Monetary Forces Cause the Great Depression?Four specifications
  • Nominal wage rigidity:
    • Wages
    • Federal Funds Rate
    • Wholesale prices
    • CPI
    • Hours
    • Output
four specifications3
Did Monetary Forces Cause the Great Depression?Four specifications
  • Credit crunch / financial accelerator:
    • Federal Funds Rate
    • Total reserves
    • Deposits in failed banks
    • Wholesale prices
    • CPI
    • Output
exercise 1 forecasts
Did Monetary Forces Cause the Great Depression?Exercise 1: Forecasts
  • Take forecasts from each of four specifications at 3 critical junctures:
  • Late 1928 (when FED contracts)
  • After Oct 1929 (NYSE crash)
  • After Dec 1930 (banking panics)
slide27
Did Monetary Forces Cause the Great Depression?

Forecasting the Great Depression (Out of Sample)

Interest rate model

interest rate model
Did Monetary Forces Cause the Great Depression?Interest rate model
  • Late 1928: predicts cyclical downturn of output
  • Late 1929: much less pessimistic outlook!
  • 1930/31: predicts imminent recovery, as did many contemporaries (but wide error bands)
slide29
Did Monetary Forces Cause the Great Depression?

Forecasting the Great Depression (Out of Sample)

Monetarist model

monetarist model same conclusions
Did Monetary Forces Cause the Great Depression?Monetarist model:Same conclusions
  • Late 1928: predicts cyclical downturn of output
  • Late 1929: much less pessimistic outlook!
  • 1930/31: predicts imminent recovery, as did many contemporaries (but wide error bands)
slide31
Did Monetary Forces Cause the Great Depression?

Forecasting the Great Depression (Out of Sample)

Bernanke banking model

bernanke banking model slightly more mileage
Did Monetary Forces Cause the Great Depression?Bernanke banking model:Slightly more mileage
  • Late 1928: predicts slide into mild recession
  • Late 1929: again,fails to predict anything
  • 1930/31: some further decline predicted; banking has some but limited forecasting power for 1932
slide33
Did Monetary Forces Cause the Great Depression?

Forecasting the Great Depression (Out of Sample)

Wage rigidity model

wage rigidity model
Did Monetary Forces Cause the Great Depression?Wage rigidity model
  • No predictive power for anything in 1928, 1929
  • 1930/31: better than money or interest rates, not as good as banking model
conclusions from first exercise
Did Monetary Forces Cause the Great Depression?Conclusions from First Exercise
  • Tried to evaluate policy effectiveness through forecasting power in VAR
    • which avoids counterfactual exercises and hence Lucas flogging
  • Very little predictive power
    • Models almost indistinguishable
    • Banking, wages do slightly better job at deepening of depression
    • No evidence for monetary causation of beginning of recession
slide36
Did Monetary Forces Cause the Great Depression?But …
  • … maybe we asked the model too much?
  • Very few observation periods
  • No history of prior business cycles
  • Maybe VAR simply doesn’t pick up time series dynamics fast enough? [rubbish..]
  •  Repeat exercise in-sample with Kalman filter smoothed parameters
slide37
Did Monetary Forces Cause the Great Depression?

Forecasting the Great Depression (In-Sample)

in sample forecasts
Did Monetary Forces Cause the Great Depression?In-sample forecasts
  • 1928 results unchanged
  • 1929 results capture turning point better, all “predict” mild recession
  • 1930 results show continuing recession, still fail to capture further slump

 Even after-the-fact predictions not satisfactory

second exercise
Did Monetary Forces Cause the Great Depression?Second Exercise
  • Impulse Response Functions
  • TVAR coefficients  TVAR IRFs
    • Graph them for given lags as time series
  • TVAR coeff’s vs. TVAR volatility
    • Obtain IRFs from Q t at every t.
slide40
Did Monetary Forces Cause the Great Depression?

Structural breaks in 1929:10, 1933:1

Monetarist model

Explained forecast error var. of output below 6%

-

+

Response of output to M1 shock

slide41
Did Monetary Forces Cause the Great Depression?

Structural breaks in 1929:10, 1933:1

Interest targeting model

Explained forecast error var. of output below 6%

-

+

Response of output to Fed Rate shock

slide42
Did Monetary Forces Cause the Great Depression?

Structural breaks in 1928:10, 1932:1

Wage rigidity model

-

+

Response of output to Fed Rate shock

Would explain a lot, but sign mistake!

+

Banking model

conclusions from second exercise
Did Monetary Forces Cause the Great Depression?Conclusions from Second Exercise
  • Lots of sign problems in IRFs
  • Very little explanatory power
    • Typically 2%, max 6%
  • IRFs and VarDecs susceptible to structural breaks as monetary regime changes
    • particularly 1929:10 and 1933:1

 Lucas was right

 No evidence for Friedman/Schwartz

so which forces caused the gd
Did Monetary Forces Cause the Great Depression?So … which Forces Caused the GD?
  • Still have to prove that VARs not entirely useless for the purpose
  • Are the alternative sets of indicators?
  • Bad news: no predictability of GD from leading indicators

Shapiro/Fair/Dominguez (1988)

Klug/White (1997)

predicting the gd from leading indicators
Did Monetary Forces Cause the Great Depression?Predicting the GD from leading indicators
  • Temin (1976): declining real investment
    • Residential construction
    • Equipment investment
  • Hence look for leading investment indicators
    • Output, residential building permits, production of steel sheets, of steel ingots, shipments of new machinery
slide46
Did Monetary Forces Cause the Great Depression?

Forecasts mostly in line with realized output data, already by late 1928!

conclusion towards a nonmonetary view of gd
Did Monetary Forces Cause the Great Depression?Conclusion: Towards A Nonmonetary View of GD
  • Early, catastrophic slump in real investment
  • Itself not predictable by stock market (we tried, it leads the stock market)
  • Monetary policy largely passive
  • No monetary panacea to avoid or dampen the slump
conclusions bonus material from new version
Did Monetary Forces Cause the Great Depression?Conclusions: bonus material from new version
  • New version:
    • Allow for TVAR VCV matrix
    • This implements TVAR simultaneous restrictions
    • And TVAR CB policy feedback rule
    • Then, model cannot be estimated with restricted OLS anymore.
    • Parameters follow nonstandard joint distribution
    • Have to iterate over marginal distributions, using simulation methods