Authorities’ fiscal forecasts in Latin America: are they optimistic?

Do governments in Latin America tend to be optimistic when preparing budgetary projections? We address this question by constructing a novel dataset of the authorities’ fiscal forecasts in six Latin American economies, using data from annual budget documents over the period 2000–2018. We compare such forecasts with the outturns reported in the corresponding budget documents of the following years, to understand the evolution of fiscal forecast errors. Our findings suggest that: (i) there is no general optimistic bias in the forecasts for the fiscal balance-to-GDP ratio; (ii) over time, fiscal forecasts have improved for some countries and worsened for others; (iii) forecast errors for the fiscal balance-to-GDP ratio are positively correlated with GDP growth and terms-of-trade changes, and negatively correlated with GDP deflator surprises; (iv) forecast errors for public debt-to-GDP ratios are negatively associated with surprises to GDP growth; and (v), budget balance rules may help contain fiscal forecast errors

The Importance of Interest Rate Volatility in Empirical Tests of Uncovered Interest Parity

Uncovered interest rate parity provides a crucial theoretical underpinning for many models in international finance and international monetary economics. Though theoretically sound, this concept has not been supported by the empirical evidence. Typically, econometric tests not only reject the null hypothesis, but also find significant slope coefficients with the wrong sign. Following the approach employed in Kool and Thornton (2004), we show that the empirical procedure conventionally used to test for UIP may produce biased slope coefficients if the true data-generating process slightly differs from the theoretically expected one. Using monthly data for ten industrial countries during the period W75-2004,we estimate the UIP relation for all possible bilateral country pairs for each of the six fiveyear sub-periods. The evidence supports the biasedness hypothesis: when the interest rate volatility of the anchor country is very high (very low), this estimation procedure reports significantly higher (lower) slope coefficients.International Financial Markets, Estimation Bias, Exchange Rate Volatility

Stochastic Discount Factor Approach to International Risk-Sharing: Evidence from Fixed Exchange Rate Episodes

This paper presents evidence of the stochastic discount factor approach to international risk-sharing applied to fixed exchange rate regimes. We calculate risk-sharing indices for two episodes of fixed or very rigid exchange rates: the Eurozone before and after the introduction of the Euro, and several emerging economies in the period 1993-2005. This approach suggests almost perfect bilateral risk-sharing among all countries from the Eurozone. Moreover, it implies that emerging markets with fixed/rigid nominal exchange rates against the US dollar in the period achieved almost perfect risk-sharing with the US. We conclude that risk-sharing measures crucially depend on the behavior of the nominal exchange rate, implying almost perfect risk-sharing among countries with fixed/rigid nominal exchange rates. Second, a counterintuitive ranking of the risk-sharing levels under different nominal exchange rate regimes suggests a limited use of this approach for cross-country risk-sharing comparisons. Real exchange rates might be very smooth, but risk-sharing across countries is not necessarily perfect.International Risk-Sharing, Stochastic Discount Factor, Fixed Exchange Rates, Exchange Rate Regimes

Stochastic Discount Factor Approach to International Risk-Sharing: A Robustness Check of the Bilateral Setting

This paper presents a robustness check of the stochastic discount factor approach to international (bilateral) risk-sharing given in Brandt, Cochrane, and Santa-Clara (2006). We demonstrate two main inherent limitations of the bilateral SDF approach to international risk-sharing. First, the discount factors are not uniquely determined in the bilateral framework and crucially depend on the partner country included in the calculations. Second, the deviations between the discount factors obtained in this way (the imprecision in the measurement of marginal utility growth) are larger for countries whose stock market excess return shocks are relatively less important. In order to account for some of these criticisms, we extend the bilateral into a three-country setting. Although the trilateral framework demonstrates that the (final) results for the international risk-sharing index are quite robust to the number of countries used in their calculation, it does not resolve the inherent incoherence found in the bilateral SDF approach.International Risk-Sharing, Stochastic Discount Factor, Exchange Rate Volatility

The Importance of Interest Rate Volatility in Empirical Tests of Uncovered Interest Parity

Uncovered interest rate parity provides a crucial theoretical underpinning for many models in international finance and international monetary economics. Though theoretically sound, this concept has not been supported by the empirical evidence. Typically, econometric tests not only reject the null hypothesis, but also find significant slope coefficients with the wrong sign. Following the approach employed in Kool and Thornton (2004), we show that the empirical procedure conventionally used to test for UIP may produce biased slope coefficients if the true data-generating process slightly differs from the theoretically expected one. Using monthly data for ten industrial countries during the period 1975-2004, we estimate the UIP relation for all possible bilateral country pairs for each of the six five-year sub-periods. The evidence supports the biasedness hypothesis: when the interest rate volatility of the anchor country is very high (very low), this estimation procedure reports significantly higher (lower) slope coefficients

WP/16/85 Power It Up: Strengthening the Electricity Sector to Improve Efficiency and Support Economic Activity IMF Working Paper Western Hemisphere Department Power It Up: Strengthening the Electricity Sector to Improve Efficiency and Support Economic Act

Abstract Poor performance of the electricity sector remains a drag to economic efficiency and a bottleneck to economic activity in many low-income countries. This paper proposes a number of models that account for different equilibria (some better, some worse) of the electricity sector. They show how policy choices (affecting insolvency prospects or related to rules for electricity dispatching or tariff setting), stochastic generation costs, and initial conditions, affect investment in generation and electricity supply. They also show how credible (non-credible) promises of stronger enforcement to reduce theft result in larger (smaller) electricity supply, lower (higher) government subsidies, and lower (higher) tariffs and distribution losses, which in turn affect economic activity. To illustrate these findings, the paper reviews the experience of Haiti, a country stuck in a bad equilibrium of insufficient supply, high prices, and electricity theft; and that of Nicaragua, which is gradually transitioning to a better equilibrium of the electricity sector. JEL Classification Numbers: Q43, Q47, Q4