The interest sensitivity of GDP and accurate Reg Q measures

Gross domestic product ; Regulation Q: Prohibition Against Payment of Interest on Demand Deposits

Sources of money instability

This article by John Duca discusses how shifts in technology, transactions, and asset preferences can weaken the relationships between monetary aggregates, the opportunity cost of money, and nominal output. Observed shifts in these general relationships are shown to be consistent with plausible changes in technology and preferences. Evidence indicates that technological advances have reduced the costs of shifting across assets and have lowered the precautionary need to hold monetary assets as a means of conducting transactions. Aside from technological changes, demographic and employment shifts have boosted the role of households in directing investments earmarked for funding their retirement and may have thereby increased their tolerance for investment risk. In turn, these factors may have induced households to shift their portfolios from monetary assets toward riskier assets with higher expected long-run yields.Investments ; Money

Would the addition of bond or equity funds make M2 a better indicator of nominal GDP?

John Duca assesses the possibility that adding bond mutual funds, equity mutual funds, or both to M2 would improve this monetary aggregate's ability to forecast nominal GDP growth. He finds that M2B (M2 plus bond funds) and M2+ (M2 plus bond and stock funds) are statistically significant in explaining past nominal GDP growth. Duca further shows that M2B and M2+ each yield better forecasts of nominal GDP growth since 1990 than does M2, but to a lesser extent when the federal funds rate and the ten-year Treasury note yield are included in his forecasting model. Because bond and equity mutual funds are less directly influenced by the Federal Reserve than M2, Duca cautions that, relative to M2, M2B and M2+ are likely to be less controllable by the Federal Reserve. ; Given these findings, Duca argues that M2B and M2+ show promise as information variables that the Federal Reserve may use along with other economic indicators in setting monetary policy. Recent forecast results and anecdotal information suggest that if equity funds continue to become more substitutable for nontransactions deposits, M2+ may prove to be increasingly helpful in this capacity.Gross domestic product ; Money supply

Can mortgage applications help predict home sales?

In this article, John Duca finds that the Mortgage Bankers Association (MBA) index of home mortgage applications can help forecast home sales. Alone, the index is a good, albeit imperfect, predictor of total home sales. But when included along with housing affordability and real, after-tax mortgage rate data, the index does not add extra information if one disregards differences in data release lags. ; The index is available roughly three to four weeks ahead of the two alternative indicators. Taking into account its greater timeliness, it provides some extra information on home sales beyond that in the two other indicators considered. Given this qualification, the MBA index can help predict overall home sales. In addition, the long-run equilibrium relationships suggest that its usefulness may increase in the future. Nevertheless, the index should be used cautiously. It is still relatively new, and evidence suggests it may be misleading under some circumstances.Housing ; Mortgages

Has long-run profitability risen in the 1990s

This article analyzes the recent rebound in nonfinancial corporate profitability, as measured by after-tax profits as a share of output. Virtually all the resurgence in corporate profitability during the 1990s reflects a cyclical increase in profits and a decline in net interest expense associated with deleveraging and lower interest rates. In this sense, it is not clear that a long lasting upward shift in the economic returns to capital has occurred, after accounting for short-run cyclical-related movements and for how deleveraging and lower interest rates have shifted capital payments away from debtholders toward equityholders.Corporate profits

Regulatory changes and housing coefficients

Regulation Q: Prohibition Against Payment of Interest on Demand Deposits

What credit market indicators tell us

John Duca shows that interest rate spreads and loan surveys should be interpreted carefully when assessing the availability of credit and its impact on the economy. This is especially true of interest rate spread indicators, some of which reflect prepayment, liquidity, or default risk premiums that have different economic implications. It can be helpful to decompose spreads before drawing economic inferences from the structure of interest rates. Spreads between yields on non-top-grade private-sector bonds and Treasury bonds, in particular, have a large prepayment premium in addition to a time-varying default risk premium. It is also important to recognize that even some decomposed spreads include more than one type of risk premium. In this regard, a widening of some yield spreads that contain a small default risk component, such as the Aaa-Treasury spread, could reflect a rise in prepayment or liquidity risk premiums, whose magnitudes may be hard to identify separately.Interest rates ; Credit

The democratization of America's capital markets

In this article, John Duca shows how financial innovations have benefited the United States by increasing the availability of financing for new firms and improving Americans' access to financial investments. Two dramatic examples are the explosive growth of venture capital financing and the doubling of stock ownership rates since the early 1980s. This democratization of America's capital markets stems from technological improvements that have cut the transaction and information costs of investing and from a series of deregulatory steps aimed at improving the availability of capital.Investments ; Capital market ; Stock market ; Venture capital

Making sense of the U.S. housing slowdown

Housing

Mutual funds and the evolving long-run effects of stock wealth on U.S. consumption

Lower mutual fund loads have plausibly boosted the stock wealth elasticity of U.S. consumption by enhancing stock liquidity and arguably by inducing stock ownership among middle-income families, consistent with theory and cross-section data (Guiso, Haliassios, and Jappelli (2003), Haliassios (2002), Heaton and Lucas (1996, 2000), and Vissing-Jorgensen (2002)). In load-modified models, the stock wealth elasticity is declining in loads and more stable long-run wealth and income coefficients arise, especially controlling for mortgage refinancing and equity withdrawal activity. Modified models imply that the stock wealth elasticity has risen, while conventional models overestimate the wealth and underestimate the income elasticities of consumption.