• Economic Quarterly - Federal Reserve Bank of Richmond

Federal Reserve Bank of Richmond
Publication date:
First document:
Vol. 90 Nbr. 1, January 2004
Last document:
Vol. 96 Nbr. 1, January 2010
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Latest documents

  • Inside-Money Theory After Diamond and Dybvig

    This article argues that the model in Diamond and Dybvig (DD) was a significant conceptual and methodological advance in studying banking arrangements. Its methodological contribution was the use of mechanism-design theory rather than the old strategy, still prevalent in textbooks and some of macro, of tacking a banking sector onto a model of market exchange. A great deal of attention has been given to the model's multiple equilibria and interpreting them as financial fragility. This attention is warranted, but there are other less recognized implications of the model. Recent events provide a good opportunity to put into perspective progress in the field of money and banking. Overall, the DD framework is a model of intertemporal trade with relatively few variables. A review linking DD t...

  • Introduction to the Special Issue On the Diamond-Dybvig Model
  • Bailouts

    In the US during 2008-2009, as in previous episodes in the US and other countries, supplying funding to financial intermediaries and other firms was a component of the government's response to a financial crisis. Some of these funding initiatives have been characterized -- and, in some quarters, heavily criticized -- as being : transfers from the government, made to firms (and sometimes other entities such as city governments) or to their creditors in order to avert insolvency or mitigate its effects, that the recipients are not anticipated to repay. The goal of this article is to formulate an economic model, in terms of which the concern just described can be understood. The model to be formulated in this article closely resembles the Diamond-Dybvig model. Occasional o...

  • On the Fundamental Reasons for Bank Fragility

    Over the course of the recent financial crisis, several large financial institutions experienced sudden, massive withdrawals of their usual funding sources. This view of events implies that banks and other financial intermediaries are inherently fragile, in the sense of being susceptible to a self-fulfilling run by their depositors. This article discusses by reviewing the key theoretical contribution of the seminal work by Diamond and Dybvig (1983). It also discusses the basic elements of their banking theory and how subsequent researchers have addressed the technical difficulties involved in designing an equilibrium concept that allows for the possibility of a bank run. Understanding the root causes of the banking crises that have been observed around the world is an extremely difficul...

  • Monetary Theory and Electronic Money: Reflections On the Kenyan Experience

    In 2007, the leading cell phone company in Kenya, Safaricom Ltd, launched M-PESA, a short message service (SMS)-based money transfer system that allows individuals to deposit, send, and withdraw funds from a virtual account on their cell phones and that is separate from the banking system. M-PESA has grown rapidly, currently reaching more than seven million users, approximately 38% of Kenya's adult population, and it is widely viewed as a success story to be emulated across the developing world. M-PESA is used not only for remittance purposes, but also to save, to purchase pre-paid phone credit and other goods and services, to pay bills, and to execute bank account transactions. This article examines the role of monetary theory in understanding this new generation of mobile banking prod...

  • Dynamic Provisioning: A Countercyclical Tool for Loan Loss Reserves

    The methodology to recognize loan losses set forth by the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) is referred to as the incurred loss model and defined as the identification of inherent losses in a loan or portfolio of loans. As rapid provisioning to increase loan loss reserves made headlines, discussions of international regulatory banking reform included the method of dynamic provisioning as a potential alternative to the incurred loss approach. The authors begin this paper with a discussion of the current approach to loan loss reserves (LLR) in the US. They argue that, to a social planner who cares both about avoiding bank failures and the efficiency of bank lending, the current accounting and regulatory approach for LLR may...

  • Inventories and Optimal Monetary Policy

    It has long been recognized that inventory investment plays a large role in explaining fluctuations in real gross domestic product (GDP), although it makes up only a small fraction of it. Blinder and Maccini (1991) document that in a typical recession in the US, the fall in inventory investment accounts for 87% of the decline in output despite being only one half of 1% of real GDP. The authors employ the simple New Keynesian model that has become the benchmark for analyzing monetary policy from both a normative and a positive perspective. Section 2 analyzes the differences between the standard New Keynesian model and their specification with inventories. They calibrate both models and compare their implications for business cycle fluctuations. They present the results of their policy ex...

  • The U.S. Establishment-Size Distribution: Secular Changes and Sectoral Decomposition

    Establishment heterogeneity has been modeled in economics at least since the seminal work of Lucas (1978). More recently, this feature has been incorporated into calibrated models to provide quantitative evaluations of different mechanisms. This article aims to contribute to this literature by providing a set of facts about the establishment-size distribution since the 1970s that may be used to calibrate and test the predictions of these models. First, this article analyzes establishment data from 1974-2006. During this period, the number of workers (size) of a &quot;representative establishment&quot; is relatively constant. Next, the analysis turns to the dispersion of establishment sizes. The size distribution of establishments has become slightly more even. This article considers whether trend...

  • Heterogeneity in Sectoral Employment and the Business Cycle

    This paper uses a factor analytic framework to assess the degree to which agents working in different sectors of the US economy are affected by common rather than idiosyncratic shocks. Using Bureau of Labor Statistics (BLS) employment data covering 544 sectors from 1990-2008, the authors first document that, at the aggregate level, employment is well explained by a relatively small number of factors that are common to all sectors. Interestingly, while common shocks represent the leading source of variation in aggregate employment, the analysis also suggests that this is typically not the case at the individual sector level. In particular, their results indicate that across all goods and services, common shocks explain on average only 31% of the variation in sectoral employment. Finally,...

  • Short-Term Headline-Core Inflation Dynamics

    Many analysts contend that the Federal Reserve under Chairmen Alan Greenspan and Ben Bernanke has conducted monetary policy that focuses on core rather than headline inflation. The main argument in favor of using core inflation to implement monetary policy is that core inflation approximates the permanent or trend component of inflation much better than does headline inflation, the latter being influenced more by transitory movements in food and energy prices. In this article the authors re-examine the short-term dynamics between headline and core measures of inflation over a longer sample period of 1959-2007. The empirical evidence presented here indicates headline and core measures of inflation are co-integrated, suggesting long-run co-movement. In sample periods beginning in the 1960...

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