Lucas Supply Function Research Articles

Performance Assessment of PAK Policy in the Process of Housing Supply in Iran (Case Study: Isfahan province, 1992-2012)

PAK policy is one of the important policies that has been adopted in housing market during the two recent decades. It mainly focuses on saving, development and downsizing. Now given that housing can be considered both as a capital and an expendable property and it has unique characteristics such as heterogeneity, durability and spatial stability, the present paper investigated how this policy-making is effective on housing supply considering the above characteristics and by means of Lucas supply function. The results revealed that this policy cannot have the required efficiency in this sector despite high saving of households and decreased floor area of residential units. This is while housing supply has not been influenced by investment of the private sector and financial credits.

Some international evidence on the Lucas Supply Function

We provide empirical evidence on the Lucas Supply Function based on actual inflation surprises for 19 industrial economies. Our results show that the inflation surprise positively correlates with the output gap and that this relationship is negatively related to inflation variability.

Interest rate stepping: Theory and evidence

A stylised fact of monetary policymaking is that central banks do not immediately respond to new information but seem instead to prefer to wait until sufficient ‘evidence’ to warrant a change has accumulated. However, theoretical models of inflation targeting imply that an optimising central bank should continuously respond to shocks. This article attempts to explain this stylised fact by introducing a small menu cost which is incurred every time the central bank changes the interest rate. It is shown that this produces a relatively large range of inaction because this cost will induce the central bank to take the option value of the status quo into account. In other words, because action is costly, the central bank will have an incentive to wait and see whether or not the economy will move closer to the inflation target of its own accord. Next, the article analyses the implications for the time series properties of interest rates. In particular, we examine the effect of the interest rate sensitivity of aggregate demand, the slope of the Lucas supply function and the variance of demand shocks on the size of the interest rate step and the expected length of the time period till the next interest rate step. Finally, we analyse the effect of menu costs on inflationary expectations. In this respect we find that the economy will suffer from an inflationary bias if the cost of raising the interest rate exceeds the cost of lowering it.

Comment on ‘Market discipline and monetary policy’ by Carl Walsh: a reply

In their interesting paper, Fabia de Carvalho and Maurício Bugarin alter the informational assumptions I employed in Walsh (2000) and discuss how this change affects the results reported in my paper. The structure of the underlying model I used, and therefore the rationale for the informational assumption, was designed to capture two factors. First, inflation models developed in the new Keynesian literature emphasize the role of expected future inflation and my model was designed to investigate the difference arising from using the forward-looking new Keynesian inflation models rather than the earlier literature's Lucas supply curve. In the new Keynesian approach, the informational assumption parallels the one I made in my paper—in setting prices (or wages) in period t , agents have information about period t variables. As the authors of this comment note, there is a resulting asymmetry in the informational structure, one that correctly captures the difference between the Lucas supply function and the new Keynesian inflation equation. Making the information assumptions the same for both types of wage models would have simply produced a model in which a simple Lucas supply function would be replaced by something more akin to an older-style multi-period wage or price contracting model.

A practical log‐linear aggregation method with examples: heterogeneous income growth in the USA

AbstractA practical aggregation method for heterogeneous log‐linear functions is presented. Inequality measures are employed in the construction of a simple but exact aggregate representation of an economy. Three macroeconomic applications are discussed: the aggregation of the Lucas supply function, the time‐inconsistent behaviour of an egalitarian social planner facing heterogeneous discount rates, and the case of a simple heterogeneous growth model. In the latter application, aggregate CPS data is used to show that the slowdown that followed the first oil shock is worse than usually thought, and that the ‘new economy’ growth resurgence is not as strong as it appears. The reaction of one man could be forecast by no known mathematics; the reaction of a billion is something else again.—Foundation and Empire, Isaac Asimov (1952) Copyright © 2003 John Wiley & Sons, Ltd.

Why Money Talks and Wealth Whispers: Monetary Uncertainty and Mystique: A Comment

Why Money Talks and Wealth Whispers:Monetary Uncertainty and Mystique Roel M.W.J. Beetsma (bio) and Henrik Jensen (bio) Abstract We demonstrate that in important cases Propositions 3 and 4 in Eijffinger, Hoeberichts, and Schaling (Journal of Money, Credit, and Banking, May 2000) may fail. Moreover, their monetary policy delegation arrangement, which advocates that central banker preference uncertainty may be desirable, is dominated by other arrangements without any such uncertainty. Finally, their way of modelling preference uncertainty leads to arbitrary effects on average monetary policy. Without these, preference uncertainty is never desirable. In a recent article in this journal, Eijffinger, Hoeberichts, and Schaling (2000), henceforth EHS, argue that monetary policy uncertainty may be welfare enhancing. More specifically, uncertainty about the weight that the central bank attaches to inflation stabilization helps to reduce output variability, as the central bank on average reacts more vigorously to supply shocks. This gain may dominate the losses associated with weight uncertainty in their setup, which take the form of a higher inflation variability, and—if a Barro and Gordon (1983) type of credibility problem prevails—a higher inflation bias. Taking central bank preference uncertainty as a proxy for central bank secrecy, this result leads EHS to conclude that their paper "explains why high credibility institutions such as the former Bundesbank can afford to be relatively closed, and why low credibility institutions such as the Reserve Bank of New Zealand and the Bank of England need to be very open ..." (p. 231). This paper comments on EHS. Firstly, we show that precisely when the central bank has high credibility, uncertainty about its preferences may actually be undesirable. This implies that EHS' central Proposition 4 may fail and, hence, that their claim that "high credibility institutions ... can afford to be relatively closed" is [End Page 129] unwarranted. The main reason for this potential failure is that EHS' Proposition 3, which states that output variability is always minimized for a positive level of preference uncertainty, may also fail. Secondly, we argue that the role for preference uncertainty is generally much weaker than EHS claim. In their setup, preference uncertainty can be beneficial if monetary policy is delegated to a central bank with a suboptimal degree of conservatism (in the sense of Rogoff 1985), which causes inefficiently high output variability. Introducing uncertainty about the preferences of this central bank may help to correct this inefficiency because it may induce the bank to act in a more "liberal" way on average. However, imposing the appropriate inflation contract (Walsh 1995) or the appropriate inflation target (Svensson 1997) takes the economy right to the socially optimal equilibrium, thereby obviating the need for preference uncertainty. Even if these arrangements are not feasible, one might do better by choosing the optimal degree of conservatism right away. This is confirmed by numerical results for a wide range of parameter combinations. Lastly, we demonstrate that the particular direction in which preference uncertainty in EHS affects the central bank's average responses to, for example, supply shocks is arbitrary. We do this by illustrating that if uncertainty is modeled in just a slightly different (but analogous) manner, its effects on average monetary policy responses are exactly the opposite of those obtained by EHS. In order to isolate the implications of preference uncertainty on policy uncertainty, we therefore examine a preference specification adopted from Beetsma and Jensen (1998), from which the average effects of preference uncertainty are absent. With this specification, central bank preference uncertainty is unambiguously harmful for society. Hence, if one concurs with EHS that preference uncertainty is a proxy for secrecy in monetary policymaking, then one must be very careful in advocating such secrecy. 1. The EHS Model We briefly present the EHS model using their notation. Output is given by a reduced-form Lucas supply function: where y is the (log of) output, y* > 0 is the natural level of output, π is inflation, πe is expected inflation, and ε is a white noise shock with zero mean and variance σ2π. Society's loss function is where desired output exceeds the natural level if k > 1. This implies the familiar inflation bias under discretionary monetary policy (cf. Barro and Gordon 1983). [End Page 130...

A Practical Log-Linear Aggregation Method with Examples: Heterogeneous Income Growth in the USA

A practical aggregation method for heterogeneous log-linear functions is presented. Inequality measures are employed in the construction of an exact representation of the aggregate behavior of an economy formed by heterogeneous log-linear agents. The exact aggregate representation derived here is relatively simple and intuitive. It can be used thereafter in applied issues and in teaching, easing the solving and understanding of aggregation problems. Three macroeconomic applications are discussed: the aggregation of the Lucas supply function, the time-inconsistent behavior of an egalitarian social planner facing heterogeneous discount rates, and the case of a simple heterogeneous growth model. The latter application, which leads to a decomposition of growth rates of the mean into means of growth rates plus inequality changes, is explored empirically. Aggregate CPS data is used to show that, when inequality changes are taken in consideration, the slowdown that followed the first oil shock appears to be worse than usually thought. Additionally, the new economy growth resurgence seems less impressive when compared to the growth performance of the period that preceded the first oil shock.

Robert Lucas's Nobel Memorial Prize

Robert Lucas has made important contributions in several areas of economics, among them the theories of growth, investment, and asset pricing. But he is best known and most influential his work in macroeconomic theory and policy, and it was these contributions that Lucas was awarded the 1995 Bank of Sweden Prize in Economic Sciences in Memory of Alfred Nobel for having developed and applied the hypothesis of rational expectations, and thereby having transformed macroeconomic analysis and deepened our understanding of economic policy. Lucas was the founder and the dominant figure of the rational expectations revolution that swept macroeconomics in the 1970s. His contribution was both to clearly define and forcefully argue the inadequacies of existing approaches to macroeconomics and, more significantly, to set out an alternative analytic approach the rational expectations-equilibrium approach that has become mainstream in advanced academic macroeconomics. Over time, it has become clear that while rational expectations has been the most important contribution to the analysis of economic policy, the equilibrium approach is the more important contribution to macroeconomic analysis. The success of the revolution also owes much to Thomas Sargent, whose econometric implementation of the rational expectations approach was critical to its success in providing an alternative macroeconomic research program; to Edward Prescott, Lucas's co-author on several important papers, also jointly responsible introducing the notion of dynamic inconsistency to macroeconomics; to Robert Barro, his influential empirical work on the Lucas supply function and further development of the equilibrium approach; and to others including John Taylor and Neil Wallace.

Combination Monetary Feedback Rule Affects Output

The effectiveness of combination monetary feedback rule and fiscal policy under rational expectations is examined. The fiscal policy takes into account not only a progressive tax structure but also government expenditure. The model consists of IS and LM relationships and a Lucas supply function. The model is solved analytically. Both the progressive tax structure and the combination monetary feedback provide an automatic but not immediate adjustment to reduce the expectation error. Therefore the behaviour of real output is influenced not only by the disturbance terms but also by the policy parameters of the progressive tax structure and the combination monetary feedback rule.

Cross-Regime Tests of the Lucas Supply Function in Developing Countries

The paper assesses the empirical relevance of the Lucas supply function for developing countries. The prediction of Lucas` model that the short-run effects of monetary disturbances on real output are negatively related to the variability of such disturbances is tested for a large sample of developing countries using distribution-free statistical methods. The negative relationship seems to be a robust feature of developing country data, and holds true for almost all of the analytical subgroups examined.

The lucas supply function and the feasibility of monetary stabilization policy with rational expectations

Die vorliegende Arbeit untersucht die Effektivitat systematischer (d. h. regelgebundener) Geldpolitik in einem makrookonomischen Modell mit einer Lucas-Angebotsfunktion, rationalen Erwartungen und asymmetrischer Information. InMcCallum (1980) wurde dieses Modell anhand der “Methode der unbestimmten Koeffizienten” gelost und gezeigt, das die Notenbank die Varianz des Outputs durch die Wahl des Politikparameters in einer einfachen Geldmengenregel (autoregressiver Prozes erster Ordnung) beeinflussen kann. Die Auswirkungen von monetaren Schocks konnen dabei zwar gedampft, aber nicht vollstandig eliminiert werden.

Cross-Regime Tests of the Lucas Supply Function in Developing Countries

The paper assesses the empirical relevance of the Lucas supply function for developing countries. The prediction of Lucas` model that the short-run effects of monetary disturbances on real output are negatively related to the variability of such disturbances is tested for a large sample of developing countries using distribution-free statistical methods. The negative relationship seems to be a robust feature of developing country data, and holds true for almost all of the analytical subgroups examined.

Bayesian Learning Process and The Lucas Supply Function

Bayesian Learning Process and The Lucas Supply Function

The Derivation and Interpretation of the Lucas Supply Function: Reply

The Derivation and Interpretation of the Lucas Supply Function: Reply

The Derivation and Interpretation of the Lucas Supply Function: Comment

most likely reason for this anomaly is that a large number of the bank failures prior to March 1933 were the result, rather than the cause, of the rise in the currencydeposit ratio. Trescott's regressions thereby may increase the degree of feedback, raising the measured correlation but biasing upward the estimated effect of bank failures. The 1930 panic may have been largely exogenous, as noted earlier by Wicker, but the endogeneity of the subsequent crises has never been seriously questioned. If life is to be restored to the view that bank failures were the sole cause of the rise in the currency-deposit ratio, then those failures must first be shown to be exogenous. All that Trescott has shown is that one component of the demand for money was highly correlated with bank failures. That correlation was never in doubt, but it is not sufficient evidence for the conclusions that he draws.

The Derivation and Interpretation of the Lucas Supply Function

The Derivation and Interpretation of the Lucas Supply Function

The classical supply hypothesis and the observational equivalence of Classical and Keynesian models

The possibility of distinguishing between Keynesian and Classical macroeconomic structures from reduced form estimates is examined under alternative versions of the aggregate supply hypothesis. It is shown that the intertemporal substitution of labour under rational expectations includes the Sargent-Wallace hypothesis and the Lucas supply function. It is more general than the restriction introduced by McCallum that only current innovations influence output. In general, one cannot distinguish between the two macroeconomic models in the absence of McCallum's restriction.