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From Riches to Rags, and Back? Explaining the Growth Trajectory of Argentina since the From Riches to Rags, and Back? Explaining the Growth Trajectory of Argentina since the 1890 s Nauro F Campos Menelaos Karanasos For presentation at the 3 rd EMG Conference on Emerging Markets Finance London, 5 -6 May 2011 Bin Tan

Motivation • What is the relationship between financial development and economic growth? • Twist Motivation • What is the relationship between financial development and economic growth? • Twist 1: over the very long-run (“historical reasons”) • Twist 2: novel econometric framework: impact on growth AND on growth volatility • Why focus on Argentina?

Part of a larger project • This paper: what are the main reasons? • Part of a larger project • This paper: what are the main reasons? • Financial development and SR/LR (JBF) • Political institutions as source of uncertainty (Ec. Lett) • Apocalypse when? Structural breaks (draft)

Questions for this paper • What is the relationship between, on the one hand, Questions for this paper • What is the relationship between, on the one hand, financial development (domestic and international), public deficits and inflation, openness and political instability and, on the other hand, economic growth and growth volatility? • Are the impacts of these variables direct or indirect (via the conditional growth volatility)? • Do these effects vary over time, in general and, in particular, do these vary with respect to shortversus long-run considerations?

What did we do? • Power-GARCH • Annual data, 100+ years: 1896 -2000 • What did we do? • Power-GARCH • Annual data, 100+ years: 1896 -2000 • Growth and the “historical reasons” • Argentina and the Argentine puzzle

RESULTS (a) Direct (b) Indirect (c) SR/LR (d) Breaks RESULTS (a) Direct (b) Indirect (c) SR/LR (d) Breaks

(Direct) Effects of “Historical Factors” on Economic Growth (Direct) Effects of “Historical Factors” on Economic Growth

Do these direct effects change in the presence of other historical factors? Do these direct effects change in the presence of other historical factors?

Findings thus far (a) financial dev has positive & sig direct effect on growth Findings thus far (a) financial dev has positive & sig direct effect on growth (b) trade openness negative & sig effect on growth (c) “informal” PI negative & sig effect on growth (guerrilla warfare) What about their INDIRECT effects? Through Growth Volatility?

Indirect Effect of FD/SPI on Growth Indirect Effect of FD/SPI on Growth

Findings (a) financial dev has positive & sig direct • effect on growth (b) Findings (a) financial dev has positive & sig direct • effect on growth (b) trade openness negative & sig effect on growth • (c) “informal” PI negative & sig effect on growth (guerrilla warfare) “formal” political instability (const change) negative and sig indirect effect trade openness negative and sig indirect effect

Robustness • SR/LR • Structural breaks Robustness • SR/LR • Structural breaks

Dynamic (SR/LR effects): Pesaran-Shin ARDL (P)ARCH Dynamic (SR/LR effects): Pesaran-Shin ARDL (P)ARCH

Main conclusions Main conclusions

Findings (a) Direct effects: financial development and trade openness, “informal” political instability (b) Indirect: Findings (a) Direct effects: financial development and trade openness, “informal” political instability (b) Indirect: “formal” political instability (c) SR/LR: the effect of political instability (negative) is similar in the long- and shortrun, that of financial development is negative in the short- and positive in the long-run whereas trade openness has only a positive long-run impact.

Thank you! Thank you!

What did we find? (a) Direct effects: financial development and trade openness, “informal” political What did we find? (a) Direct effects: financial development and trade openness, “informal” political instability (b) Indirect: “formal” political instability (c) SR/LR: the effect of political instability (negative) is similar in the long- and shortrun, that of financial development is negative in the short- and positive in the long-run whereas trade openness has only a positive long-run impact.

Outline 1. Introduction 2. Argentine puzzle 3. Related lits: FD, Macro volatility, SPI and Outline 1. Introduction 2. Argentine puzzle 3. Related lits: FD, Macro volatility, SPI and Econometric fwk 4. Data 5. Power GARCH results 6. Conclusions 7. Extensions

The Argentine Puzzle • Argentina: only country that was developed in 1900 and is The Argentine Puzzle • Argentina: only country that was developed in 1900 and is developing in 2000. HOW & WHY? • Ypc in 1913: USD 3, 797 (in 1992 USD). France and Germany: USD 3, 452 and USD 3, 134 • “Argentina’s ratio to OECD income fell to 84 percent in 1950, 65 percent in 1973, and a mere 43 percent in 1987 (…) Argentina is therefore unique” (della Paolera and Taylor, 2003).

Argentine puzzle (cont) • WHY? Finance • Taylor (1992, 2003) • Highly concentrated: Buenos Argentine puzzle (cont) • WHY? Finance • Taylor (1992, 2003) • Highly concentrated: Buenos Aires vs provinces • Financial system with low access: high wealth (land) inequality • Low savings rates • Dependence on foreign capital (UK and railroads)

Argentine puzzle (cont) • WHY? • Political instability seems to play a key role: Argentine puzzle (cont) • WHY? • Political instability seems to play a key role: • “The political history of Argentina (…) reveals an extraordinary pattern where democracy was created in 1912, undermined in 1930, re-created in 1946, undermined in 1955, fully re-created in 1973, undermined in 1976, and finally reestablished in 1983” (Acemoglu and Robinson, 2005).

Argentine puzzle (cont) • WHY? Two other important reasons • Macro volatility: public deficit Argentine puzzle (cont) • WHY? Two other important reasons • Macro volatility: public deficit and (since 1970 s) inflation (della Paollera et al 2003) • Trade openness: 50% in 1910, 20% in 1950 (Véganzonès and Winograd 1996)

The Other 4 Related Lits The Other 4 Related Lits

1. The Financial Dev Literature • Cross-country M 3, bank deposits, private credit, SM 1. The Financial Dev Literature • Cross-country M 3, bank deposits, private credit, SM (all as %GDP), 5 -year averages, from 1960

2. Macro Volatility Literature • Ramey and Ramey (AER 1995) show that output growth 2. Macro Volatility Literature • Ramey and Ramey (AER 1995) show that output growth rates are adversely affected by their volatility, … • while Grier and Tullock (JME 1989) find that higher standard deviations of growth are associated with higher mean rates. • Simple measures of volatility that don’t support decomposition (predictable / unpredictable) • So using a framework that supports this decomposition would be hopefully a contribution

3. Development: SPI • SPI: standard is composite of coups, revolutions and assassinations, higher 3. Development: SPI • SPI: standard is composite of coups, revolutions and assassinations, higher frequency (5 -year averages since 1960, crosscountry) • Maybe we can learn something if we focus instead on individual SPI series, annual frequency • What about different types of SPI? Here we look at informal/formal

4. Econometrics • Use of Power GARCH (Ding, Granger and Engle 1993) • “The 4. Econometrics • Use of Power GARCH (Ding, Granger and Engle 1993) • “The PARCH model increases the flexibility of the conditional variance specification by allowing the data to determine the power of growth for which the predictable structure in the volatility pattern is the strongest. There is no strong reason for assuming that the conditional variance is a linear function of lagged squared errors. The common use of a squared term in this role is most likely to be a reflection of the normality assumption traditionally invoked. However, if we accept that growth data are very likely to have a non-normal error distribution, then the superiority of a squared term is unwarranted and other power transformations may be more appropriate”

PGARCH: Costs & Benefits • Benefits Conditional variance Appropriate TS method • Costs Computational PGARCH: Costs & Benefits • Benefits Conditional variance Appropriate TS method • Costs Computational and Assumptions

Direct Effect of FD/SPI on Growth Direct Effect of FD/SPI on Growth

Indirect Effect of FD/SPI on Growth Indirect Effect of FD/SPI on Growth

Data Data

Main sources • Mitchell, International Historical Statistics • della Paolera and Taylor, New Economic Main sources • Mitchell, International Historical Statistics • della Paolera and Taylor, New Economic History of Argentina (CUP, 2003) • Bordo, Eichengreen et al, EP, 2001 • Lee Aston & Andres Gallo, JLE, forth. • Arthur Banks’ dataset • British and Bank of England Libraries

Data: Growth • Growth is real per capita GDP growth • Source is Data. Data: Growth • Growth is real per capita GDP growth • Source is Data. Banks 1896 -2000 • Note we have other growth, from other sources, but not yet ready to report

Data: Financial Development • Financial development • Std is M 3/GDP and Credit to Data: Financial Development • Financial development • Std is M 3/GDP and Credit to Private/GDP 1. 2. 3. 4. M 3/GDP M 1/GDP Total deposits in saving banks/GDP Private deposits in commercial banks/GDP

Data: Political Instability (Informal) • “Informal” political instability: std is coups, revolutions and assassinations Data: Political Instability (Informal) • “Informal” political instability: std is coups, revolutions and assassinations • Assassinations are defined as “any politically motivated murder or attempted murder of a high government official or politician” • General strikes are defined “as any strike of 1, 000 or more industrial or service workers that involves more than one employer and that is aimed at national government policies or authority. ” • Guerrilla warfare covers any armed activity, sabotage, or bombings carried on by independent bands of citizens or irregular forces and aimed at the overthrow of the present regime • Anti-government demonstrations which are any peaceful public gathering of at least 100 people for the primary purpose of displaying or voicing their opposition to government policies or authority

Data: Political Instability (formal) • “Formal” political instability: within political system • Legislative elections: Data: Political Instability (formal) • “Formal” political instability: within political system • Legislative elections: number of elections for the lower house each year • Constitutional changes: number of basic alterations in a state's constitutional structure, the extreme case being the adoption of a new constitution that significantly alters the prerogatives of the various branches of government. • Size of the cabinet: number of ministers of "cabinet rank" (but excluding undersecretaries, parliamentary secretaries, ministerial alternates, etc, and include president and vice-president in a presidential system). • Number of cabinet changes measures the number of times in a year that a new premier is named and/or at least 50% of the cabinet posts are occupied by new ministers.

Data: Trade Openness Data: Trade Openness

Data: Public deficit & Inflation Data: Public deficit & Inflation

Next steps • Forecasting growth: counterfactual to isolate the finance effect • Bivariate GARCH Next steps • Forecasting growth: counterfactual to isolate the finance effect • Bivariate GARCH FD-growth, smallish n? • Panel (other LAC countries? BRAZIL)