Is the Economic Cycle Still Alive?: Theory, Evidence and Policies

298 Pages·1994·25.51 MB·English

by  Mario Baldassarri

IS THE ECONOMIC CYCLE STILL ALIVE?
CENTRAL ISSUES IN CONTEMPORARY ECONOMIC THEORY AND POLICY
General Editor: Mario Baldassarri, Professor of Economics, University of Rome
'La Sapienza', Italy
This major series is a joint initiative between Macmillan, St. Martin's Press and SIPI, the
publishing company of Confindustria (the Confederation of Italian Industry), based on
the book collection MONOGRAFIE RPE published by SIPI and originated from the new
editorial programme of one of the oldest Italian journals of economics, the Rivista di
Politica Economica, founded in 1911. This series is intended to become an arena in which
the most topical economic problems are freely debated and confronted with different
scientific orientations and/or political theories.
Published titles
Mario Baldassarri (editor)
INDUSTRIAL POLICY IN ITALY, 1945-90
Mario Baldassarri (editor)
KEYNES AND THE ECONOMIC POLICIES OF THE 1980s
Mario Baldassarri (editor)
OLIGOPOLY AND DYNAMIC COMPETITION
Mario Baldassarri (editor)
THE ITALIAN ECONOMY: HEAVEN OR HELL?
Mario Baldassarri and Paolo Annunziato (editors)
IS THE ECONOMIC CYCLE STILL ALIVE?: THEORY, EVIDENCE
AND POLICIES
Mario Baldassarri, John McCallum and Robert Mundell (editors)
DEBT, DEFICIT AND ECONOMIC PERFORMANCE
Mario Baldassarri, John McCallum and Robert Mundell (editors)
GLOBAL DISEQUILIBRIUM IN THE WORLD ECONOMY
Mario Baldassarri and Robert Mundell (editors)
BUILDING THE NEW EUROPE
Volume 1: The Single Market and Monetary Unification
Volume 2: Eastern Europe's Transition to a Market Economy
Mario Baldassarri, Luigi Paganetto and Edmund S. Phelps (editors)
INTERNATIONAL ECONOMIC INTERDEPENDENCE,
PATTERNS OF TRADE BALANCES AND ECONOMIC POLICY
COORDINATION
Mario Baldassarri, Luigi Paganetto and Edmund S. Phelps (editors)
PRIVATIZATION PROCESSES IN EASTERN EUROPE: THEORETICAL
FOUNDATIONS AND EMPIRICAL RESULTS
Mario Baldassarri, Luigi Paganetto and Edmund S. Phelps (editors)
WORLD SAVING, PROSPERITY AND GROWTH
Mario Baldassarri and Paolo Roberti (editors)
FISCAL PROBLEMS IN THE SINGLE-MARKET EUROPE
Is the Econotnic Cycle
Still Alive?
Theory, Evidence and Policies
Edited by
Mario Baldassarri
Professor of Economics
University of Rome 'La Sapienza'
and
Paolo Annunziato
Research Department of Confindustria, Rome
M
in association with
Palgrave Macmillan
St. Martin's Press
© SIPI Servizio Italiano Pubblicazioni Internazionali Srl 1992, 1994
Softcover reprint of the hardcover 1st edition 1994
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First published in Great Britain 1994 by
THE MACMILLAN PRESS LTD
Houndmills, Basingstoke, Hampshire RG21 2XS
and London
Companies and representatives
throughout the world
A catalogue record for this book is available
from the British Library.
ISBN 978-1-349-23185-0 ISBN 978-1-349-23183-6 (eBook)
DOI 10.1007/978-1-349-23183-6
First published in the United States of America 1994 by
Scholarly and Reference Division,
ST. MARTIN'S PRESS, INC.,
175 Fifth Avenue,
New York, N.Y. 10010
ISBN 978-0-312-10380-4
Library of Congress Cataloging-in-Publication Data
Is the economic cycle still alive? : theory, evidence and policies /
edited by Mario Baldassarri and Paolo Annunziato.
p. cm. — (Central issues in contemporary economic theory and
policy)
Includes index.
ISBN 978-0-312-10380-4
1. Business cycles. 2. Economic forecasting. 3. Economic
indicators. I. Baldassarri, Mario, 1946- . II. Annunziato, Paolo.
III. Series.
HB3711.I8 1994
338.5' 42—dc20 92-21104
CIP
Contents
1 Introduction 3
Mario Baldassarri, Paolo Annunziato
PART I: ECONOMIC CYCLE FLUCTUATIONS 9
2 Theory and Measurement of Economic Cycles: a Recent Debate 11
Marco Lippi
3 On the Sources of Fluctuation of the Italian Economy:
a Structural V AR Analysis 33
Paolo Onofri, Paolo Paruolo, Bruno Salituro
4 New Measures of the Permanent Component of Output:
a Multi-Country Analysis 65
Paolo Roberti
5 The Real Business Cycle Theory 105
Giuseppe Schlitzer
PART II: CYCLE INDICATORS AND ANALYSIS
6 The Use of Cyclical Indicators in Business Cycle Analysis 139
Paolo Annunziato
7 Leading Indicators for DECO, Central and Eastern European
Countries 181
Ronny Nilsson
8 A Monthly Model of the Industrial Sector for Business-Cycle
Analysis 227
Enrico Giovannini
9 Business Cycle Analysis and Industrial Production Forecasts 257
Pietro Gennari
10 Death and Rebirth of the Business Cycle 285
Innocenzo Cipolietta
Index 299
Introduction
Paolo Annunziato - Mario Baldassarri
Confindustria, Roma Universitai _La Sapienza,., Roma
Interest in the analysis and measurement of economic fluctu
ations would appear to have its own cyclical trend, being strong and
common. during and after periods of considerable instability but
more neglected during periods of continuous growth. Similarly, in
the evolution of economic theory, periods of intense research into the
origins of the cycle have alternated with periods of great confidence
in the ability of economic policy to reduce economic instability. In
particular, during the 1960s and the early 1970s the fiscal
authorities of almost all the industrialised countries and interna
tional economic institutes were busily engaged in "fine tuning" the
economy, in accordance with the dictates of Keynesian economics.
As regards tlie present day, we agree with Zarnowitz [2J when
he notes that we are now living what can only be another period of
disillusion in the ability of economic policy, be it monetary or fiscal,
to stabilise the economy. This is proven by the onset of severe
recessions in various parts of the world during the first half of the
1980s and the inability to invert the negative phase of the business
cycle under way in the various industrial countries in these early
1990s. A consequence of the failure of old solutions develops into a
need to research in more detail the causes of economic fluctuations
and their measurement.
This collection of papers on the business cycle attempts to
contribute to this process. However, the fact that attention is largely
concentrated on recent developments in measurement theory and
methodology should not be interpreted as an indication that the
4 Paolo Annunziato - Mario Baldassarri
contemporary literature presented in this volume to a certain extent
exhausts the topic. Business-cycle analysis almost coincides with
short-term macroeconomics and has many common points with the
economics of growth, money, inflation and expectations. The present
volume inevitably and deliberately passes over many important
aspects in order to provide more coverage of an empirical approach
aimed at business-cycle measurement and analysis. In fact, all the
works presented here strive to analyse and provide some indicators
of the effect of exogenous factors (including economic policies).
The first section of the volume deals with recent developments in
contemporary empirical macroeconomics and debates the observa
tion that economic time series have a high degree of serial correl
ation, which means that any shocks to the series themselves are
persistent. This evidence can be explained by assuming these series
can be represented as non-stationary stochastic processes char
acterised by a stochastic trend. In this case, the traditional distinc
tion between long-term trends, described by a deterministic trend,
and short-term phenomena, represented by cyclical fluctuations
around a trend, would furnish erroneous results. If there was an
exogenous shock, the economy's growth path would be modified and
the impulses would propagate via cyclical oscillations which would
dampen very slowly, and generate a high persistence in the economic
variables as a consequence.
Marco Lippi opens the debate by illustrating the various conse
quences deriving from the hypothesis that the important economic
variables are generated by stochastic processes with trends that are
either stationary or non-stationary (for example stationary in the
first-order differences). It should be emphasised that many of the
empirical results concerning the trend's variability are very depen
dent on the functional form which is traditionally used to represent
the stochastic trend (a random walk). In fact the trend variability is
not confirmed by the data when one assumes alternative dynamic
forms. Moreover, on the theoretical plane, if one assumes that the
permanent component represents the diffusion effects of tech
nological innovations and the learning process of techniCal progress,
the functional form obtained for the trend is anything but a random
walk.
Introduction 5
The paper by Paolo Onofri, Paolo Paruolo and Bruno Salituro
and that by Stefano Fachin, Andrea Gavosto and Guido Pellegrini
aim at identifying the nature of the innovations which generate the
business cycle. Both the analyses attempt to isolate the supply shock
effects from the demand shock effects by using structural VAR
systems which place some restrictions on the basic macroeconomic
relations and on the correlation between the different types of
shocks. Onofri, Paruolo and Salituro explore the possibility that
technical progress can be interpreted not only as supply shock, but
also as demand shock through foreign demand. The influence of the
foreign sector is reassessed in the light of the results obtained,
suggesting that in an open economy the import of consumption
models can be the channel through which stochastic growth is
introduced.
The paper by Fachin, Gavosto and Pellegrini on the other hand
confirms the significance of the supply shocks. The results they
obtain in fact indicate that much of the variation in industrial
production depends on these disturbances. The authors extend their
analysis to the other major European economies: they find similar
evidence in Italy, France and Germany while in the United Kingdom
the permanent component explains the variability in industrial
production to a lesser degree.
Giuseppe Schlitzer analyses the hypothesis that the permanent
component of time series represents the supply shocks. The critical
overview of more recent literature o~ the business-cycle reveals old
problems which are still unresolved, namely, whether it makes sense
to credit technology with the role of the primary source of economic
fluctuations and whether it is correct to interpret the trend of
Solow's residual in terms of changes in the state of technology. The
author proposes considering some recent contributions which in
tegrate the intertemporal stochastic approach with analysis of imper
fectly competitive market forms. In this type of models, aggregate
demand plays a greater role since its fluctuations can affect the level
of economic activity through a shift in labour demand, which
depends on companies' mark-up.
The second section concentrates on methods for measuring the
business cycle for forecasting purposes. Paolo Annunziato's paper
6 Paolo Annunziato - Mario Baldassarri
discusses the correct use of traditional cyclical indicators while
Ronny Nilsson illustrates some applications of the method used by
OECD to analyse cyclical fluctuations in east European countries.
This method consists in identifying the time series which have
recurring requences so as to use them to identify and predict the
subsequent phases of the business cycle under way. By way of reply
to the criticism of constructing a "measurement without theory",
literature over the past fifty years has devoted considerable efforts to
develop the theoretical bases of these indicators. Indeed they are
proposed as an alternative to econometric models of varying sizes
vis-a.-vis which they still provide more reliable forecasts in the very
short term. The latest advances in the real business cycle theory and
in particular the development of stochastic growth models are an
important step forward in understanding, interpreting and improv
ing business-cycle indicators.
On the other hand, the excessive level of abstraction and
inelasticity limits the use of macroeconomic models for short-term
economic analysis. The macroeconomic model presented by Enrico
Giovannini is instead directed at analysing the very short-term
economic cycle, and is characterised by its use of monthly observa
tions and information from business surveys. The model's endogen
ous variables for the Italian industrial sector are orders, inventories,
industrial production and production prices. The author uses the
model to verify the dynamic effects of demand and supply shocks on
the endogenous variables, noting the high level of reactivity of
industrial production to demand shocks (especially in the intermedi
ate and investment goods sectors).
The methods for the short-term forecasting of industrial produc
tion are discussed in Pietro Gennari's paper which emphasises that
better results are obtained with multivariate rtifher than univariate
time series models. The author discusses proWems regarding the use
of electrical energy consumption and shoh-term economic-cycle
surveys in this type of analysis.
Innocenzo Cipolletta closes the volume by surveying the main
problems of business-cycle analysis in a paper which deals with the
"cycle" of business-cycle theory, that is to say the fortune and
misfortunes this approach has encountered over the years. In par-