Full text of Research Update : Fourth Quarter 2003

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ourth Quarter 2003

Federal Reserve Bank of New York

Update
Research and Market Analysis Group

www.newyorkfed.org/research

Study Foresees No Retrenchment in Consumer
Spending as Mortgage Refinancing Boom Ends
ccording to many observers in the
business press, the recent surge in
home equity withdrawal has fueled
a substantial increase in consumer spending and left household balance sheets in a
much-weakened state. In this view, the
return of interest rates to higher levels and
the consequent end of the refinancing
boom will compel consumers to cut back
their spending sharply.

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A new article in Current Issues in
Economics and Finance (vol. 9, no. 12,
“After the Refinancing Boom: Will
Consumers Scale Back Their Spending?”)
presents a markedly different view.
Contending that consumers have used the
equity withdrawn from their homes to
restructure their balance sheets and reduce
debt service burdens, authors Margaret

McConnell, Richard Peach, and Alex
Al-Haschimi suggest that households will
in fact be in a better position to spend
going forward.
The authors base their conclusion on an
analysis of household assets and liabilities
from the late 1990s through mid-2003, the
period when equity withdrawal was rising
rapidly. The data indicate that during these
years, households increased their acquisition of financial assets and reduced their
reliance on nonmortgage liabilities—credit
card debt and other forms of consumer
credit. Households continued to purchase
consumer goods, but they did so at about
the same rate as in the past.

The authors infer from the data that
households have not been using the withdrawn equity to step up their spending irresponsibly. Rather, households
ew Research: October-December 2003
appear to be using low-cost,
tax-advantaged mortgage debt
Call for papers on corporate governance
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to make many of the same
New Staff Reports
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purchases that they would
Papers recently published by RMAG staff
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otherwise have financed by
Presentations at conferences
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drawing down their financial

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Fourth Quarter 2003

assets or increasing their credit card debt.
“The picture that emerges,” the authors
note, “is one of financial prudence rather
than profligacy.”
Additional support for this position, the
authors contend, comes from tracking a
comprehensive measure of the household
debt service burden. Despite the rapid
increase in mortgage debt in recent years,

debt service payments are claiming a smaller
share of household after-tax income.
The authors conclude that, with debt
service falling and household net worth rising at about the same rate as before the
surge in home equity withdrawal, there is
little reason to expect a slowdown in consumer spending. In fact, consumers may
now be better able to spend than in the past.

Call for Papers on Corporate Governance
n September 30 and October 1,
2004, the Federal Reserve Bank of
New York will host the conference
Governance of Not-for-Profit Organizations. The conference is being cosponsored
with Princeton University’s Bendheim
Center for Finance and the Journal of
Accounting and Economics.

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Interested authors can submit papers
relating to all aspects of the governance of
not-for-profit firms by July 15, 2004, to
hamid.mehran@ny.frb.org.
Detailed information can be found at
www.newyorkfed.org/research/conference/
2004/governance_call_papers.html.

Pu b l i c a t i o n s a n d P a p e r s
The Research and Market Analysis Group produces a wide range of publications:
● The Economic Policy Review—a policy-oriented journal focusing on economic
and financial market issues.
●

EPR Executive Summaries—online versions of selected Economic Policy Review
articles, in abridged form.

●

Current Issues in Economics and Finance—concise studies of topical economic
and financial issues.

Second District Highlights—a regional supplement to Current Issues.
● Staff Reports—technical papers intended for publication in leading economic
and finance journals, available only online.
●

●

Publications and Other Research—an annual catalogue of the Group’s research output.

Federal Reserve Bank of New York

www.newyorkfed.org/research

New Titles in the Staff
Reports Series

gasoline prices. The study also finds that
households experiencing high inflation in one
year do not generally do so in the next year.

The following new Staff Reports are available at www.newyorkfed.org/research/
staff_reports.

Banking and Finance
No. 175, October 2003

What Explains the Stock Market’s Reaction
to Federal Reserve Policy?
Ben S. Bernanke and Kenneth N. Kuttner
This paper analyzes the impact of changes in
the federal funds rate target on equity prices,
with the aim of both estimating the size of the
typical reaction and understanding the reasons
for the reaction. On average, a typical unanticipated 25-basis-point rate cut is associated with
a roughly 1 percent increase in broad stock
market indexes. The response varies across
industries in a pattern consistent with the capital asset pricing model. Policy’s impact on
expected future stock returns accounts for the
largest share of the stock price response, while
the direct effect of the real risk-free interest rate
is small.

Cross-Country Differences in Monetary
Policy Execution and Money Market
Rates’ Volatility
Leonardo Bartolini and Alessandro Prati
The volatility patterns of overnight interest
rates differ across industrial countries in ways
that existing models, designed to replicate the
features of the U.S. federal funds market, cannot explain. The authors present an equilibrium model of the overnight interbank market
that matches these different patterns by incorporating differences in policy execution by the
world’s main central banks, including differences in central banks’ management of marginal lending and deposit facilities in response
to shocks. Their model is consistent with central banks’ observed practice of rationing access
to marginal facilities when the objective of stabilizing short-term interest rates conflicts with
another high-frequency objective, such as targeting exchange rates.

Microeconomics

No. 176, December 2003

Macroeconomics and Growth
No. 174, October 2003

No. 173, October 2003

Inflation Inequality in the United States
Bart Hobijn and David Lagakos
Inflation is often assumed to affect everyone
the same way. However, differences in spending patterns across households and differences
in price increases across goods and services lead
to unequal levels of inflation. This paper measures the degree of inflation inequality across
U.S. households from 1987 to 2001. Its results
suggest that inflation experiences vary significantly, with most of the differences traceable to
changes in the relative prices of education,
health care, and gasoline. Cost-of-living increases are found to be generally higher for the
elderly, largely because of their health care
expenditures, and the cost of living for poor
households is most sensitive to fluctuations in

Are Banks Really Special? New Evidence from
the FDIC-Induced Failure of Healthy Banks
Adam B. Ashcraft
The Federal Deposit Insurance Corporation
(FDIC) used cross-guarantees to close thirtyeight subsidiaries of First RepublicBank
Corporation in 1988 and eighteen subsidiaries
of First City Bancorporation in 1992 when
lead banks from each of these Texas-based
bank holding companies were declared insolvent. The author uses this exogenous failure of
otherwise healthy subsidiary banks as a natural
experiment for studying the impact of bank
failure on local-area real economic activity. He
finds that the closings of the subsidiaries were
associated with a significant decline in bank
lending that led to a permanent reduction in
real county income of about 3 percent.

Research and Market Analysis Group

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Fourth Quarter 2003

Recently Published
Adam Ashcraft and Donald Morgan. 2003.
“Using Loan Rates to Measure and Regulate
Bank Risk: Findings and an Immodest Proposal.”
Journal of Financial Services Research 24,
no. 2-3 (October/December): 181-200.
Leonardo Bartolini. 2003. “The Execution of
Monetary Policy: A Tale of Two Central
Banks,” with Alessandro Prati. Economic Policy 18,
no. 37 (October): 435-67.
Leonardo Bartolini. 2003. “The Overnight
Interbank Market: Evidence from the G-7 and
the Euro Zone,” with Alessandro Prati and
Giuseppe Bertola. Journal of Banking and
Finance 27, no. 10 (October): 2045-83.

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Arturo Estrella. 2003. “Critical Values and
P-Values of Bessel Process Distributions: Computation and Application to Structural Break
Tests.” Econometric Theory 19, no. 6 (December):
1128-43.
James Harrigan. 2003. “Is Japan’s Trade (Still)
Different?” with Rohit Vanjani. Journal of the
Japanese and International Economies 17,
no. 4 (December): 507-19.
James Kahn and Robert Rich. 2003. “Distinguishing Trends from Cycles in Productivity.”
Monetary Policy in a Changing Environment,
BIS Papers no. 19, October: 443-61.

Amartya Lahiri. 2003. “Delaying the
Inevitable: Interest Rate Defense and Balance
of Payments Crises,” with Carlos Végh. Journal
of Political Economy 111, no. 2: 404-24.
Jonathan McCarthy. 2003. “Capital Overhangs: Has Investment Spending Suffered
from a Hangover?” Business Economics 38,
no. 4 (October): 20-7.
Til Schuermann. 2003. “Risk Measurement,
Risk Management, and Capital Adequacy of
Financial Conglomerates,” with Andrew
Kuritzkes and Scott Weiner. In Richard Herring
and Robert Litan, eds., Brookings-Wharton
Papers on Financial Services 2003, 141-93.
Kevin Stiroh. 2003. “Competitive Dynamics of
Deregulation: Evidence from U.S. Banking,”
with Philip E. Strahan. Journal of Money,
Credit, and Banking 35, no. 5 (October): 801-28.
Kevin Stiroh. 2003. “Efficiency and Scale
Economies in Universal Banks: Evidence from
Switzerland,” with Bertrand Rime. Journal of
Banking and Finance 27, no. 11 (November):
2121-50.
Kevin Stiroh. 2003. “Growth and Innovation
in the New Economy.” In Derek C. Jones, ed.,
New Economy Handbook, 723-51. San Diego,
Calif.: Academic Press.

Ot h e r N e w P u b l i c a t i o n s
●

An Introduction to Economic Research at the Federal Reserve Bank of New York. This
online guide, updated for 2003–2004, is designed to give economists interested in
joining the Research and Market Analysis Group a fuller understanding of our activities.
www.newyorkfed.org/research/intro/rmagtoc.html

●

The Research Group of the Federal Reserve Bank of New York. This online guide, which
complements An Introduction to Economic Research, offers economists an overview of
our research and policy work and a description of our distinctive culture.
www.newyorkfed.org/research/research_group/index.html

Federal Reserve Bank of New York

www.newyorkfed.org/research

“Financial Crises and the Presence of Banks,”
Linda Goldberg. World Bank Conference on
Systemic Financial Distress: Containment and
Resolution, Washington, D.C., October 8.

Presentations by
Economists in the
Research and Market
Analysis Group
“New Evidence on the Lending Channel,”
Adam Ashcraft. University of California at
Berkeley, Haas School of Business, Berkeley,
California, November 26.
“Metropolitan New York City Economy:
Before and after September 11,” Jason Bram.
Northeast Regional Science Council, State
University of New York at Binghamton,
Binghamton, New York, November 8.
“Neighborhood Revitalization in New York
City in the 1990s,” Jason Bram, Andrew
Haughwout, Margaret McConnell, and James
Orr. Regional Science Association International conference, Philadelphia, Pennsylvania,
November 20. With Jesse Edgerton and
Yigal Gelb.
“Changing Commuting Patterns in the New
York Metropolitan Region,” Jason Bram and
Alisdair McKay. New York State Economics
Association 2003 Annual Conference, New
York City, October 10.
“Heat Waves, Meteor Showers, and Trading
Volume: An Analysis of Volatility Spillovers in
the U.S. Treasury Market,” Michael Fleming.
Third Workshop of the European Central
Bank and Center for Financial Studies
Research Network on Capital Markets and
Financial Integration in Europe, Bank of
Greece, Athens, Greece, November 20. With
Jose Lopez.
“The Specials Market for U.S. Treasury
Securities and the Federal Reserve’s Securities
Lending Program,” Michael Fleming and
Kenneth Garbade. Rutgers Business School,
Newark, New Jersey, October 31. Also presented
at a University of Piraeus and Athens
Derivatives Exchange seminar, Athens, Greece,
November 21.

“Exchange Rates and Prices,” Linda Goldberg.
Bank for International Settlements research
seminar, Basel, Switzerland, October 16. With
José Campa.
“Financial Foreign Direct Investment and
Host Countries: New and Old Lessons,” Linda
Goldberg. Bank for International Settlements,
Committee on Global Financial Stability meeting, Basel, Switzerland, October 16.
“Does Dollarization of Debt Composition
Lead to Strong Balance Sheet Effects of
Exchange Rates?” Linda Goldberg. InterAmerican Development Bank and Federal Reserve
Bank of Atlanta, Atlanta, Georgia, November 23.
“Has Structural Change Contributed to a
Jobless Recovery?” Erica Groshen. Information
Policy Institute conference, Washington, D.C.,
December 11.
“Do Stock Price Bubbles Influence Corporate
Investment?” Charles Himmelberg. University
of Colorado at Boulder, Leeds School of
Business Department of Finance, Boulder,
Colorado, December 5.
“The Challenges of Consolidated Risk
Management,” Beverly Hirtle. International
Centre for Business Information Risk
Management Conference, Geneva, Switzerland,
December 3.
“Cross-Country Technology Adoption,” Bart
Hobijn. Carnegie-Rochester Conference Series
on Public Policy, University of Rochester,
Rochester, New York, October 16.

Research and Market Analysis Group

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“Regulation, Subordinated Debt, and
Incentive Features of CEO Compensation in
the Banking Industry,” Hamid Mehran. Federal
Deposit Insurance Corporation and Journal of
Financial Services Research conference,
Washington D.C., December 6. With Kose
John and Yiming Qian.
“Using Loan Rates to Measure and Regulate
Loan Risk,” Donald Morgan. Federal Deposit
Insurance Corporation and Journal of Financial
Services Research conference, Washington,
D.C., October 7.
“New York City Two Years after September 11:
Economic Impact and Policy Response,”
James Orr and Jason Bram. Regional Science
Association
International
conference,
Philadelphia, Pennsylvania, November 22.

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“The Linkage between Economic Activity and
Tax Bases: Evidence from New York,”
James Orr, Jason Bram, Andrew Haughwout,
and Robert Rich. Regional Science Association
International conference, Philadelphia,
Pennsylvania, November 26. With Rae Rosen.
“New Open Economy Macroeconomics and
the Global Economy Model,” Paolo Pesenti.
Cornell University Department of Economics
seminar, Ithaca, New York, November 18. Also
presented at a University of Houston
Department
of
Economics
seminar,
December 10.

“Why Firm Access to the Bond Market Varies
over the Business Cycle: A Theory and Some
Evidence,” João Santos. Third Workshop of the
European Central Bank and Center for
Financial Services Research Network on
Capital Markets and Financial Integration in
Europe, Bank of Greece, Athens, Greece,
November 20. Also presented at the
Norwegian School of Management, Oslo,
Norway, December 3, and the New University
of Lisbon School of Economics, Lisbon,
Portugal, December 9.
“Macroeconomics and Credit Risk: A Global
Perspective,” Til Schuermann. Penn Institute
for Economic Research and Innocenzo
Gasparini Institute for Economic Research
Conference on Econometric Methods in
Macroeconomics and Finance, Bocconi
University, Milan, Italy, October 4.
“Manufacturing and the Business Cycle,”
Charles Steindel. New York State Economics
Association Meeting, New York City, October 10.
“The Dark Side of Diversification: The Case of
U.S. Financial Holding Companies,” Kevin
Stiroh. Bank of Canada conference, Ottawa,
Ontario, December 4. With Adrienne Rumble.
“Optimal Monetary Policy and Productivity
Growth,” Andrea Tambalotti. Second
Workshop on Dynamic Macroeconomics,
University of Milan, Milan, Italy, December 19.

“When Leaner Isn’t Meaner: Measuring the
Benefits and Spillovers of Greater Competition
in Europe,” Paolo Pesenti. International
Research Forum on Monetary Policy, sponsored by the European Central Bank, the
Board of Governors of the Federal Reserve
System, the Center for German and European
Studies of Georgetown University, and the
Center for Financial Studies of the University
of Frankfurt, Washington, D.C., November 19.
With Tamim Bayoumi and Doug Laxton.

“Monetary Policy Coordination under
Complete Markets,” Cédric Tille and Paolo
Pesenti. Swiss National Bank, Zurich,
Switzerland, November 27. Also presented at
the University of Lausanne, Lausanne,
Switzerland, December 4.

“A Nonlinear Model of the Business Cycle,”
Simon Potter. State University of New York at
Albany seminar, Albany, New York,
October 24.

“A Simple Explanation of the Border Effect,”
Kei-Mu Yi. Stanford University Department of
Economics seminar, Palo Alto, California,
November 5.

Federal Reserve Bank of New York

“Using Home Maintenance and Repairs to
Smooth Variable Earnings,” Joseph Tracy. City
University of New York Graduate Center,
New York City, November 12.

www.newyorkfed.org/research

Publications and Papers:
October-December 2003
Publications are available at www.newyorkfed.org/
research/publication_annuals/.

Current Issues in Economics and
Finance, Vol. 9
No. 10, October 2003
Taking the Pulse of the Tech Sector:
A Coincident Index of High-Tech Activity
Bart Hobijn, Kevin J. Stiroh,
and Alexis Antoniades
No. 11, November 2003
Coping with Terms-of-Trade Shocks
in Developing Countries
Christian Broda and Cédric Tille
No. 12, December 2003
After the Refinancing Boom: Will Consumers
Scale Back Their Spending?
Margaret M. McConnell, Richard W. Peach,
and Alex Al-Haschimi

Staff Reports
Available only online.
No. 173, October 2003
Inflation Inequality in the United States
Bart Hobijn and David Lagakos
No. 174, October 2003
What Explains the Stock Market’s Reaction
to Federal Reserve Policy?
Ben S. Bernanke and Kenneth N. Kuttner
No. 175, October 2003
Cross-Country Differences in Monetary Policy
Execution and Money Market Rates’ Volatility
Leonardo Bartolini and Alessandro Prati
No. 176, December 2003
Are Banks Really Special? New Evidence from
the FDIC-Induced Failure of Healthy Banks
Adam B. Ashcraft

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The views expressed in the publications and papers summarized in Research Update are those
of the authors and do not necessarily reflect the position of the Federal Reserve Bank of New York
or the Federal Reserve System.
Research and Market Analysis Group