Following the introduction of the euro, the Financial Times noted: “One side-effect of the launch of the single currency is that it has deprived European investors of a rich source of currency diversity. Thus the explosion of a euro-denominated bond market has paradoxically led to a surge in European demand for dollar-denominated products. As a result, there has also been a marked rise in the number of US companies visiting the international bond markets in their domestic currency” (Financial Times, September 10, 1999).
The purpose of this study is to provide background economic data that will give the community and City staff a context for making decisions about changes to the General Plan regarding land use, housing and transportation. This study describes baseline economic conditions in Redwood City and in the North Fair Oaks area of unincorporated San Mateo County.
One of the most important questions in macroeconomics is what leads to recessions? In the standard Real-Business Cycle (RBC) literature recessions are caused by large negative technology shocks. With the exception of the oil price shocks, however, it is difficult to identify negative technology shocks that are large enough to cause recessions. As King and Rebelo (1999) ask in their seminal paper, “if these shocks are large and important, why can’t we read about them in the Wall Street Journal?”An alternative explanation is put forward in Keynesian models of the business cycle, which suggest that recessions are mainly driven by monetary and fiscal policy shocks. Again, identifying these empirically has proven to be challenging. Hence, this major question remains fundamentally unanswered: Where are the shocks that drive the business cycle and, most importantly, where are the large negative shocks to technology that cause recessions?
This project investigates an additional mechanism: variations in the level of uncertainty. The general idea that links uncertainty to the business cycles is not new. John Maynard Keynes him-self argued that changes in investor sentiment, the so-called animal spirits, could lead to economic downturns. While this can be interpreted as an argument for the role of uncertainty, it has not traditionally played a large role in the theory of business cycles for two reasons. First, evidence on time series variation in uncertainty is scarce. The behavior of levels of variables over the business cycle (the first moment) is well documented, but the dispersion of these (the second moment) is much less well understood. Second, models with time varying uncertainty are theoretically challenging. In macroeconomics, the standard analytical and numerical solution techniques used in the RBC literature do not apply in this setup. One exception is Bernanke (1983), who models a single firm deciding on investment in energy efficient capital in the presence of oil-price uncertainty. He finds that higher uncertainty reduces investment as firms become more cautious. However, this paper is based on a stylized single-firm economy in partial equilibrium.
