Using vector autoregressions (VARs) and various identification schemes, researchers have found that shocks to public spending crowd in private consumption. Examples include Blanchard and Perotti (2002), Perotti (2004), Perotti (2007), Fatás and Mihov (2001), Gal?, López-Salido and Vallés (2007), and Mountford and Uhlig (2009). The evidence has been challenged recently in an important paper by Ramey (2009). It is nevertheless frequently cited as a paradox in the context of standard neoclassical models of the business cycle. In both real business cycle (RBC) models and New Keynesian models, exogenous changes in public spending crowd out private consumption due to a negative wealth effect.
We argue that the empirical evidence should not be interpreted as undermining the neoclassical approach. The underlying philosophy of the real business cycle (RBC) approach is to build models in which all agents optimize well-defined objective functions subject to technological and budget constraints. We show that a standard RBC model with an optimizing government generates positive comovement between public spending and private consumption, just as in the empirical literature. In our model, public and private expenditures react endogenously to stochastic shocks affecting preferences and technology. Because the government ultimately cares about households’ welfare, public spending and private consumption tend to respond similarly to the state of the economy. Interestingly, this holds whether private consumption and fiscal spending are substitutes or complements.
In October 2008, the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) issued their Preliminary Views on Financial Statement Presentation [FASB 2008, hereafter FSP]. The FSP proposes that firms classify assets and liabilities on the Statement of Financial Position by activity (operating, investing and financing), and then cohesively maintain those classifications across the Statement of Comprehensive Income and the Statement of Cash Flows. In addition, the boards propose that the Statement of Comprehensive Income and the Statement of Cash Flows separately list income and expense items that do not respond equally to similar economic events.
Cohesive classification and disaggregation both provide additional information to investors that could potentially help them make more informed judgments and decisions. Standard setters continue to debate, however, whether such information is useful enough to outweigh the costs of providing it and, if so, whether it is most appropriately placed on the face of financial statements or in footnotes. Most studies on financial statement presentation predict and find that investors attend more carefully to single items of information when they are placed on the face of financial statements rather than in the footnotes (see, for example, Hirst and Hopkins 1998 and Hirst, Hopkins and Wahlen 2004). More recent research emphasizes the importance of information items’ proximity in determining the extent to which financial statement users are able to completely process multiple items of related information (Hodge, Hopkins and Wood 2010). We extend this line of research by examining analyst judgments when classification and disaggregation alter the proximity and cohesiveness of multiple information items.
Projecting the course of the world economy over the next few decades is a daunting task. One only need look at the history of the last half century to see precisely how difficult it is. How accurately, for example, would we have been able to predict the 1995 world economy in 1965? To take a single economy as an example, 1965 forecasts of the 1995 US economy would almost certainly have missed all of the following: the sharp decline of the US steel industry, the rapid increase in market share by Japanese automobile manufacturers, the explosion of the computer industry, the decline in manufacturing employment and the expansion in services, the sharp decrease in energy use per capita and per unit of GDP brought about by the oil price shocks, and the transition of the US from international creditor to net debtor. Moving from the US economy to the world as a whole adds countless more events which would probably not have been predicted in 1965, ranging from the extraordinary growth of Japan to the rapid increase in the volume of world trade.
History holds at least three lessons which are important to remember. The most obvious is simply that today’s projections are unlikely to be right. The immediate consequence of this is that projections of the world economy should be used more to discover which variables are important than to develop point estimates of future GDP or other variables. The second lesson is that the most interesting and important events are likely to lie in the details of individual industries and countries. The third lesson, demonstrated vividly by the oil shocks of the 1970's, is that people respond to changes in prices. Together these lessons mean that projecting aggregate GDP is unlikely to be useful: it will almost certainly be wrong and it will fail to capture the most important events. To put this another way, the 1995 world economy is clearly not a simple scaling of the 1965 economy.
