Skip to main content

Federal Reserve Bank of St. Louis Review

A quarterly research journal intended for an economically informed but broad readership—from the undergraduate student to the PhD. In print and online.

NOVEMBER/DECEMBER 2005 Vol. 87, No. 6

How Predictable Is Fed Policy?

This article was originally presented as a speech at the University of Washington, Seattle, Washington, October 4, 2005.

Oil Price Volatility and U.S. Macroeconomic Activity

Oil shocks exert influence on macroeconomic activity through various channels, many of which imply a symmetric effect. However, the effect can also be asymmetric. In particular, sharp oil price changes—either increases or decreases—may reduce aggregate output temporarily because they delay business investment by raising uncertainty or induce costly sectoral resource reallocation. Consistent with these asymmetric-effect hypotheses, the authors find that a volatility measure constructed using daily crude oil futures prices has a negative and significant effect on future gross domestic product (GDP) growth over the period 1984-2004. Moreover, the effect becomes more significant after oil price changes are also included in the regression to control for the symmetric effect. The evidence here provides economic rationales for Hamilton’s (2003) nonlinear oil shock measure: It captures overall effects, both symmetric and asymmetric, of oil price shocks on output.

An Analysis of Recent Studies of the Effect of Foreign Exchange Intervention

Two recent strands of research have contributed to our understanding of the effects of foreign exchange intervention: (i) the use of high-frequency data and (ii) the use of event studies to evaluate the effects of intervention. This article surveys recent empirical studies of the effect of foreign exchange intervention and analyzes the implicit assumptions and limitations of such work. After explicitly detailing such drawbacks, the paper suggests ways to better investigate the effects of intervention.

Discrete Monetary Policy Changes and Changing Inflation Targets in Estimated Dynamic Stochastic General Equilibrium Models

Many estimated macroeconomic models assume interest rate smoothing in the monetary policy equation. In practice, monetary policymakers adjust a target level for the federal funds rate by discrete increments. One often-neglected consequence of using a quarterly average of the daily federal funds rate in empirical work is that any change in the target federal funds rate will affect the quarterly average in the current quarter and the subsequent quarter. Despite this clear source of predictable change in the quarterly average of the federal funds rate, the vast bulk of the literature that estimates policy rules ignores information concerning the timing and magnitude of discrete changes to the target federal funds rate. Consequently, policy equations that include interest rate smoothing inadvertently make the strong and unnecessary assumption that the starting point for interest rate smoothing is last quarter’s average level of the federal funds rate. The authors consider, within an estimated general equilibrium model, whether policymakers put weight on the end-of-quarter target level of the federal funds rate when choosing a point at which to smooth the interest rate.

Revisions to User Costs for the Federal Reserve Bank of St. Louis Monetary Services Indices

This analysis discusses recent changes to the user cost figures that are computed as part of the Federal Reserve Bank of St. Louis monetary services indices (MSI). The authors first introduce an alternative splicing procedure, robust to differences in scale between series, for those price subindices which, individually, have a time span shorter than the overall MSI but are spliced to span the entire period. They then correct an error in the calculation of user costs for money market mutual funds that caused these funds’ user costs to be based, for a considerable period of time, on the last-reported value for one input data series. Finally, the authors also restore the yield-curve adjustment for composite assets, which they removed from published data during 2004 as they explored the unusual behavior of the user cost data for small-denomination time deposits.

For further information on the Monetary Services Index project, please click here.


SEPTEMBER/OCTOBER 2005 Vol. 87, No. 5

Understanding the Term Structure of Interest Rates

This article was originally presented as a speech to the Money Marketeers, New York, New York, June 14, 2005.

Targeting versus Instrument Rules for Monetary Policy

Svensson’s (2003) argument that targeting rules are normatively superior to instrument rules for conducting monetary policy is based largely on four main objections to the latter, plus a claim concerning the relative interest-instrument variability entailed by the two approaches. We advance arguments that contradict his objections and discuss general targeting rules and actual central bank practice.

Targeting versus Instrument Rules for Monetary Policy: What is Wrong with McCallum and Nelson?

McCallum and Nelson’s critique of targeting rules for monetary policy are rebutted. Their preference to study the robustness of simple monetary policy rules is no reason to limit attention to simple instrument rules; simple targeting rules may be more desirable. Optimal targeting rules are a compact, robust, and structural description of goal-directed monetary policy, analogous to the compact, robust, and structural consumption Euler conditions in the theory of consumption. Under realistic assumptions, the instrument rule analog to any targeting rule the authors propose results in very large instrument rate volatility and is, for other reasons, inferior.


Comments in response to Lars Svensson’s “Targeting vs. Instrument Rules for Monetary Policy: What Is Wrong with McCallum and Nelson?”

Commentary on "Targeting versus Instrument Rules for Monetary Policy: What is Wrong with McCallum and Nelson?"

The Monetary Instrument Matters

This paper revisits the debate of the money supply versus the interest rate as the instrument of monetary policy. The authors use a dynamic stochastic general equilibrium framework to examine the effects of alternative monetary policy rules on inflation persistence, the information content of monetary data, and real variables; they show that inflation persistence and the variability of inflation relative to money growth depend on whether the central bank follows a money growth rule or an interest rate rule.


JULY/AUGUST 2005 Vol. 87, No. 4

Productivity, Labor, and the Business Cycle

Proceedings of the Twenty-Ninth Annual Economic Policy Conference of the Federal Reserve Bank of St. Louis

Complete Issue

The July/August issue of Review includes the proceedings from the 29th economic policy conference of the Federal Reserve Bank of St. Louis, "Productivity, labor, and the Business Cycle." with six papers and discussions that range from a statistical representation of the business cycle, to an econometric analysis of its driving forces, to a measurement of key indicators, to theoretical models of its causes and effects.

President's Message

What's Real About the Business Cycle?


Commentary on "What's Real About the Business Cycle?"


Commentary on "Trends in Hours, Balanced Growth, and the Role of Technology in the Business Cycle"


Commentary on "The Cyclicality of Hires, Separations, and Job-to-Job Transitions"

Reexamining the Monetarist Critique of Interest Rate Rules


Commentary on "Reexamining the Monetarist Critique of Interest Rate Rule"

Productivity and the Post-1990 U.S. Economy


Commentary on "Productivity and the Post-1990 U.S. Economy"

Organizational Dynamics Over the Business Cycle: A View on Jobless Recoveries


Commentary on "Organizational Dynamics Over the Business Cycle: A View on Jobless Recoveries"


MAY/JUNE 2005 Vol. 87, No. 3

An Introduction to Two-Rate Taxation of Land and Buildings

In the U.S., land and improvements to that land (e.g., buildings) are generally taxed at the same rate. This paper describes historic and current arguments for two-rate (or split-rate) taxation, which taxes land at a higher rate than structures. In theory, two-rate taxation reduces deadweight losses associated with distortionary taxation and generates additional economic activity.

Evidence on Wage Inequality, Worker Education and Technology

This paper looks at a sample of 230 U.S. industries between 1983 and 2002 to see how a worker’s education level and on-the-job use of “skill-based” technology (i.e., computers) relates to wages. The author uncovers two conclusions: Rising U.S. wage inequality has been caused predominantly by increasing wage dispersion within industries rather than between industries. And within-industry inequality is strongly tied to both the frequency of computer usage among workers and the fraction of workers with a college degree.

Monetary Policy and Commodity Futures

With daily measures of the real interest rate and expected inflation from commodity futures prices and the term structure of Treasury yields, the authors find commodity futures markets respond to surprise increases in the federal funds rate target by raising the inflation rate expected over the next 3 to 9 months (though no evidence is found that the real interest rate responds to surprises in the federal funds target). Yet, the basket of commodities traded daily is narrow and it is not known whether these observable rates are closely connected to the unobservable inflation and real rates that affect economywide consumption and investment.

Using Implied Volatility to Measure Uncertainty About Interest Rates

This article explains implied volatility (IV) and how it can differ from the market’s true expectation of uncertainty. It also estimates IV of 3-month eurodollar interest rates from 1985 to 2001 and evaluates its ability to predict realized volatility. IV shows that uncertainty about short-term interest rates has been falling for almost 20 years, as the levels of interest rates and inflation have fallen; and changes in IV are usually coincident with major news about the stock market, the real economy, and monetary policy.


MARCH/APRIL 2005 Vol. 87, No. 2, Part 2

Reflections on Monetary Policy 25 Years After October 1979

Complete Issue

March/April Part 2 issue of Review marks historic Fed policy change
This Review contains analysis and discussion presented at a Bank conference last October that marked the 25th anniversary of a major monetary policy reform: On October 6, 1979, under the Chairmanship of Paul Volcker, the Federal Reserve implemented policy to end the "Great Inflation" that had taken hold of the economy at the time. The Fed reaffirmed its commitment to maintain price stability and restored the public’s confidence, setting the stage for the nation's economic prosperity over the past two and a half decades. The issue contains presentations by leading economists and current members of the Board of Governors, as well as personal reflections by the policymakers and Fed officials who were in office at the time of this reform.

Chairman's Remarks

Editors' Introduction

Origins of the Great Inflation


Commentary on "Origins of the Great Inflation"

The Reform of October 1979: How It Happened and Why


Commentary on "The Reform of October 1979: How It Happened and Why"


Commentary on "The Monetary Policy Debate Since October 1979: Lessons for Theory and Practice"

Panel Discussion I: What Have We Learned Since October 1979?

Panel Discussion II: Safeguarding Good Policy Practice


The following reflections for this conference issue, which appear without editorial changes to content, are essays and historical overviews, as well as personal accounts written by policymakers and Federal Reserve officials who were in office around the time of the October 6, 1979, monetary policy action.

Personal Recollections

Reflection on the FOMC Meeting of October 6, 1979

Reflections on October 6, 1979, and Its Aftermath

What Remains from the Volcker Experiment?

The Changing Role of the Federal Reserve



MARCH/APRIL 2005 Vol. 87, No. 2, Part 1

Communication, Transparency, Accountability: Monetary Policy in the Twenty-First Century

This article is a revised English translation of the Thünen Lecture, given at the Annual Congress of the Verein für Socialpolitik, September 29, 2004, in Dresden, Germany.

GSE Risks

This article was originally presented as a speech to the St. Louis Society of Financial Analysts, St. Louis, Missouri, January 13, 2005.

The FOMC: Preferences, Voting, and Consensus

In this paper, the author develops and uses an original dataset collected from the internal discussion of the Federal Reserve’s monetary policy committee (the Federal Open Market Committee [FOMC] transcripts) to examine questions about the Committee’s behavior. The data show that Chairman Alan Greenspan’s proposals, after Committee discussion, were nearly always adopted unmodified in the formal vote. Despite the external appearance of consensus with little disagreement over decisions and an official dissent rate of 7.5 percent, the data reveal that the rate of disagreement in internal Committee discussions was quite high—on the order of 30 percent for discussions of the short-term interest rate. And, under the assumption that FOMC voters assigned a higher priority to their preferences for the short-term interest rate than for the bias in the policy directive, it can be shown that this bias was important for achieving consensus, which supports and extends the results of Thornton and Wheelock (2000). Thus, the novel dataset described in this paper helps to shed some light on the internal workings of the FOMC in the Greenspan years.

Social Security versus Private Retirement Accounts: A Historical Analysis

This paper compares Social Security benefits relative to those paid from private investments: specifically, whether 2003 retirees would gain more retirement income if they had invested their payroll taxes in private accounts during their working years. Three different retirement ages and four possible earnings levels are considered for two private investments—6-month CDs or the S&P 500. On average, the results suggest less than 5 percent of current retirees would receive a higher monthly benefit with Social Security. Several Social Security reform proposals are described.

Does Consumer Sentiment Predict Regional Consumption?

This paper tests the ability of consumer sentiment to predict retail spending at the state level. The results here suggest that, although there is a significant relationship between consumer sentiment measures and retail sales growth in several states, consumer sentiment exhibits only modest predictive power for future changes in retail spending. Measures of consumer sentiment, however, contain additional explanatory power beyond the information available in other indicators. By restricting attention to fluctuations in retail sales that occur at the business cycle frequency, the authors uncover a significant relationship between consumer sentiment and retail sales growth in many additional states. In light of these results, the authors conclude that the practical value of sentiment indices to forecast consumer spending at the state level is, at best, limited.


JANUARY/FEBRUARY 2005 Vol. 87, No. 1

FOMC Transparency

This article was originally presented as a speech at the Ozark Chapter of the Society of Financial Service Professionals, Springfield, Missouri, October 6, 2004.

The Diffusion of Electronic Business in the United States

The authors provide a recent account of the diffusion of electronic business in the U.S. economy using new data from the U.S. Bureau of the Census. They document the extent of the diffusion in three main sectors of the economy: retail, services, and manufacturing. For manufacturing, they also analyze plants’ patterns of adoption of several Internet-based processes and conclude with a look at the future of the Internet’s diffusion and a prospect for further data collection by the U.S. Census Bureau.

Stock Return and Interest Rate Risk at Fannie Mae and Freddie Mac

Fannie Mae and Freddie Mac are government-sponsored enterprises (GSEs) with the stated objective of promoting home ownership by improving the availability of mortgage financing for private households. These enterprises engage in two separate and distinct lines of business: (i) assembling and marketing pools of mortgages on which they guarantee the timely payments of principal and interest and (ii) purchasing mortgage assets for their own portfolio, mostly funded with debt securities. This article examines the sensitivity of the returns on GSEs’ equity shares to realizations of interest rate risk. The study shows that the market value of Fannie Mae’s and Freddie Mac’s equity is vulnerable to increases in short-term interest rates and changes in the term spread (the difference between the long-term and short-term interest rates).

Controlling for Heterogeneity in Gravity Models of Trade and Integration

This paper compares various specifications of the gravity model of trade as nested versions of a general specification that uses bilateral country-pair fixed effects to control for heterogeneity. For each specification, we show that the atheoretical restrictions used to obtain them from the general model are not supported statistically. Because the gravity model has become the “workhorse” baseline model for estimating the effects of international integration, this has important empirical implications. In particular, we show that, unless heterogeneity is accounted for correctly, gravity models can greatly overestimate the effects of integration on the volume of trade.


Subscribers: Our Review policy has changed. Use the Subscription Renewal Form to submit a request to continue your print subscription to Review.

Email changes in your subscription information to

Subscribe to our newsletter

Follow us

Twitter logo Google Plus logo Facebook logo YouTube logo LinkedIn logo
Back to Top