The Simple Analytics of Assets' Values and Infrequent Policy Changes

24 Pages Posted: 11 Nov 2008

See all articles by Pierluigi Balduzzi

Pierluigi Balduzzi

Boston College - Carroll School of Management

Giancarlo Corsetti

European University Institute; University of Cambridge; Centre for Economic Policy Research (CEPR)

Silverio Foresi

Goldman Sachs Group, Inc. - Quantitative Strategy Group

Date Written: August 1994

Abstract

This paper studies the effects on financial markets of an anticipated fiscal stabilization policy in a stochastic environment. Stabilization is defined as a discrete change in the budget process which is implemented when government consumption reaches some threshold level, known by economic agents. Our analysis integrates the study of financial markets within the framework adopted by Bertola and Drazen (1993) to explain the effects of private consumption of an anticipated fiscal retrenchment, such as the fiscal reform implemented in Denmark in 1983. The actual behavior of Danish financial markets points in the direction of two interesting features of the policy change. First, in a model intertemporal consumption smoothing, one can replicate the observed boom in the stock market only with expectations of an increase in net income to stock-holders. The term-structure evidence on the other hand, is consistent with less than full credibility of the retrenchment, that is with investors attaching some probability to a further expansion of the government sector.

Keywords: fiscal retrenchments, government spending, policy regime, stock prices, term structure of interst rates, trigger point

Suggested Citation

Balduzzi, Pierluigi and Corsetti, Giancarlo and Foresi, Silverio, The Simple Analytics of Assets' Values and Infrequent Policy Changes (August 1994). NYU Working Paper No. FIN-94-010, Available at SSRN: https://ssrn.com/abstract=1298813

Pierluigi Balduzzi (Contact Author)

Boston College - Carroll School of Management ( email )

Department of Finance
140 Commonwealth Avenue - Fulton Hall 438
Chestnut Hill, MA 02467
United States
617-552-3976 (Phone)
617-552-0431 (Fax)

HOME PAGE: http://www.bc.edu/bc_org/avp/csom/faculty/

Giancarlo Corsetti

European University Institute ( email )

University of Cambridge ( email )

Centre for Economic Policy Research (CEPR)

London
United Kingdom

Silverio Foresi

Goldman Sachs Group, Inc. - Quantitative Strategy Group ( email )

32 Old Slip, 24th Floor
New York, NY 10005
United States
(212) 357-3508 (Phone)

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