the long run relationship between productivity and capital abstract using panel cointegration techniques we show a cointegrating relationship exists between capital and productivity in 446 manufacturing industries panel dols and fmols estimates reveal that innovations to productivity increase and granger cause capital movements

debt futures and options optimal price linked financial contracts under moral hazard and limited liability this paper characterizes the optimal financial contract between a risk neutral entrepreneur and risk neutral lender investors when the entrepreneur has limited liability there is moral hazard and the investor payoff function can depend on both output and output price but is nondecreasing in output in this setting the optimal contract is a price contingent commodity bond that can be replicated by combining pure debt commodity futures and commodity call option contracts although a pure commodity bond contract is sometimes optimal a pure debt contract is almost never optimal various properties of the entrepreneur s optimal price contingent promised payment are described copyright 1993 by economics department of the university of pennsylvania and the osaka university institute of social and economic research association

limited liability and incentive contracting with ex ante action choices abstract this article examines a principal agent model of financial contracting in which a risk neutral entrepreneur agent makes an unobservable ex ante effort choice while employing the investment funds of a risk neutral investor principal the key innovation is that the investment contract is subject to statutory liability limits given these liability limits two settings are considered one in which the investor payoff function is also constrained to be monotonically nondecreasing in firm profit and another in which no such monotonic contract constraint is imposed in the former case a standard debt contract is shown to emerge and a first best effort choice is not achieved in the latter setting the optimum is characterized by a live or die payoff function and a first best effort level may or may not be realized

crises food prices and the income elasticity of micronutrients estimates from indonesia the 2008 global food price crisis and more recent food price spikes have led to a greater focus on policies and programs to cushion the effects of such shocks on poverty and malnutrition analysis of the income elasticities of micronutrients and their changes during food price crises can shed light on the potential effectiveness of cash transfer and nutrition supplement programs this article examines these issues using data from two cross sectional household surveys in indonesia taken before 1996 and soon after 1999 the 1997 98 economic crisis which led to a sharp increase in food prices first using nonparametric and regression methods the article examines how the income elasticity of calories from starchy staples as a share of total calories differs between the two survey rounds second the article estimates income elasticities of important nutrients in indonesia the analysis finds that although summary measures such as the income elasticity of the starchy staple ratio might not change during crises this stability masks important differences across individual nutrients in particular income elasticities of some key micronutrients such as iron calcium and vitamin b1 are significantly higher in a crisis year than in a normal year yet the income elasticities of others such as vitamin c remain close to zero these results suggest that cash transfer programs might be even more effective during crises to ensure the consumption of essential micronutrients but to ensure that all key micronutrients are consumed nutrition supplement programs are also likely required jel classification codes i12 o12 d12 e31 keywords income elasticity crisis prices micronutrients vitamin c starchy staple ratio

more evidence on nutrition demand income seems overrated and women s schooling underemphasized abstract malnutrition is widespread in the developing world controversy continues concerning the roles of income household size and women s schooling on nutrient demand empirical estimates for nicaragua suggest that income elasticities are small and inversely associated with income levels there are some economies of scale in household size the elasticity for women s schooling is higher than those for income or household size and women s backgrounds are important the results cast doubt on the strong emphasis the world bank and others have placed on income and suggest that schooling may be working through tastes not only through productivity

inflation financial markets and long run real activity abstract empirical evidence suggests that real activity the volume of bank lending activity and the volume of trading in equity markets are strongly positively correlated at the same time inflation and financial market activity are strongly negatively correlated in the long run as are inflation and the real rate of return on equity inflation and real activity are also negatively correlated in the long run particularly for economies with relatively high rates of inflation we present a monetary growth model in which banks and secondary capital markets play a crucial allocative function we show that at least under certain configurations of parameters the predictions of the model are consistent with these and several other observations about inflation finance and long run real activity

composition of household income and child nutrition outcomes evidence from uganda summary this study targets the empirical space between cross country analyses exploring links between income and nutrition without insights on micro level determinants and relevant microeconomic studies hindered by small sample size and or incomplete data we use the rural samples of the three waves of the uganda national panel survey and estimate panel regressions of child height for age z scores haz controlling for time invariant child level heterogeneity on the whole we find no impact of short term changes in total gross income on haz but document small positive correlations for younger children sector differentiated analyses indicate that compared to wage earnings only share of income from non farm self employment correlates positively with haz within agriculture shares of income from consumption of own crop production and from low protein crop production underlie the negative effect of share of income from crop production while we cannot claim causal relationships our findings suggest the possibility of stickiness of crop production to own consumption

overcoming information asymmetries in low income lending lessons from the working wheels program without access to transportation the welfare to work transition is nearly impossible yet little is known about the effectiveness of programs designed to improve credit access since 1998 vermont s tanf funds have provided automobile loans through the working wheels program we use microlevel data from this program to explore how to cost effectively provide loans to clients who cannot obtain affordable loans elsewhere our results verify the importance of relationship lending particularly among those without documented credit histories in the presence of information asymmetries about credit history our results justify the increased trust placed in clients with whom the bank has a stronger relationship such clients ceteris paribus are less likely to default we conclude that in the current climate of welfare reform policymakers should consider programs that encourage welfare recipients to establish and maintain relationships with financial institutions in order to facilitate access to credit and minimize the risk of default

tests for parameter instability in regressions with i 1 processes this article derives the large sample distributions of lagrange multiplier lm tests for parameter instability against several alternatives of interest in the context of cointegrated regression models the fully modified estimator of phillips and hansen is extended to cover general models with stochastic and deterministic trends the test statistics considered include the supf test of quandt as well as the lm tests of nyblom and of nabeya and tanaka it is found that the asymptotic distributions depend on the nature of the regressor processes that is if the regressors are stochastic or deterministic trends the distributions are noticeably different from the distributions when the data are weakly dependent it is also found that the lack of cointegration is a special case of the alternative hypothesis considered an unstable intercept so the tests proposed here may also be viewed as a test of the null of cointegration against the alternative of no cointegration the tests are applied to three data se

financial development and reserve requirements abstract many countries have either eliminated or considerably reduced reserve requirements during the last decade this paper derives the optimal reserve requirements of a simple economy with production and financial intermediation subject to costly state verification and shows that one motivation for the widely observed reduction in the level of mandatory reserves is linked to the process of financial markets development

symmetrical information and credit rationing graphical demonstrations as this article shows the pro debtor u s bankruptcy code alone can cause credit rationing even without asymmetrical information in the market because the code entails substantial costs to lenders if borrowers file for bankruptcy in the absence of bankruptcy cost lenders are always justified in raising interest rates and clearing markets if the bankruptcy cost is nontrivial however lenders profits are concave in the relevant range of interest rates thus lenders cannot always clear the market by using higher rates the study reported here also found that the use of collateral in debt contracts can reduce rationing but that even 100 percent collateral does not eliminate all rationing possibilities a positive relationship was found between credit risk and the amount of pledged collateral which is not necessarily true with models based on asymmetrical information

bank lending policy credit scoring and the survival of loans to evaluate loan applicants banks increasingly use credit scoring models the objective of such models typically is to minimize default rates or the number of incorrectly classified loans thereby they fail to take into account that loans are multiperiod contracts for which reason it is important for banks not only to know if but also when a loan will default in this paper a bivariate tobit model with a variable censoring threshold and sample selection effects is estimated for 1 the decision to provide a loan or not and 2 the survival time of granted loans the model proves to be an effective tool to separate applicants with short and with long survival times the bank s loan provision process is shown to be inefficient loans are granted in a way that conflicts with both default risk minimization and survival time maximization there is thus no trade off between higher default risk and higher return in the lending policy

china s uneven progress against poverty while the incidence of extreme poverty in china fell dramatically over 1980 2001 progress was uneven over time and across provinces rural areas accounted for the bulk of the gains to the poor though migration to urban areas helped the pattern of growth mattered rural economic growth was far more important to national poverty reduction than urban economic growth agriculture played a far more important role than the secondary or tertiary sources of gross domestic product gdp rising inequality within the rural sector greatly slowed poverty reduction provinces starting with relatively high inequality saw slower progress against poverty due both to lower growth and a lower growth elasticity of poverty reduction taxation of farmers and inflation hurt the poor external trade had little short term impact

how good are standard debt contracts stochastic versus nonstochastic monitoring in a costly state verification environment the authors investigate ex ante efficient contracts in an environment in which implementation is costless in this environment standard debt contracts will typically not be optimal optimal contracts may involve defaults even in states in which the borrower is fully able to repay the authors then examine the welfare costs of arbitrarily restricting the set of feasible contracts to standard debt contracts when model parameters are calibrated to realistic values the welfare loss from exogenously imposing this restriction is extremely small thus if implementation costs are actually nontrivial as seems likely standard debt contracts will be very close to optimal copyright 1994 by university of chicago press

credit rationing and the demand for owner occupied housing abstract this study applies cross sectional data to test whether default risk induced credit constraints affect the demand for owner occupied housing credit constrained households are argued to exhibit different elasticities of demand for housing than less constrained households housing demand elasticities are then estimated separately for households obtaining va insured and non va loans the government guarantee on va loans insures lenders against default enabling lenders to apply easier nonprice terms of credit results indicate that observed demand elasticities differ significantly across va and conventional mortgage holders that marginal changes in credit constraints affect housing demand and that fha financing mitigates the effect of mortgage constraints

loan repayment performance in community development finance institutions in the uk this paper identifies the key institutional factors that influence loan loss rates in community development finance institutions in the uk traditional bank credit assessment puts the blame of poor loan performance largely on the borrower this is the first study of its kind to examine institutional characteristics of 16 cdfis in the uk and assess their influence on the loan loss rates the results show that 8 out of the 13 institutional characteristics examined significantly influence loan repayment performance although a vast body of literature supports the view that borrower characteristics are highly influential our results provide strong evidence to show that institutional characteristics are equally important and both factors need to be taken into account if loan repayment performance is to be improved

rent seeking bureaucracies and oversight in a simple growth model abstract following recent cross country empirical work research on public policy and growth has come to examine the impact of inefficient or corrupt bureaucracies most of this work has emphasized the interactions of bureaucracies with private markets by contrast this paper focuses on the relationship between rent seeking bureaucracies and their political authority we show that when oversight is relatively costly as in many developing economies the political authority exercises little monitoring of its agencies which reduces the effectiveness of productive government spending moreover when the technology used to provide public services is poor bureaus better succeed in requesting overly large budgets before triggering any monitoring both of these characteristics contribute to reducing the growth rate of already poor economies

imperfect information and the theory of government intervention in farm credit markets this paper describes some possible economic motivations for government intervention in farm credit markets these motivations are made possible by explicit departures from the perfect information and complete market assumptions that underlie both the neoclassical competitive paradigm and the fundamental theorems of welfare economics to be more precise the analysis focuses on three types of asymmetric information between farmers and prospective outside investors both of whom are assumed to be risk neutral arguably the three informational asymmetries examined here represent natural departures from perfect markets in that unlike the unencumbered neoclassical model each elicits farmers optimal use of debt contracts rather than equity instruments or other contractual forms to raise investment capital despite their consistency with observed contractual choices all three of the models analyzed below yield free market equilibria that diverge from first best perfect information outcomes given the inefficiency of these market equilibria the key question raised and discussed here is can government improve upon the derived competitive outcomes and if so how despite the enormity of the credit rationing literature only a few extant studies address this question in models that are consistent with debt contracts among them are demeza and webb 1987 1988 1989 and innes 1988 which focus on the third type of informational asymmetry considered below the other two information structures posited in this paper have been studied in several analyses of credit markets but with attention focused on positive attributes of the unfettered competitive equilibrium rather than on prospective implications for welfare enhancing government intervention in what follows th s literature is surveyed and for the first two information structures some new policy results a e presented a critical discussion of the paper s limitations concludes the article

asymmetric information in the credit market and discount rates for public investment abstract with asymmetric information in the credit market the optimal discount rate for public investment differs from the market interest rate this paper obtains the optimal discount rate for the two state case where returns on private projects can take only two values depending on the magnitudes of collateral costs screening through collateral requirements may or may not occur it is shown that the optimal discount rate is higher than the market interest rate in either case

a theory of corporate capital structure and investment this article uses a general equilibrium framework to explore the origins and limitations of financial intermediaries in the model investors have a generic lending technology that they can improve at a cost those who upgrade become intermediaries to exploit their advantage however conflicts with depositors will limit the banks market presence and they will only lend to moderately endowed firms while bondholders will finance cash rich corporations the article also analyzes the extent to which investors adopt the superior lending technique the nature of bank competition and how corporate and bank conditions affect interest rates and investment copyright 2004 oxford university press

the availability doctrine abstract this paper develops a general equilibrium model in which monetary disturbances have effects reminiscent of roosa s classic description of the availability doctrine the model is a marriage of the modern credit rationing literature and the recent sluggish cash flow models of monetary transmission both elements are crucial the credit rationing aspect leads to a focus upon the quantity or availability of credit however the rationing model in and of itself is a real model and there is no reason for fluctuations in the nominal quantity of fiat money to have any effect on the availability of real credit this is where the sluggish cash flow assumption enters into the analysis under this assumption changes in the nominal supply of fiat money do affect the real supply of credit because a subset of the economy absorbs a disproportionate share of the monetary injection

monetary policy bank leverage and financial stability abstract this paper shows that with limited liability banks lever up excessively to finance new loans lower monetary policy rates can worsen or reduce these incentives depending on the size of the shock when equity financing is ruled out when this constrained is relaxed but the bank faces costly dividend adjustment lower monetary policy rates always worsen risk taking incentives and the effect is persistent the reason is that costly dividend adjustment lowers the opportunity cost of lending in this model capital requirements are closer to the source of the distortion and thus work better than loan to value caps in reducing excessive risk taking

credit rationing concessionary lending and debt maturity abstract a firm raises capital for a two period investment while creditors observe the project status midstream unobservable managerial perks may consume capital each period when the firm is unfortunate early on short term financing results in either concessionary lending or costly liquidation rolling over short term debt may be problematic because the high risk premium creditors demand when asset value is low relative to debt impares managerial motivation precisely when the incentive to defer perk consumption is weakest long term financing may reduce total agency costs be enabling lenders to charge higher initial premia in effect shifting loan repayments to states in which incentive constraints are non binding

moral hazard under commercial and universal banking many claims have been made about the potential benefits and the potential costs of adopting a system of universal banlcing in the united states we evaluate these claims using a model where there is a moral hazard problem between banks and borrowers a moral hazard problem between banks and a deposit insurer and a costly state verification problem under conditions we describe allowing banks to take equity positions in firms strengthens their ability to extract surplus and exacerbates problems of moral hazard the incentives of universal banks to take equity positions will often be strongest when these problems are most severe for many decades commercial banks in the united states have been prohibited from making equity investments in the firms they serve rather they are restricted to providing them with loans in the form essentially of debt contracts this longstanding regulatory restriction1 results in distinctly different roles for bank lenders and equity investors and has had important implications for the entire financial sector the american system of commercial banking presents a sharp contrast with the banking systems of some other countries most notably germany in which banks are permitted to take equity positions under such universal banking arrangements banks can make equity investments as well as loans vote their equity shares and even hold seats on the boards of directors of nonfinancial firms in general they can be actively involved in all aspects of firm decision malqing in germany the control rights the authors have benefitted from the helpful comments of doug diamond joe haubrich ross levine stan longhofer joao santos and an anonymous referee the views expressed herein are those of the authors and not necessarily those of the federal reserve bank of minneapolis or the federal reserve system 1 the key legislation which constrains u s banks equity investments is the glass steagall act of 1933 however a number of other laws also pertain to this issue particularly the bank holding company act of 1956 and its 1970 amendments incidentally there are some important exceptions to the equity investment prohibition in default situations banks are perrnitted to restructure loans into equity positions with the requirement of divestiture after a few years see james 1993 also bank holding companies are permitted to form separately capitalized venture capital subsidiaries for the expressed purpose of investing in start up enterprises john h boyd is a professor of finance in the carlson school of management at the university of minnesota and an adjunct consultant with the federal reserve bank of minneapolis chun chang is an associate professor of finance in the carlson school of management at the university of minnesota bruce d smith is a professor of economics at the university of texas ataustin

mortgage lending in boston interpreting hmda data the home mortgage disclosure act was enacted to monitor minority and low income access to the mortgage market the data collected for this purpose show that minorities are more than twice as likely to be denied a mortgage as whites yet variables correlated with both race and creditworthiness were omitted from these data making any conclusion about race s role in mortgage lending impossible the federal reserve bank of boston collected additional variables important to the mortgage lending decision and found that race continued to play an important though significantly diminished role in the decision to grant a mortgage copyright 1996 by american economic association

from institutions to financial development and growth what are the links this paper presents an integrated overview of the literature linking institutions financial development and economic growth from the large body of research on institutional development the paper first selects those contributions that make it possible to study the role of institutional arrangements in ameliorating worsening the information frictions and transaction costs that characterize the development of financial markets the paper then investigates the theoretical mechanisms by which these specific frictions affect economic growth and presents the stock of empirical evidence quantifying the impact of institutions on growth through financial development

credit rationing race and the mortgage market abstract this study applies microdata from the 1983 survey of consumer finances to evaluate the effects of borrower race and default risk in mortgage lending the empirical analysis is based on a probit model of whether borrowers obtain fha or conventional mortgages the former are fully insured and are characterized by easier downpayment constraints but are typically more expensive hence households borrowing through the fha will tend to be credit constrained in the conventional market results of the analysis indicate that variables which proxy lender concerns about default risk and cost have an important effect on the type of loan borrowers obtain empirical estimates also suggest that minority households are significantly less likely to obtain conventional financing than whites even after controlling for various proxies of default risk these results suggest that race effects in mortgage lending may persist for reasons unrelated to borrower default risk

capital requirements monetary policy and aggregate bank lending theory and empirical evidence capital requirements linked solely to credit risk are shown to increase equilibrium credit rationing and lower aggregate lending the model predicts that the bank s decision to lend will cause an abnormal runup in the borrower s stock price and that this reaction will be greater the more capital constrained the bank i provide empirical support for this prediction the model explains the recent inability of the federal reserve to stimulate bank lending by increasing the money supply i show that increasing the money supply can either raise or lower lending when capital requirements are linked only to credit risk the motivation of this article is first to examine the impact of risk based capital requirements namely those that link mandatory capital to asset ratios for banks to their loans on aggregate bank lending these requirements called the basle capital rules or bis guidelines went into effect in march 1989 for banks in the leading industrialized nations these rules initially required banks to maintain capital equal to 7 25 percent of business and most consumer loans with the requirement increasing to 8 percent by the end of 1992 secondly i wish to understand the link between monetary policy and aggregate bank credit in the presence of risk based capital requirements my curiosity is sparked in part by two recent phenomena one is the experience of the u s economy which displayed sluggish growth during 1989 93 despite a monetary policy that attempted to spur bank lending and economic activity and the other is the striking decline in loans relative to security holdings mostly government bonds in the asset portfolios of u s

empirical measurement of credit rationing in agriculture a methodological survey empirical analysis of rural credit market failure has been of key scientific and political interest in recent years the aim of this article is to give an overview of the various methods for measuring credit rationing that are employed in the literature furthermore the methods are subjected to a comparative evaluation of their specific strengths or shortcomings six approaches are distinguished measurement of loan transaction costs analysis of qualitative information collected in interviews analysis of quantitative information collected in interviews using the credit limit concept analysis of spill over effects with regard to secondary credit sources econometric household modeling and the econometric analysis of dynamic investment decisions an explicit comparison with a first best solution is impossible in the first three approaches since they essentially rely on a subjective assessment of borrowers access to credit based on qualitative or quantitative indicators the fifth and sixth approaches allow a rigorous interpretation in the framework of neoclassical equilibrium theory the fourth approach takes an intermediate position since spill over on segmented loan markets reveals a willingness to pay with regard to the supposedly less expensive but rationed primary source the approaches are fairly data demanding in general usually requiring specific data on loan transactions even so most approaches are applicable to cross sectional household data with the exception of the first all methods surveyed might plausibly be used to empirically detect credit rationing

the nature of credit market failure abstract hidden knowledge gives rise to over lending if as evidence suggests the returns distributions preferred by borrowers are also favoured by lenders even the stiglitz weiss model yields over lending when entrepreneurs are sufficiently risk averse

financial market frictions monetary policy and capital accumulation in a small open economy abstract we consider a small open economy with a costly state verification problem and binding reserve requirements the presence of these frictions leads to the existence of two steady states with credit rationing an increase in the money growth rate the world interest rate or reserve requirements raises lowers gdp in the high low activity steady state however sufficiently large increases in money growth or the world interest rate can transform the high activity steady state from a sink to a source the model also delivers prescriptions for restoring the stability of this steady state in such an eventuality journal of economic literatureclassification numbers e5 f4

peasant household behaviour with missing markets some paradoxes explained a model of peasant household behavior under varying degrees of household specific food and labor market failures is constructed to show that these structural features can explain several well known patterns of peasant response which have often been attributed to peculiar motives presumed specific to peasants the model explains sluggish response to cash crops prices and high instability in perceived food and labor scarcities the key role of manufactured consumer goods prices in stimulating peasants effort in cash crops production the effectiveness of taxation as opposed to incentives in stimulating cash crops production and the key role of technological change in food production to enhance cash crop production results are obtained analytically in the case of one market failure and by numerical simulation with more than one

information efficiency and welfare in agricultural markets information and communications technologies icts have spread rapidly in the developing world there has been considerable interest in the potential role icts particularly mobile phones have begun to play in the marketing of agricultural outputs in these countries in this article we discuss the potential impacts icts may have on welfare both in terms of potential efficiency gains via improved arbitrage and welfare transfers among agents in the supply chain via reduced informational asymmetries and market power we also review the recent empirical evidence for such effects

financial intermediation and delegated monitoring this paper develops a theory of financial intermediation based on minimizing the cost of monitoring information which is useful for resolving incentive problems between borrowers and lenders it presents a characterization of the costs of providing incentives for delegated monitoring by a financial intermediary diversification within an intermediary serves to reduce these costs even in a risk neutral economy the paper presents some more general analysis of the effect of diversification on resolving incentive problems in the environment assumed in the model debt contracts with costly bankruptcy are shown to be optimal the analysis has implications for the portfolio structure and capital structure of intermediaries

transactions costs and agricultural household supply response we develop and estimate a model of supply response when transactions costs create a situation where some producers buy others sell and others do not participate in markets we present two rationales for why producing households may have different relationships to the market proportional and fixed transactions costs using data on mexican corn producers we estimate an empirical model that allows for separate tests of the significance of both types of transactions costs revealing that both fixed and proportional transactions costs matter for the estimation the results provide consistent estimates of supply elasticity and measures of the relative importance of factors determining both proportional and fixed transactions costs

income and emission a panel data based cointegration analysis this paper presents the results of an investigation of the causality issue of incomeemission relationship based on time series econometric techniques of unit root test cointegration and related error correction model for a panel data set here the nature of causality between per capita co2 emission pcco2 and per capita gdp pcgdp has been examined using a cross country panel data set covering 88 countries for the period 1960 90 using the panel unit root test procedure of im et al 1997 ips we have found that the hypothesis of unit root i e non stationarity of the time series of pcgdp and pcco2 can not be rejected for individual country groups as both the variables are found to follow i 1 process we next have performed the panel data co integration test and finally we have estimated the ecm for these country groups for which significant income emission cointegration was obtained to explore the nature of dynamics implicit in the given panel data set our findings suggest that there is more or less a bi directional causal relationship between income pcgdp and co2 emission pcco2 for africa central america america as a whole eastern europe western europe europe as a whole and the world as a whole that means the movement of the one variable directly affects the other variable through a feedback system thus the policy makers should be cautious to make proper decision about the control of emission level

dynamic credit relationships in general equilibrium abstract we construct a general equilibrium model with private information in which borrowers and lenders enter into long term dynamic credit relationships each new generation of ex ante identical individuals is divided in equilibrium into workers and entrepreneurs workers save through financial intermediaries in the form of interest bearing deposits and supply labor to entrepreneurs in a competitive labor market entrepreneurs borrow from financial intermediaries to finance projects which produce privately observed sequences of random returns each financial intermediary holds deposits from a large number of workers and operates a portfolio of dynamic contracts with different credit positions we calibrate the model to the u s economy and find that dynamic contracting is very effective at mitigating the effects of private information moreover restricting borrowers and lenders to use static one period contracts with a costly monitoring technology has adverse effects both on the level of aggregate economic activity and on individual welfare unless monitoring costs are very small finally the optimal provision of intertemporal incentives leads to increasing consumption inequality over time within generational cohorts as in u s data

financial crises and recapitalizations we develop a dynamic stochastic general equilibrium model with financial frictions on both financial intermediaries and goods producing firms since financial intermediaries are highly leveraged we show that the welfare gains from their recapitalization in response to large but rare net worth losses are as large as those from eliminating typical business cycle fluctuations we also find that these gains are increasing in the size of the net worth loss are larger when recapitalization funds are raised from the household rather than the real sector and can be larger when lower idiosyncratic risk leads to higher leverage

agricultural commercialization impacts on income and nutrition and implications for policy abstract agricultural technology and commercialization are complementary stimulators of the rural economic growth process specialization and commercialization of farming households within a more diversified economy is part of the development process but there are concerns that the process by passes the poor this article discusses the evidence on poverty and nutritional impacts of agricultural commercialization and examines how policies can affect the outcome of the commercialization process principle driving forces of the commercialization process include a conducive macroeconomic environment non distortive trade policies and infrastructure development as well as a legal and contractual environment in which farmers and processors may operate efficiently policies related to these driving forces will very much influence the nature and speed of the agricultural commercialization process these in turn will largely determine the impacts of the process on farm household income and nutritional status

the beliefs of borrowers and lenders and investment decisions abstract this paper examines the role of beliefs in the determination of equilibrium in a standard model of credit markets and investment project choice with asymmetric information it is shown that with ex ante asymmetric information the beliefs of entrepreneurs are important for the equilibrium level of aggregate investment and with ex post asymmetric information the beliefs of creditors are important for the types of projects selected by entrepreneurs

adverse selection and moral hazard effects in the mortgage market an empirical analysis with imperfect information prices may have sorting and incentive effects that confound the received theory of market behavior these effects are more likely to be observed in situations where transactions extend over a lengthy period of time as in credit and labor markets hence one may observe equilibrium credit rationing or equilibrium unemployment in labor markets even though these markets are competitive and free of government regulation 7 8 in credit markets higher interest rates may adversely sort good credit risks from bad credit risks similarly higher interest rates may induce borrowers to invest in riskier projects and not to exercise due diligence in the minimization of risks moral hazard either the adverse selection or the moral hazard effects can lead to a reduction in expected profits as the interest rate rises the supply of loanable funds is an increasing function of expected profits if expected profits decline over some interval of rising interest rates then the supply of loanable funds will be concave and backward bending with regard to interest rates over that interval stiglitz and weiss identify the interest rate at which the supply function bends backward as the bank optimal interest rate 8 394 the purpose of this paper is to test the empirical implications drawn from the growing adverse selection and moral hazard literature in the home mortgage market a recent citation search reveals that the stiglitz and weiss 8 paper has been cited over one hundred and fifty times in the last nine years in his survey of the literature stiglitz notes that most of this derivative literature is theoretical and that the models have not been the subject of extensive empirical testing 7 42 the paper is organized as follows in section ii we review the adverse selection and moral hazard literature consider the characteristics peculiar to the mortgage market and identify the empirical implications section iii gives our estimates for the empirical model of the mortgage market among other results we find that mortgage supply is a concave function of the rate of

costly monitoring loan contracts and equilibrium credit rationing this paper develops a model with asymmetrically informed agents and costly monitoring of loan contracts where an equilibrium can exhibit credit rationing borrowers are identical ex ante but some receive loans and others do not in contrast to existing credit rationing theories rationing does not occur here due to inflexible prices adverse selection or moral hazard optimizing behaviour produces a standard debt contract in equilibrium the aggregate quantity of loans and equilibrium interest rates respond differently depending on whether there is rationing in equilibrium

mortgage lending to minorities where s the bias this paper examines mortgage lending and concludes that studies based on data created by the boston fed should be reevaluated a detailed examination of these data indicates that irregularities in these data when combined with the most commonly used research methodology appear to have biased previous research toward a finding of discrimination against minority applicants when the most severe data irregularities are eliminated evidence to support a hypothesis of discrimination disappears the currently fashionable flexible underwriting standards of mortgage lenders may have the unintended consequences of increasing defaults for the beneficiaries of these policies

financial structure and aggregate economic activity an overview this paper surveys literature that explores the possible links between the financial system and aggregate economic behavior the survey is in two parts the first reviews the traditional work and the second discusses new research copyright 1988 by ohio state university press

a reexamination of credit rationing in the stiglitz and weiss model we reexamine stiglitz and weiss 1981 credit rationing by simultaneously considering adverse selection and moral hazard if returns of the projects are ranked by first order stochastic dominance neither adverse selection nor moral hazard exists if the projects have equalized expected returns moral hazard does not exist and credit rationing due to adverse selection occurs under extreme conditions if the projects are ranked by second order stochastic dominance ssd adverse selection and moral hazard may coexist logically restoring credit rationing but ssd imposes strict limitations on lenders ability to classify borrowers in general our results do not support significance of credit rationing

liquidity provision interest rates and unemployment abstract the effective liquidity supply of the economy the weighted sum of all assets that serve as media of exchange matters for interest rates and unemployment we formalize this idea by adding an over the counter market with collateralized trades to the mortensen pissarides model an increase in public liquidity through a higher supply of real government bonds raises the real interest rate crowding out private liquidity and increasing unemployment if unemployment is inefficiently high keeping liquidity scarce can be socially optimal a liquidity crisis affecting the acceptability of private assets as collateral widens the rate of return difference between private and public liquidity also increasing unemployment

agricultural commercialization and diversification processes and policies abstract agricultural commercialization and diversification involve the gradual replacement of integrated farming systems by specialized enterprises for crop livestock poultry and aquaculture products changes in product mix and input uses are determined largely by the market forces during this transition commercialization of agricultural production is an endogenous process and is accompanied by economic growth urbanization and withdrawal of labor from the agricultural sector this paper provides a selective overview and synthesis of the issues involved in the commercialization and diversification process of agriculture drawing in significant part from the papers in this volume based on an assessment of the process observed in selected countries we show that the commercialization process should not be expected to be a frictionless process and significant equity and environmental consequences may occur at least in the short to medium term particularly when inappropriate policies are followed however we highlight that appropriate government policies including investment in rural infrastructure and crop improvement research and extension establishment of secure rights to land and water and development and liberalization of capital markets can help alleviate many of the possible adverse transitional consequences

the macroeconomic implications of financial deregulation abstract this paper explores the possible macroeconomic consequences of financial deregulation in an institutional environment where deregulation raises risks in banking the central bank is supposed to maximize an objective function in which the probability of bank failure is an argument it is then shown that the usual tradeoffs between policy objectives imply that financial deregulation will lead to more interest rate smoothing than would otherwise take place and further that because of restricted entry into banking deregulation will call for some inflation the transition toward deregulation raises special problems which are likely to require a more gradual approach toward the stationary equilibrium

moneylenders and bankers price increasing subsidies in a monopolistically competitive market abstract in many areas of the world a significant part of the cost of obtaining a good or service is the cost of enforcing the contracts entailed in its provision we present models of markets with endogenous enforcement costs motivated by studies of rural credit markets we show that subsidies may have perverse effects under monopolistic competition increasing prices or inducing exit higher prices interest rates result from the loss of scale economies or from negative externalities among suppliers the models are consistent with the puzzling evidence that infusions of government subsidized formal credit have not improved the terms offered by moneylenders

optimal contracts under costly state falsification we examine an exchange economy with two agents one risk neutral with a certain endowment and a second risk averse with a random endowment the realization of the endowment is public but can be falsified by the second agent at a cost for a broad class of falsification cost functions the optimal no falsification contract is noncontingent on a left hand interval and strictly increasing with a slope strictly less than one on a right hand interval under a mild further restriction optimal no falsification contracts are in addition piece wise linear optimal contracts may in general require falsifying the state but for a set of the highest endowment realizations there is no falsification we find simple conditions under which the optimal contract is a no falsification contract the model has applications that include financial insurance and employment contracts and tax policy

developmental drivers of nutritional change a cross country analysis summary we utilize a rich cross country data set to understand within country changes in nutrition with a focus on the role of general developmental factors we find that economic growth is a strong predictor of nutritional performance as is growth in food production although only in more food insecure countries we find no evidence that infrastructure is directly important but greater asset ownership improved access to health services higher rates of female secondary education and lower fertility rates are all strong predictors of improvements in nutrition we show that national success stories are largely consistent with these findings

should courts enforce credit contracts strictly the intimate linkages between law and nance are currently the centre of wide rangingempirical investigations this article presents a simple banking model with informationasymmetries concerning borrowers entrepreneurial talent it is shown that improvements inthe enforcement of contract by courts reduce agency problems but can also reduce the bank sincentive to screen borrowers adequately thus worsening credit allocation a stricterenforcement of credit contracts therefore may be socially harmful even if costlessly achieved improvements in accounting standards however always make bank screening of borrowers lesscostly and improve credit allocation and social welfare

investment and government intervention in credit markets when there is asymmetric information abstract this paper models private firm investment choices and government credit policy in an entrepreneurial firm financial market wherein firm owners have better information about the quality of their return distributions than do external financiers the analysis shows that despite the absence of an informational advantage the government can often increase social welfare by offering subsidized debt contracts however the paper also finds that some common credit subsidy policies including loan guarantees and government backing of targeted lending institutions yield constrained inefficient outcomes in general

the composition of growth matters for poverty alleviation this paper contributes to explain the cross country heterogeneity of the poverty response to changes in economic growth it does so by focusing on the structure of output growth the paper presents a two sector theoretical model that clarifies the mechanism through which the sectoral composition of growth and associated labor intensity can affect workers wages and thus poverty alleviation then it presents cross country empirical evidence that analyzes first the differential poverty reducing impact of sectoral growth at various levels of disaggregation and the role of unskilled labor intensity in such differential impact the paper finds evidence that not only the size of economic growth but also its composition matters for poverty alleviation with the largest contributions from labor intensive sectors such as agriculture construction and manufacturing the results are robust to the influence of outliers alternative explanations and various poverty measures

monetary policy in a dollarized economy where balance sheets matter abstract does the dollarization of liabilites and the resulting balance sheet vulnerability prevent monetary policy from serving its conventional countercyclical role we study this question in a model of a small open economy in which domestic firms face an imperfect capital market with risk premia depending on net worth as in bernanke and gertler am econ rev 79 1989 14 in spite of the financial fragility channels present in the model the conventional wisdom still holds under a floating exchange rate countercyclical monetary policy does help cushion the impact of foreign real shocks

the growth effects of property rights the role of finance summary using a variety of statistical approaches we show that the relationship between property rights and growth is nonlinear stronger enforcement of property rights raises growth up to a point before growth begins to decline we provide a simple theoretical rationale for this conclusion using a model with informational asymmetries in the financial sector stronger property rights have two opposing effects on the one hand it increases capital formation and growth on the other hand it encourages bad borrowing practices thus there exists an optimal level of property rights which maximizes growth however as financial markets mature the negative effects associated with stronger property rights become weaker

loan performance and race r carter hill recent studies find evidence of racial discrimination in mortgage markets although these studies explore loan approval rates for whites versus minorities they do not specifically consider loan performance either in the form of default rates or loan administration costs this study considers discrimination in the used car credit market where the collateral is not subject to location externalities collateral value and quality do not vary as much as in real estate and the loan terms are shorter we find administration costs and default rates are higher for minorities than for whites controlling for age income home ownership wealth occupation loan terms and geographic location jel k2 i introduction credit discrimination occurs whenever minorities are denied credit on the basis of race or are offered loans at terms different than the terms offered similarly situated whites 1 economists identify two types of discrimination preference taste based discrimination and information statistical based discrimination 2 the legal definition of discrimination makes no such distinction in their statistical studies munnell brown mceneaney and tootell 1996 carr and megbolugbe 1994 and gabriel and rosenthal 1991 find evidence of discrimination whereas most economic theorists such as becker 1993 and commentators such as brimelow 1993 and brimelow and spencer 1993 argue competition will greatly reduce if not eliminate discrimination in section iii we demonstrate why under regulation statistical discrimination may increase with increasing competition this anomalous result occurs because the legal definition does not distinguish between the two types of discrimination some economists implicitly assume credit markets are unregulated when considering the effect of competition on discrimination antidiscrimination regulation changes the effect of competition in unregulated markets taste based discrimination is unprofitable and increasing competition will reduce this form of discrimination if the industry s employees or white borrowers have a taste for discrimination competition will not necessarily eliminate taste based discrimination when regulation is binding and the economic foundation for statistical discrimination exists discrimination is profitable and increasing competition may increase discrimination the effect of regulation and competition on discrimination depends critically on the information basis for discrimination the relationship between loan performance and race therefore the appropriate empirical question is does a statistical basis for discrimination exist this question cannot be answered by loan approval studies rather it must be addressed by evaluating how loans perform after they are approved further the appropriate public policy issue is should society regulate statistical discrimination this article is an empirical inquiry into the relationship between race and loan performance we measure loan performance by estimating the same marginal default rates that lenders use to score credit applications and by the variables that have the most impact on loan administration costs we find that race matters regrettably in the fashion suggested by stereotypes in general minorities have higher default rates and contribute to higher administration costs in other words the foundation for statistical discrimination appears to exist section ii contains a review of the extant literature a theoretical model of credit scoring with both taste and statistical discrimination is contained in section iii the data are discussed in section iv and the empirical models are presented in section v ii literature as in arrow 1973 and becker 1957 an individual is said to have a preference or taste for discrimination if he is willing to pay a price or forgo income in order to practice discrimination

on the possibility of credit rationing in the stiglitz weiss model contrary to what is consistently assumed in the literature the return function cannot be hump shaped in the stiglitz weiss 1981 model this has important consequences for the possible occurrence of credit rationing and redlining with a single class of borrowers banks offer credit in two stages demand possibly exceeds supply in stage one but not in stage two with several observationally distinguishable borrower classes the firms in a borrower class are redlined only under circumstances which imply that they would not get credit in a perfect capital market either die rendite funktion kann im stiglitz weiss 1981 modell nicht so wie das in der literatur durchgangig angenommen wird hugelformig sein das hat wichtige implikationen fur die moglichkeit von kreditrationierung einerseits und fur die moglichkeit des ausschlusses ganzer kreditnehmergruppen vom kapitalmarkt andererseits mit nur einer klasse von kreditnehmern erfolgt die kreditvergabe in zwei stufen wahrend auf der ersten stufe eine ubernachfrage vorliegen kann herrscht auf der zweiten stufe marktraumung bei mehreren unterscheidbaren kreditnehmerklassen wird eine klasse nur unter den bedingungen vom kreditmarkt ausgeschlossen bei deren vorliegen sie auch in einem vollkommenen kreditmarkt keinen kredit erhalten wurde

equilibrium lending mechanism and aggregate activity we construct a model of the credit market where financial contracting is subject to costly state verification and moral hazrd the economy s aggregate activity and its equilibrium lending mechanism are determined jointly we analyze how changes in the model s exogenous variables including the returns of the economy s investment projects and the supply of loans aect the economy s aggregate output and the types of the credit through which investment is funded

long run implications of investment specific technological change an attempt is made to disentangle its effects from the more traditional hicksneutral form of technological progress the balanced growth path for the model is characterized and calibrated to u s national income and product account nipa data the quantitative analysis suggests that investment specific technological change accounts for the major part of growth jel e13 030 041 047

mortgage lending in boston a reconsideration of the evidence i introduction discrimination in the marketplace is often measured using statistical methods in order for the results to be interpretable as some form of discrimination it is necessary that these methods be firmly based on economic theories as to how these markets function the reason for this is that it is easy to confuse voluntary acts of segregation from involuntary acts of discrimination by the simple examination of statistical entrails the former is presumably acceptable to society whereas the latter is not any society that values its freedoms will want to ensure that a mis classification of the former as evidence of the latter is avoided claims of racial discrimination in mortgage lending provide an excellent arena to illustrate the issues that arise in statistically measuring discrimination in the united states data on mortgage applications has been collected for several years under the home mortgage disclosure act hmda these data show a persistent tendency for blacks to be denied mortgages at a greater rate than whites leading many political commentators to claim that they prove the existence and severity of racial discrimination one problem with the statistical measurement of discrimination is that the available data are often inadequate the hmda data has been criticized for not collecting all of the information germane to the loan decision such as the credit history or personal characteristics of the loan applicant and co applicant the argument is that blacks are denied loans more than whites because of these characteristics rather than the color of their skin whether or not this in turn reflects prior or concurrent racial discrimination in other markets e g in employment or housing or education is an intriguing question with important implications for policy reform in mortgage lending regulations 1 in an effort to address these concerns the federal reserve bank of boston undertook to augment the basic hmda data in the boston area with ancillary data on loan applicants see munnell et al 1992 1996 the vast bulk of these extra data were collected from the original loan application file at the bank of original application indicating that the information was viewed by the bank as relevant to the loan decision the boston fed study found that allowing for the characteristics of black applicants reduced the statistical importance of the applicant s race but that some racial discrimination remained specifically they find that black and hispanic applicants are roughly 60 more likely to be turned down just because of their ethnic origin the denial rate in this sample is about 17 for such applicants rather than the 11 denial rate for statistically equivalent whites although the study has been the subject of some controversy in the popular press 2 and policy circles 3 it remains an important effort to address these issues by directly collecting the primary data there are however some problems with the way in which these data are interpreted by munnell et al 1992 1996 these problem concern their statistical methods even if one accepts the economic model of mortgage lending decisions underlying their study simple corrections to their statistical procedures removes any evidence of discrimination an important conclusion echoing the boston fed study itself is to point out the dangers of drawing inferences about discrimination based on incomplete data moreover the simple statistical corrections considered here are the standard fare of textbooks and not from the fancy frontiers of econometrics hence it is likely to be useful in general to see why those textbook lessons are there by having them demonstrated explicitly in an important policy setting ii replicating the boston fed results the boston fed study began with the existing hmda database for mortgage applications in the boston area for 1990 4 the fed requested that banks augment their hmda reports for all applications made by blacks and hispanics and by a random sample of applications made by whites

the evolving role of agriculture in poverty reduction an empirical perspective abstract the role of agriculture in development remains much debated this paper takes an empirical perspective and focuses on poverty as opposed to growth alone the contribution of a sector to poverty reduction is shown to depend on its own growth performance its indirect impact on growth in other sectors the extent to which poor people participate in the sector and the size of the sector in the overall economy bringing together these different effects using cross country econometric evidence indicates that agriculture is significantly more effective in reducing poverty among the poorest of the poor as reflected in the 1 day squared poverty gap it is also up to 3 2 times better at reducing 1 day headcount poverty in low income and resource rich countries including those in sub saharan africa at least when societies are not fundamentally unequal however when it comes to the better off poor reflected in the 2 day measure non agriculture has the edge these results are driven by the much larger participation of poorer households in growth from agriculture and the lower poverty reducing effect of non agriculture in the presence of extractive industries

deposit insurance a reconsideration abstract this paper undertakes a simple general equilibrium analysis of the consequences of deposit insurance programs the way in which they are priced and the way in which they fund revenue shortfalls in our economy the central issue in analyzing deposit insurance is how the government will make up any fdic losses deposit insurance premia matter only in so far as they affect the level of implied fdic revenue shortfalls moreover local variations in the magnitude of fdic losses will generically be irrelevant for the determination of any equilibrium quantities that affect agent welfare however large enough changes in these losses can matter there is no presumption that keeping these shortfalls low is a good idea finally we show that multiple pareto ranked equilibria can be observed the potential for multiplicity of equilibria may depend on components of fdic policy our analysis provides counterexamples to the following propositions 1 actuarially fair pricing of deposit insurance is always desirable 2 implicit fdic subsidization of banks through deposit insurance is always undesirable 3 large fdic losses are necessarily symptomatic of a poorly designed deposit insurance system 4 risk based deposit insurance premia can easily be used to reduce moral hazard problems associated with deposit insurance provision

how potent is economic growth in reducing undernutrition what are the pathways of impact new cross country evidence this article uses panel data from 63 developing countries over the period 1970 96 to explore the relationship between income growth and child undernutrition rates it has two broad objectives the first is to determine how strong the relationship is whether it is causal and the magnitude of the contribution the income growth has made to reductions in child undernutrition over the past 25 years the second broad objective is to examine the specific pathways through which income growth affects undernutrition the article represents the first effort to merge child undernutrition rates by year for multiple years with the various determinants of child undernutrition it thus allows for estimations that take into account country specific characteristics also for the first time the study 1 tests for the endogeneity of potential determinants 2 calculates the historical contribution of longrun income growth to reductions in child undernutrition and 3 identifies the pathways through which income growth affects undernutrition section ii discusses the determinants of child nutritional status from a conceptual standpoint section iii describes the variables employed the data and the estimation strategy the results are presented in section iv and section v concludes with a discussion of the implications of the results for policies to reduce child undernutrition excerpt

the demand for food and calories we investigate nutrition and expenditure in rural maharashtra in india we estimate that the elasticity of calorie consumption with respect to total expenditure is 0 3 0 5 a range that is in accord with conventional wisdom the elasticity declines only slowly with levels of living and is far from the value of zero suggested by a recent revisionist literature in these indian data the calories necessary for a day s activity cost less than 5 percent of the daily wage which makes it implausible that income is constrained by nutrition rather than the other way around

intermediation and the equilibrium allocation of investment capital implications for economic development abstract we investigate several common assertions about intermediation and how it affects the allocation of investment capital we use a model with adverse selection and costly state verification in which both debt contracts and credit rationing are observed intermediaries arise due to a comparative advantage in information acquisition relative to the situation absent intermediation intermediaries reduce credit rationing and inefficient interest rate differentials the model also shows how large interest rate differentials can be observed when financial markets are not integrated and how the volume of intermediation is affected by changes in the environment

getting prices right the impact of the market information service in uganda the market information service project in uganda collected data on prices for the main agricultural commodities in major market centers and disseminated the information through local fmradio stations in various districts exploiting the variation across space between households with and without access to a radio we find evidence suggesting that better informed farmers managed to bargain for higher farm gate prices on their surplus production

how islamic is islamic banking abstract islamic banks hold well over us 700 billion in assets and are growing at over 15 p a islamic banking and finance ibf involves wider ethical and moral issues than simply interest free transactions its advocates argue that these make it more economically efficient than conventional banking and promote greater economic equity and justice to what extent then do actual islamic banking practices live up to the ideal and how different are they from conventional banking a preliminary investigation shows that three decades after its introduction there remain substantial divergences between ibf s ideals and its practices and much of ibf still remains functionally indistinguishable from conventional banking this runs counter to claims by ibf advocates that it would rapidly differentiate itself from conventional banking however despite not providing an alternative to conventional banking and finance ibf does strengthen a distinctly islamic identity by providing the appropriate islamic terminology for de facto conventional financial transactions

capital accumulation under different financial agreements abstract this paper develops a simple overlapping generations model where agents income is given both by a stochastic endowment and by the profits generated by a production activity the purpose is to analyze the consequences of different forms of financial agreements on capital accumulation in this model pareto optimality requires that the capital stock is a deterministic function of the previous level of capital agents can eliminate any randomness in the capital accumulation process when contingent claims markets are available when standard loan contracts prevail because of asymmetric information the economy incurs an efficiency loss due to capital stock fluctuations the expected level of capital under this last regime is always smaller than the one achieved when markets for contingent claims exist

some evidence on the empirical significance of credit rationing this paper examines the credit rationing debate using detailed contract information on over one million commercial bank loans from 1977 to 1988 while commercial loan rates are sticky consistent with rationing this stickiness varies with loan contract terms in ways that are not predicted by equilibrium credit rationing theory in addition the proportion of new loans issued under commitment does not increase significantly when credit markets are tight despite the fact that borrowers without commitments can be rationed whereas commitment borrowers are contractually insulated from rationing overall the data suggest that equilibrium rationing is not a significant macroeconomic phenomenon

credit and equity rationing in markets with adverse selection previous theories of financial market rationing focussed on a single market either the credit or the equity market an interesting question is whether credit and equity rationing are mutually compatible and how they interact we consider a model with two dimensional asymmetric information where entrepreneurs have private information about both the expected returns and the risk of their projects we show that credit and equity rationing may occur individually or simultaneously moreover competition between the two markets may generate the adverse selection that leads to rationing outcomes

equilibrium subprime lending this paper develops an equilibrium model of a subprime mortgage market our goal is to offer a benchmark with which the recent subprime boom and bust can be compared the model is tractable and delivers plausible orders of magnitude for borrowing capacities as well as default and trading intensities we offer simple explanations for several phenomena in the subprime market such as the prevalence of teaser rates and the clustering of defaults in our model both nondiversifiable and diversifiable income risks reduce debt capacities thus debt capacities need not be higher when a larger fraction of income risk is diversifiable

stochastic costly state verification and dynamic contracts abstract i consider a dynamic costly state verification environment in which a risk averse agent enters into a contract with a risk neutral principal the agent has random income which is unknown to the principal but can be verified at a cost the principal can commit to executing random verifications i extend the standard recursive methods to study the problem and show that it is optimal to set verification probabilities strictly less than 1 if the agent s absolute risk aversion declines sufficiently slowly the principal will use verification regardless of its cost if the agent s income is verified then he would get consumption and continuation utility strictly higher than if his income were not verified

growth accounting when technical change is embodied in capital this paper revisits the hypothesis that technical change is embodied in capital it extends old results to make them more relevant to the contemporary debates about the adjustment of investment goods for quality change and about the role of embodied technical change as a source of economic growth it is shown that the failure to adjust capital for quality change has the effect of suppressing the quality effects into the conventional total factor productivity residual and it is found that approximately 20 percent of the residual growth of quality adjusted output could be attributed to embodied technical change copyright 1992 by american economic association