The Feldstein-Horioka paradox: A new vision at the level of institutional sectors

Working papers | 2006 | N 3

Abstract

Using an unbalanced sample of OECD countries for the period 1970-2003, our work contributes to the empirical literature on the Feldstein-Horioka paradox through three main innovations: first, we estimate, for the first time, regressions between investment and savings at the level of institutional sectors (families, companies and government), in addition to the usual exercises with national data; second, we analyze in detail the implications of differentiating between periods of current account deficit and surplus; Finally, we use modern panel data techniques to address the endogeneity problem and to distinguish short- and long-run effects. After discarding the influence of common factors, the conclusions were the following: (i) the national Feldstein-Horioka coefficient is around 0.5, but the sectoral coefficients are much lower and not even significantly different from zero; (ii) such a positive coefficient at the national level would not reflect frictions in international credit markets but rather a fiscal policy of current account targeting; (iii) However, when discriminating between years of current account deficit and surplus, a high and significant correlation emerges at the national, household and business levels for the deficit periods, suggesting that credit imperfections still play a role. a role for the private sector (but not for the public sector) and it is also notable that the correlation at the family level remains positive, although low, for periods of surplus; and (iv) against the expectation of a unitary coefficient in the long run to satisfy the intertemporal budget constraint, we find a long-run relationship of 0.75 at the national level, 0.6 at the firm level and a marginal effect or not. significant at the level of families and government. Finally, we contrast this new evidence for developed countries with the cases of Argentina and Chile in recent decades, extracting relevant lessons regarding fiscal policy and external financial openness.