"As a baseline specification we relate quarterly GDP growth to three of its own lags and the lagged four quarter (log) change of DNFD. We view the lags of GDP as providing the simplest set of controls for the inertia that characterizes the business cycle.23 We estimate the model starting in 1983 Q1. We choose this starting date because it roughly coincides with the so-called "great moderation" in most macroeconomic aggregates in the U.S. and because the monetary policy regime has been relatively constant over this period.24 The coefficients and heteroskedasticity-corrected standard errors from this regression are shown in Exhibit 5.1 Last quarter's year-over-year growth in DNFD is positively and significantly correlated with current quarter real GDP growth; so that if DNFD falls by 1 percentage point and stays below baseline for 1 year, quarterly GDP growth would be predicted to fall by 0.14 percentage points initially and by 0.22 percentage points eventually. Thus, our regression specification implies that credit shocks will be spread over successive quarters.
Exhibit 5.1 OLS Regression of GDP Growth on DNFD
*Dependent Variable Quarterly GDP Growth (at an annual rate)
Independent Variable* *Coefficient* *Standard Error* * T-Statistic* Constant 1.470 0.475 3.080 GDP Growth t-1 0.290 0.112 2.590 GDP Growth t-2 0.284 0.102 2.800 GDP Growth t-3 -0.224 0.107 -2.100 4 quarter DNFD Growth t-1 0.140 0.072 1.950
There is an existing literature dating back to Friedman (1983a,b) showing that DNFD and other credit aggregates have some predictive power for GDP, so the correlation in Exhibit 5.1 is hardly surprising. Given this literature, we do not present many alternative specifications. But the basic findings in the exhibit show up in a variety of other regression specifications, including ones that add more lags of GDP, that use contemporaneous growth in DFND, and that use quarterly growth of DFND. One consistent finding is that if we use data starting in the 1950s the estimated credit coefficient is larger, so we view the reported coefficient as being conservative."
I would imagine that the relationship between DNFD and GDP might be controversial among hard-left economists, so I'd be interested in what the consensus is. Whatever your theory, we may find we are in for a hell of a test.
boddi