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Economic Review

Economic Review
Third Quarter 1998/Volume 83, Number 3

Economic Review articles are posted on the Web as they become available. Page numbers in the PDF file posted here may not reflect the page numbers of the printed version.

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Competitiveness and Price Setting in Dealer Markets How Powerful Is Monetary Policy in the Long Run?
Lucy F. Ackert and Bryan K. Church 4 Marco A. Espinosa-Vega 12

The behavior of securities dealers has been closely scrutinized in the 1990s. Recent investigations of the National Association of Securities Dealers and the Nasdaq market by the U.S. Department of Justice and the Securities and Exchange Commission suggest that market makers colluded to fix prices and widen bid-ask spreads in attempts to increase dealers' profits at investors' expense. At a minimum, market makers appear to have adopted a quoting convention that can be viewed as anticompetitive behavior.

This article explores the Nasdaq pricing controversy in light of economic theory and evidence of alleged collusion. Important findings in recent academic studies suggest that spreads may be large on Nasdaq because dealers had little incentive to compete using price and to narrow the spread. In addition to collusion, institutional features may produce spreads that are wider than observed in a purely competitive setting.

The authors note that because dealers compete along nonprice dimensions, a judgment regarding the competitiveness of the Nasdaq market based solely on the width of the bid-ask spread is problematic. New rules approved by the SEC and recently implemented in the Nasdaq market should lead to narrower spreads and enhance price competitiveness.

This article reexamines the view that monetary policy affects real (inflation-adjusted) economic variables in the short run but that its powers fade quickly in the long run (that is, that money is long-run superneutral). This view relies on the assumption that monetary policy can have real effects only via "money illusion." However, if monetary policy can affect real economic activity by other means then it may be possible for money to be nonsuperneutral in the long run.

The author reviews a small sample of the growing academic literature that studies models in which money may not be long-run superneutral. A message of this line of research is that in assessing the economic impact of alternative policies, monetary economists may have spent too much time trying to forge direct links between changes in monetary policy and the unemployment rate. By linking monetary policy with the supply and demand of credit, the models reviewed here can study an alternative mechanism for evaluating the long-run effects of monetary policy that does not rely on money surprises. The results reported in this literature indicate that monetary policy may be a great deal more powerful than most academic economists believe. Thus, this article challenges economists and policymakers to devote more attention to investigating alternative explanations for the real effects of monetary policy.

Credit Union Issues The Federal Government's Budget Surplus: Cause for Celebration?
Aruna Srinivasan and B. Frank King 32 Gerald P. Dwyer Jr. and R.W. Hafer 42

In February 1998 the U.S. Supreme Court partially settled a long-running controversy about the concept and extent of common bond limits on credit union membership, interpreting the Federal Credit Union Act as limiting membership to individuals sharing a single common bond. The ensuing debate has extended, quite naturally, to credit union tax status. Meanwhile, the U.S. House of Representatives and Senate have overwhelmingly passed and the President has signed a bill that would substantially annul the Supreme Court decision.

This article attempts to provide a basis for thinking about current credit union issues. It outlines the origins of credit unions' special legal status as attempts to solve problems such as limited information about individual borrowers who could provide no security and costly procedures for collecting unsecured debt. The article describes how classic credit union characteristics—mutuality and common bond structure—developed to address these problems and how more recent developments are generating pressures to relax common bond limits. The authors conclude that allowing past multiple common bonds to stand and leaving open the way for others has positive implications for credit unions and their customers but negative implications for their competitors, their competitors' customers, and taxpayers.

Projected surpluses in the federal government's budget have generated fanfare sometimes verging on euphoria. Because the federal government last had a surplus in 1969, a projected surplus for fiscal year 1998 and later years is being viewed as something of a milestone. Unlike policies of the last three decades that have at least paid lip service to lowering the deficit, policy options now may include ways to use the surplus. Some have called for lowering taxes and others for increasing expenditures or retiring federal government debt.

This article discusses the importance of going beyond the budget deficit to consider both spending and taxes when analyzing the federal government's budget. The projected surpluses are based on projections of slower growth in federal government spending than in receipts. The authors interpret these surpluses as largely reflecting taxes paid now to finance expected increases in future spending, in particular on Social Security.

More generally, in their view a budget surplus or deficit is not an adequate summary of how federal government spending and taxes affect the economy. A surplus or deficit is a result of choices concerning spending and taxation, choices that have substantial implications for the allocation of resources in the economy. The authors conclude that any analysis of fiscal policy that neglects spending, taxes, and tax rates is woefully deficient.