Economía: Teoria y práctica

Economía: Teoria y práctica

ISSN: 0188-8250

[email protected]

Universidad Autónoma Metropolitana Unidad

Iztapalapa

México

de la Cruz, José Luis; Núñez, José Antonio

Productivity, inflation, and Investment: an Analysis of Causality

Economía: Teoria y práctica, núm. 23, 2005, pp. 43-61

Universidad Autónoma Metropolitana Unidad Iztapalapa

Distrito Federal, México

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Jose' Luis de la Cruz* Jose Antonio Nufiez*'

Productivity, ation, and Investment: an Analysis of Causality

* lnstituio Tecnologico y de Estudios Superiores de Monterrey, Campus Estado de Mexico [email protected]]. ** lnstituto Tecnologico y de Estudios Superiores de Monterrey, C a m p ~ s Ciudad de Mexico [email protected]],

(, ~ ~ s t l l t l i o t t t i l 1 7 ' 1 I l l 1 V(X.tOl. l i e , c 'orroc,- .ror l),lr,l c i ( ~ t t ~ r t i ~ i t ~ , ~ r 1'1s r ( ~ l c ~ t ~ i o t ~ ( ~ s

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pt-t~r>l>,~ ci(~c.onst ,~~~c.i ,~ c l r l ( 4 I.,rngo c l c ~ c - o i n t c ~ ~ ; r , ~ c ~ i ( ' ) ~ ~ ~ l c ~ s ~ ~ r r o l l , ~ c i o 1)or Q ~ ~ i t l t o s (1007) 01 (~it 'il ptb~.tnitc, c,st,ll>lcc.c.r 1'1 c.ot-rst'~nc.i,l c.11 1,)s rc.lac.ionc>s IC1r>;o p l ,~zo cwc.ontr~lcl,ls (,I> c.1 pcrioclo ci(b cstudio. I .os r ~ ~ s u l t ~ ~ ~ i o s rntrc~str,~n ~11'1 c.,luscllici,ld hidirc,ccioti,ll cx)nsistcnte y nc,gativ,l txntre, 1;) ~ ~ ~ ~ o d ~ t c - t i v i c l ~ ~ c i \: 1'1 inCl,1t.iOt1. I'or otr'l p r t c , 1'1s t~stim;ic.ioncs sc,- ii,ilan ~ ~ L I I . ' .ilgit~iofi-on~ponc~nte~s dc la it1v(.rsii)t1 (priticipcilmcntt~ construcciOn y m.leluin,iri,i v 1:qui- PO import,~do) tienem un,] ~ ~ l ~ l s a l i d ~ i d positiv,] c-on la produe-tividad.

I'nl,~l~r.rls c-lr171c.: caus,ilicl,~d, cointctgraci6n, invCr- siOn, productiviciacl, inflaci6n.

' In the Granger scnse.

INTRODUCTION

Since 1980, investment in Mexico has not followed a regular pattern in its rate of growth. Between 1980 and 1990 public investment decreased by 50%, while private investment was approximately constant. In the 1990s, tendencies

in investment changed and can be described by looking at two periods. During the first four years of the decade a recovery in investment was observed, basically as a result of the privatiza- tion of public firms and the certainty generated by stability in the economy (Oks and Van Wijnbergen, 1993). However, the December 1994 crisis caused investment to stagnate once again, which strongly affected the construction component, while recovery was relatively quicker in equipment and machinery (imports) than in other components.

In the second part of the 1990s, Mexico's industrial production and investment increased -in association with growth in the US- up until theyear 2000. In that year, signs of recession were observed

in the US economy, and this affected the Mexican economy, mainly in the in-bond sector (Acevedo, 2000). Between 2001 and 2003, investment in the Mexican economy decreased by 7%. Conse- quently, there have been problems in the accumulation of physical and human capital. In this sense, capital accumulation represents the essential route through which a country can acquire the necessary technology to improve its productivity and competitiveness in the international arena. In particular, there is an important discussion around the role of investment in machinery in relation to augmenting labor participation. There are various studies and opinions on the positive impact of machinery on the development of civi- lization (Landes, 1969 and Mokyr, 1990). At the same time other studies maintain there is only a marginal contribution from mechanization (Abramowitz, 1957 and Jorgenson 1988, 1989). However, De Long and Summer (1991) sustain that the influence from investment in machinery is an essential determinant of growth in productivity. In the case of Mexico, Oks and Van Wijnbergen (1993) argued that before the national crisis in 1995 investment in machinery and equipment could produce better labor conditions. Within this framework, the conditions character- izing the Mexican economy have not produced an increase in productivity growth. Therefore it is not surprising to see the country's loss of competitiveness, evident during recent years.2 For Mexico, the priority of preserving and expanding its links with the United States can be calculated on the basis of the dependence of its external sec-

The Global Competitiveness Report for 2004-2005 places Mexico in 48Ih place.

tor on the US economy: to the tune of 85%.3 Mexico's industrial cycle and manufacturing employment follow the US cycle very closely, fun- damentally since the 1990s, when the signing of the North American Free Trade Agreement (NAF~A) modified the trade relationship between the two countries (Graph 2).

Hence, it is worth emphasizing that investment, especially in machinery and equipment, is highly correlated with industrial production (Table 1). In particular, the positive influence from foreign

direct investment on Mexico's economic activity has been statistically analyzed in univariate and multivariate studies of causality (Ramirez, 2002, de la Cruz and NuAez, 2005), and the relationship can be explained by the fact that the in-bond (maquila) sector is the main recipient of FDr.

Nevertheless, in recent economic history, investment has not translated into a significant increase in production, and this was especially true in the early 1990s. During that period, there was a positive tendency in investment that sur-

Graph 1 Industrial Cycle Manufacturing employment:

annual variation

- United States M e x i c o - 1

Fuente: Prepared with data from Instituto Nacional de Estadistica Geografica e Iformatica ( I N E G ~ ) ~ and the Federal Reserve.

In 2003 China took Mexico's second place, moving it down to third place among the countries with the greatest shares of the US market. ' The inflation target for 2003 was 3%,

Table 1 Correlation matrix

Industrial Total Investment in machine y Investmeilt production investment and equipmen t in construction

Industrial production 1 0.93 Total investment 1 Investment in machinery and equipment Investment in construction

passed the Gross Domestic Product (GDP) decline, making investment and the current account defi- cit unsustainable (Oks and van Wijnbergen, 1993; Nuiiez and Urzua, 1996). The abrupt devaluation of the Mexican peso against the US dollar origi- nated a crisis that brought inflationary effects.

In this respect and in order to provide a macroeconomic framework for generating stability and a better scenario for economic agents, the Mexican Central Bank (Banxico) implemented an exchange rate and monetary policy in line with an inflationary target (Carsterns and Werner, 1999).= The price goal allows the economy to benefit from a macroeconomic environment with price stability through, for example: (1) the effi- cient behavior of the currency and price system; (2) the transparency and credibility of monetary policy; (3) the minimization of segnoriage; and (4) the contribution to fiscal discipline. Also, price stability favors the reduction of interest rates, in- fluencing whether financial markets generate certainty and stability; and it reduces tax distortions (Saxton, 2002) allowing the development of effi-

Which is directly related to the investments made by economic agents.

cient investment plans, which increase productivity (Clark, 1982 and Papapetrou, 2001). In addition to the fixed rate as an inflation target, it is important to study not only whether the inflation rate has a correlation with the structural macroeconomic variables for economic growth, but also to explore the causality and direction of this causality in order to determine whether Banxico's anti-inflationary policy will have some influence on the country's productive capacity.

This study searches for a link among productivity, inflation and investment (with the components of the latter disaggregated). The fundamental reason for carrying out this research is the current international economic situation in which there is a need to strengthen the domestic market for the purpose of making it the main precursor of economic growth. Also, strengthening the domestic market can improve the competitiveness of the country's external sector, primarily in the US market.

This paper is organized in the following man- ner: following the introduction in section I, section I1 presents some background; section 111 de- scribes the methodology used to carry out the vector error-correction (VEC); section IV presents

the data; section V reports the empirical results; and finally, section VI presents the conclusions from this research.

diation, the trade opening and foreign investment as potential sources of productivity (Ethier and Markussenn, 1991; Romer, 1992; Edwards, 1992; and Tirado, 2002).

a) Investment The question "How can we obtain rapid and sustained growth?" is one receiving greater attention in recent years in both theoretical and empirical frameworks. Productivity is very important, since it assists in obtaining two of the most important economic objectives, specifically surplus and profit in the economic system (Bhattasali and Bhattasali, 1972), and at the same time, price stability (Clark, 1982; Khan and Sehhadji, 2001; and Papapetrou, 2001). Growth in productivity is one of the most studied aspects in economic theory. In general, we can say that capital: labor training and technological progress are some of most influential elements in economic growth and increased productivity (Sala-i-Martin, 2000), and that increased investment is important for increased productivity (Baumol, Batey and Wolf, 1989; and Grossman and Helpman, 1994). In particular, the importance of human capital for economic growth has been studied in Mankiw, Romer and Weil (1992) and de Gunnarsson, Mellander and Savvidou (2001).

In addition, there are increasing studies that identify other factors explaining the evolution of productivity and economic growth. In particular, some of these studies point to financial interme-

During the period from January to September 2003, industrial production demonstrated an accumulated drop of 1.13 per cent in real terms, in comparison with the same period in 2002.

Recent results from industrial production (IP) in Mexico demonstrate the negative situation faced by the industrial ~ec to r .~ Mexico's dependence on the US industrial economic cycle shows no sign of changing in the short run. The empirical evidence on industrial cycles, as shown in Graph 1, indicates that growth in the US sector is an important source of recovery for Mexico in the short term. In particular, the technological relationship that the US and Canada maintain with Mexico, through the maquila sector, is the principal factor in the total factor productivity (TFP) (Schiff and Wang, 2003). In economic growth theory, studying the level of production involves analyzing the situation in relation to factors of production, and the magnitude of production is obtained from the combination of these factors (Sala-i-Martin, 2000). Specifically, economic growth theory states that by analyzing labor and capital, it is possible to find a reasonable explanation for the economic dynamics charac- terizing a country. If we focus our analysis on capital, we find that this factor is associated with technological innovation, which is the result of scientific advances applied to production processes. In the case of Mexico, since economic series describing the evolution of capital are not

' The logarithm is represented by the letter L, and D represents the first difference of the variable.

available, it is necessary to look at investment, which represents the changes in capital during a period of time. With higher investment rates, an increase in capital stock is expected (without taking depreciation into account). The available information provided by lNEG1 on a monthly basis permits us to study the evolution of Gross Fixed Capital Formation (GFCF), disaggregated into its components of construction (GFCFC), and machinery and equipment (GFCFME), which in turn can be divided into the national component (GFCFMEN) and imports component (GFCFMEM). Since 1993, there has been little growth in investment in Mexico, particularly in construction (Table 2). The implications from these variations for an emerging economy (EM) such as Mexico are relevant (Graph 2). Since economic agents are not renewing capital during the production process a decrease in investment levels affects not only the current structure of the Mexican economy, but could also involve a loss in competitiveness for national products in domestic and foreign markets in the medium and long term.

Table 2

Vnrinble 1993-2003 (annual average variation)

Total Investment 3.1 Investment in Construction 1.6 Investment in Machinery

and Equipment 4.9

Fuente: Elaborated by authors with data from INEGI.

b) The issue of productivity, investment and inflation in Mexico

Analyzing productivity is important for all nations, due to the implications with respect to relevant variables in economic growth, such as technological progress, improvement of production systems, the allocation of resources in production, and workers' abilities (Mendoza and Diaz-Bautista, 2003). In the case of Mexico, work productivity has followed a heterogeneous pattern over the last decades. At a sector level, Hernandez Laos (1993, 1999) estimated productivity between 1970 and 1989, and differ- entiation was observed in the total productivity of the factors analyzed in this study. In Hernandez Laos (1993) it is emphasized that such behavior was unsatisfactory in the economic sense, especially in the 1982-1983 period when Mexico's foreign debt crisis emerged. Additionally, it is argued in that study that the increase in productivity observed in some sectors during the second half of the 1980s would have been limited without afuture increment in the stock of capital. This did not happen during the first half of the 1980s (Graph 2).

The productivity results in the maquila sector re- inforce the last argument: during the first half of the 1990s, increments were modest (Katz, 2001), with growth beginning in the second half of that decade.

Increments in investment encourage imports of machinery and equipment -which has a strong relationship with the manufacturing industry. The latter was greatly favored by the trade opening process carried out by Mexico beginning in the 1980s, and which accelerated with the beginning of NAFTA (De la Cruz and Nuiiez, 2005). However,

this process has not improved the situation for the rest of the economy. Alarc6n and Zepeda (2004) argue that despite the economic changes made during last twenty years, there is a wide range of work productivity in the different sectors of the Mexican economy, and the activities linked to manufacturing exports are the most favored, primarily those related to the demand in the US market. However, the largest gains in productivity have appeared in the first steps of the liberation process (Alvarez and Robertson, 2004). Therefore, in the case of Mexico, we can say that one of the most favored sectors, with the structural changes since the 1980s, has been the maquila sector. Mnquila labor productivity has increased since 1984 (Brown and Dominguez, 1999). Incrementing their productivity, exporting manufacturing firms have ben- efited from the opening of the economy (L6pez- C6rdova, 2003). At the same time, these firms have increased the degree to which they converge with similar US firms, only in the sense theoretically established by Solow's model (1956) for countries with different levels of capital accumulation.

Equally, as estimated in Baumol (1986) and Baumol and Wolf (1988), a convergence can be observed in the total productivity of factors among exporting manufacturing sectors of Mexico with their US trade counterparts (Blomstrom and Wolf, 1989; and Easterly, Fiess and Lederman, 2003). This situation is generated by the high influence of US and Canadian technology on Mexico's productive sectors (Schiff and Wang, 2002) and learning from export experience (Clerides, Lach and Tybout, 1998). However, after the 1980 and 1995 crises, employment has been concentrated in low productivity and low wage sectors, such as infor- mal sector activities (HernBndez Laos, Garro and Llamas, 2000.

Graph 2 Investment Components,

Base Index 1993

I G F C F C - - - - GFCFMEM G F C F M E N ~

Fuente: Elaborated by authors with data from INEGI.

De Long and Summers (1991,1993) have found a positive relationship between investment in machinery and equipment and economic growth, in the case of both developed and developing countries. In this framework, a decrease in investment, particularly in machinery and equipment, has a negative effect on Mexico's productivity and competitiveness.

Graph 3 illustrates the evolution of manufacturing productivity. First, we can see it decreasing in relation to the 1995 crisis, as well as in the 2001-2002 period. Such events correspond to significant drops in the growth in investment. Sec- ondly, it is important to point out that the greatest rates of economic growth were in the early years of trade opening with the US and Canada. The rest of the period covered has positive and modest rates of growth. This is consistent with

Graph 3 yields from assets in the US. Grier and Perry (2000) Labor Productivity: argue that inflationary uncertainty diminishes GDP

Anual Variation growth. Papapetrou (2001) finds, by means of a

15 VEC, a causal bidirectional relationship between productivity and inflation, whereas Khan and Senhadji (2001) demonstrate a negative relation-

P ship between inflation levels, over the threshold, and economic growth. Hung (2003) establishes

9 that inflationary uncertainty has a negative influence on economic and financial variables. In the

6 case of Mexico, Hernandez Laos (1993) pointed to inflation control as one of the fundamental re-

3 quirements for motivating investment in produc- ' VV tion, together with the adoption of new technolo- gies to generate improvements in productivity. I' (D a

In line with the last paragraph, the decreasing s g s % = g o o O N a tendency in inflation observed after the 1995 cri-

-3 d . d - - 4 - 0 % g ;. sis (Graph 4), is consistent with the creation of a Elaborated by authors with data from INEGI.

Alvarez and Robertson (2004), together with the Graph 4

decrease in investment, particularly that associ- Inflation ated with imported machinery and equipment. Next, it is important to study the causal relationships among these variables.

The above has an influence on the price system 40 5 - -----

as well. Inflation control by the Central Bank has a positive impact on mac~oeconomic variables, and particularly on economic growth and productivity (Papapetrou, 2001). From Clark (1982) and Gilson (1984) we can see that inflation influences negatively investment plans and diminishes productivity. In this respect, there are studies that seek to prove the relationship between inflation and some macroeconomic and financial variables. ~ ~ Q s ~ - N N N N

~ ( D ( D ( D ( D ~ ~ O O O

P 9 0

In particular, Hu and Willett (2000) find a rela- 2 . ~ ~ ~ ~ p f ~ ~ o tion between the variability of inflation and the Fuente: Prepared by authors with from lNEGl.

macroeconomic environment of greater stability and less uncertainty for investors -a situation resulting from the control of some of the principal sources of inflation in Mexico (Esquivel and Razo, 2003), specifically agreements on wage increments, correct handling of monetary aggregates from the Bank of Mexico, and a free floating exchange rate. The latter is due to the implementation of the monetary policy known as corto (Schwartz, M., Tijerina and Torre, 2002).

Therefore, the evolution of productivity, investment and inflation is significant for the Mexican economy, and this is the reason it is interesting to study the potential long-term relationships and their constancy over time.

METHODOLOGY

The present study seeks to establish the relationship, in a multivaried framework, among inflation, the diverse components of investment, and productivity, in order to establish causality and its consequences on economic policies. In order to achieve this objective, a VEC was generated with the components of the GFCF. The procedure used was the one originally proposed by Hall and Milne (1994) and applied by Liu and Romilly (1997), and Chandana and Paratab (2002). Liu, Burridge, and Sinclair (2002) developed a causality analysis for integrated series of order one, I(l), with cointegration, by generating a VEC. This mechanism permits us to study the relationships in a multivariate causality framework. Consequently, the series was subject to a unit root test, to determine the existence and number (if applicable) of such roots, using the Augmented Dickey-Fuller test (ADF). Before elaborating the

VEC, the Johansen-Juselius cointegration test was applied to check for cointegration, and the possible linear combinations between the series to obtain a result I(0).

The construction of the VEC to prove causality between inflation (INPC) and manufacturing productivity (PROD) is based on the proposal made by Jaret and Selody (1982), Selody (1990) and Papapetrou (2001). This methodology is designed to avoid inconsistencies with the finding of causality in a bivariate environment, such as: a) the resulting bias of omitting relevant variables, and b) an unreliable result as a consequence of estimation with non-stationary variables (Liu, Burridge and Sinclair, 2002). The proposed VEC includes industrial production in the United States (USIP) with one lag and the M1 in order to include the relationship with the US industrial cycle and the implementation of Banxico's monetary policy, respectively.

The error correction term in a VEC is written as n=ap

The objective is to study the significance of the long run parameters bii and the adjustment coefficients nli. This can be tested by applying zero re- strictions on the al,. Then, the Wald test is applied for the higher lags of the VEC in order to analyze if those lags are significant, verifying the existence of bidirectional causality (Hall and Milne, 1994).

Finally, it is necessary to assess whether the cointegration relationships obtained in the VEC remain constant during a determined period of time. Hansen (1992), Tanaka(1993) and Quintos (1993 and 1997) developed tests that basically study the stability of the cointegration rank, in other words, the stability of the long run relationships established in a multivariate system. To

achieve the objective, they based the tests mainly on the Langrange Multipliers tests (LM) and the Likelihood Ratio (LR). In this paper, the results presented by Quintos (1993,1997 and 1998) are taken into account for the purpose of comparing the stability in the cointegration rank of the VEC developed in the empirical tests. Quintos applies a LR test to compare the possibility of whether more cointegration relationships exist, and a LM test for fewer relationships (Appendix A). The results obtained must be compared with the tables that present the critical values developed by Quintos (1997) and Makinnon, Haug, and Michelis (1999).

DATA

The INPC and the MI are published by Banxico; and the GFCFC, GFCFMEN, GFCFMEM, and the PROD by INEGI. The industrial production index in the United States (USIP) was obtained from the Fede- ral Reserve. The study utilizes monthly data from the period between January 1993 and December 2003, because of the availability of investment data and the productivity index.

EMPIRICAL RESULTS

First, we get an idea of the negative relationship between inflation and the rest of the variables through correlations (Table 3). Secondly, an ADF test was implemented to the natural logarithm of the series. In every case a unit root can be observed, and can be eliminated by applying the first difference to the series. The results are shown in Table 3.

The next step consists of the implementation of the Johansen cointegration test. The results suggest the construction of a VEC with four lags and four cointegration relationships (refer to Table 5).

The VEC is specified in growth rates because of the usage of the logarithm and the first difference applied to the variables. To check for weak exogeneity, we selected the Wald test for the adjustment coefficients. The p-values obtained for all the variables are less than 0.05, so it is possible to reject the null hypothesis in all cases (refer to Table 6).

The Wald test is now applied to all the lags with the higher order to establish the existence of bidirectional causality. The results of the analysis in-

Table 3 Correlations

GFCFMEM GFCFMEN GFCFC PROD INPC

GFCFMEM I 0.65 0.53 0.31 -0.12 GFCFMEN 0.65 1 0.52 0.47 -0.19 GFCFC 0.53 0.52 1 0.07 -0.17 PROD 0.31 0.47 0.07 1 -0.07 INPC -0.12 -0.19 -0.17 -0.07 1

Table 4 Augmented Dickey-Fuller Test

Vnrinble ADF significance % vallte

DLPRCY -15.84 1 -4.03 DLGFCFC -5.64 1 -4.04 DLGFCFMEN -4.61 1 -4.03 DLGFCFMEM -15.37 1 -4.03 DLINPC -3.56 5 -3.45

--

Table 5 Cointegration Rank

Series: LPRO, LGFCFMEN , LGFCFC, LGFCFMEM, LINPC Interval: 1-4

Eigenvalue Likelillood 5 Percent 1 Percent Hypotllesis Ratio E C 6 )

0.531003 214.0806 87.31 96.58 None ** 0.393484 123.9787 62.99 70.05 1 ** 0.229777 64.47586 42.44 48.45 2 ** 0.188973 33.40787 25.32 30.45 3 ** 0.068804 8.48291 1 12.25 16.26 4

** Denotes the rejection of the null hypothesis a t 1 percent of significance.

Table 6 Weak exogeneity tests

Variable P-vnl~le

LPROD 0.0005 1-GFCFMEN 0.0000 LGFCFC 0.0000 LGFCFMEM 0.0000 LINPC 0.0001

The logarithm is represented by the letter L, and D represents the first difference of the variable.

dicate causality between inflation and productivity. Therefore, the monetary policy conducted by Banxico, with an inflation target, could have some influence on the real variables, particularly on productivity. At the same time, the GFCFC presents a causal relationship with productivity and with the rest of the investment components. Therefore, investment in the construction sector acts as one of the growth enhancement factors in the Mexi- can economy, and one of the aspects that economic policy should prioritize is emphasized: the construction sector shows a linkage with the rest of the investment components, so it is necessary to establish suitable instruments to promote its development. The results also indicate a causal relationship between the GFCFMEM and productivity, suggesting the importance of machinery imports on national production, or in other words, there are significant benefits from the acquisition of foreign technology and its implementation on the country's productive processes (refer to Table 7). From the results obtained (bidirectional causality observed between productivity and GFCFC, and GFCFMEM; including unidirectional causality

to GFCFMEN) the existence of a virtuous cycle can be inferred, including productivity improvements and investment. Taking into account the framework provided by economic growth models, this virtuous cycle must be translated into a positive impact on capital accumulation and economic growth. If stability in Labor Costs is included in the analysis, it is possible to infer that the economic system must prioritize capital accumulation in order to acquire the pertinent competitive advantages for facing the new international environment.

In conclusion, results suggest that investment and capital stock accumulation ha been the main areas of opportunity in the Mexican economy.

Finally, a test for stability of the cointegration rank was applied. Following Quintos' (1998) and Haug's (1999) observations regarding the problems in the likelihood ratio when there are no cointegration vectors in the system, a methodology proposed by Johansen was implemented to estimate the necessary eigenvalues to implement the test for stability in the cointegration rank. The results indicate a lack of stability in the rank. Af-

Table 7 Wald Test

P-val ue Dependent DLPRO DLGFCFMEN DLGFCFC DLGFCFMEM DLlNPC Causality

Variable -- - -

DLPRO 0.4218 0.01 12 0.0834 0.0633 GFCFC-PRODGFCFMEM-PROINPC- PRO

DLGFCFMEN 0.1616 0.0411 0.6004 0.3473 GFCFC-GFCFMEN

DLGFCFC 0.0001 0.0739 0.7894 0.5165 PRGGFCFCGFCFMEN-GFCFC

DLGFCFMEM 0.001 7 0.8060 0.0091 0.2831 PRO-GFCFMEMGFCFC-GFCFMEM

DLINPC 0.0512 0.8434 0.5485 0.3572 - PRO-INPC

ter comparing the values of Q+ and Q- with the critical values provided by Mackimon, Haug and Michelis (1999) and Quintos (1997), it is not possible to reject the null hypothesis with a 5 percent of sigrufican~e.~ So, the cointegration relationships are stable in the period of study. Therefore, investment in construction, in machinery and imported equipment, and inflation control generate positive effects on productivity.

CONCLUSIONS

The obtained results provide quantitative evidence for bidirectional causality between inflation and productivity. The statistical evidence allows us to establish an inverse log run relationship between productivity and inflation. As a consequence, current monetary policy, based on an inflation target, and implemented by Banxico, must have a positive impact on the levels of productivity, as established by Hernandez Laos (1993). Therefore, the monetary policy and exchange rate policy implemented by the Mexican Central Bank have influence over real sector variables, which are evident to decision-making agents at the time they implement their investment strategies. It is also relevant to note that the unidirectional and bidirectional positive causality between some investment components and productivity proves that favoring investment would provide productive economic agents with a comparative advantage.

The results also point to an economic policy oriented toward favoring investment in the construction sector and the acquisition of technology to increase manufacturing productivity. Given recent tendencies in national labor costs and the international wage scheme, an increase in productivity will make the Mexican economy capable of developing competitive advantages for compet- ing in the new worldwide economic and financial environment. Although the results of our research are robust, additional factors contributing to productivity should be incorporated in future studies. In this way we will obtain a wider economic framework for the study of productivity.

Further research

Cointegration (Granger, 1981) has been an important advance in time series literature. Other important developments in the same sense include the study of nonlinear adjustments (Neftci, 1984; De Long and Summer, 1986; Terasvirta and Anderson, 1992) and the writings of Dufrknot and Mignon (2002). In a multivariate context, such nonlinear adjustments (or asymmetrical dynamics) support decisions for intervention by the government or central bank, when the deviation from equilibrium continues for too long a period. In future research we will look into the possibility of analyzing causality with the variables studied here.

Q' and Q. take values of 12.25 and 0.00, respectively.

APPENDIX A STABILITY OF THE COINTEGRATION RANK

Suppose we have an autoregressive vector (VAR)

of order n with k lags (Quintos, 1997).

Where

With y: is I (1). The corresponding vEc is

With

If we have 9 cointegration equations, t h e n matrix can be written as

The problem is in relation to the significance of the long term parameters bii and the adjustment coefficients a... This is carried out using zero

1)

constraints on the aij . Later, this study reports Wald tests of all higher-order lagged coefficients in the VEC, and then we can check on whether

bidirectional causality exists, (Liu, Burridge and Sinclair, 2002). The next step is the incorporation of the procedure developed by Quintos (1993, 1997 and 1998) to study the stability of cointegration relations and establish whether there is variation in the number of these relations in the period of study. Quintos (1997) applied a likelihood ratio (LR) test in the case of the greater number of cointegration relations, or maximum likelihood (ML) in the case of the lower number of cointegration relations. The test LR is based on

sup Q; (k) = sup[kT] $('kT1l

kc9 ke9 i=q+I (A.8)

Where $.) refers to the roots of the matrix

AY+(.) = AY(.) - Ay(.)&' - I AYAY AYO (A.10)

,. Where R A ~ ~ ~ is the kernel estimation of the

long run variance of Ay,-, and Ray,, is the matrix that estimates the long run variance of u, =Ayt - n y , - , .

To check the case of a greater number of cointegration relations, the LM test is used:

Where

i i o ' = b:120([' (s tan darized residuals)

(A.16) f i ( f r = Ay(t)' - fi([)y([)

- I (residuals)

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