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on Dynamic General Equilibrium |
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Issue of 2018‒09‒10
sixty-one papers chosen by Christian Zimmermann Federal Reserve Bank of St. Louis |
| By: | Ivan Sutoris |
| Abstract: | This paper studies risk premia in an incomplete-markets economy with households facing idiosyncratic consumption risk. If the dispersion of idiosyncratic risk varies over the business cycle and households have preference for early resolution of uncertainty, asset prices will be affected not only by news about current and expected future aggregate consumption (as in models with a representative agent), but also by news about current and future changes in cross-sectional distribution of individual consumption. I investigate whether this additional effect can help to explain high risk premia in a production economy, where the aggregate consumption process is endogenous and thus can potentially be affected by the presence of idiosyncratic risk. Analyzing a neoclassical growth model combined with Epstein-Zin preferences and a tractable form of household heterogeneity, I find that countercyclical idiosyncratic risk increases the risk premium, but also effectively lowers willingness of households for intertemporal substitution and thus changes dynamics of aggregate consumption. Nevertheless, with the added flexibility of EpsteinZin preferences, it is possible to both increase risk premia and maintain the same dynamics of quantities if we allow for higher intertemporal elasticity of substitution at the individual level.Creation-Date: 2018-06 |
| Keywords: | incomplete markets; idiosyncratic risk; production economy; risk premium; |
| JEL: | E13 E21 E44 G12 |
| URL: | http://d.repec.org/n?u=RePEc:cer:papers:wp620&r=dge |
| By: | Alvaro Aguirre (Central Bank of Chile) |
| Abstract: | This paper pursues a welfare analysis of fiscal policy, specifically public spending, in an economy with heterogenous agents and incomplete markets. The main quantitative exercise consists in measuring the gains of switching from the (procyclical) spending path of the typical developing country to an acyclical or countercyclical path. The model emphasizes the role of transfer payments from the government to households in alleviating the costs of idiosyncratic shocks. Since these correlate with aggregate shocks, the way fiscal policy is conducted along the business cycle has important welfare effects. I find that the costs of procyclicality are relatively large and very heterogeneous. While wealth-rich agents don’t suffer from procyclicality, poor agents, being either unemployed or unskilled, lose the most. In terms of life-time consumption equivalents these agents may lose as much as 2% from fiscal procyclicality, considering only the fraction of spending that is allocated as transfer payments |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:146&r=dge |
| By: | Georg Duernecker (University of Munich); Berthold Herrendorf (Arizona State University) |
| Abstract: | We study the role that barriers to entry into occupations play for the reallocation of labor across sectors and for hours worked in the market in the US and Germany. We document that relative to the US, Germany has stricter degree requirements in many occupations and has lower employment shares in occupations in which it has stricter education requirements. We quantify the implications of such barriers to entry into occupation for labor market outcomes in an overlapping-generations model in which individuals choose their sector and occupation. We calibrate the model to match the US structural transformation and the changes in the distribution of the employment shares of occupations. We then feed the stricter German degree requirements into the otherwise unchanged model. We find that as a result Germans in the model work considerably fewer hours than Americans in the service sector in particular and in the market in general. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:1323&r=dge |
| By: | Gustavo Leyva (Banco de Mexico); Carlos Urrutia (ITAM) |
| Abstract: | We analyze the joint impact of employment protection and informality on macroeconomic volatility and the propagation of shocks in emerging economies. For this, we propose a small open economy business cycle model with frictional labor markets, employment protection and an informal sector, modeled as self-employment. The model is calibrated to the Mexican economy, in particular to business cycle moments for employment and informality obtained from our own calculations with the ENOE survey. We show that interest shocks, which affect specifically job creation in the formal sector, are key to obtain a counter-cyclical informality rate. In our model, confronted with similar shocks, the economy without an informal sector features higher macroeconomic volatility. However, an economy with low levels of employment protection would experience larger volatility in employment but smaller TFP and output fluctuations. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:587&r=dge |
| By: | Andreas Gulyas (University of Mannheim) |
| Abstract: | Studying wage inequality requires understanding how workers and firms match. I propose a novel strategy to identify the complementarities in production between unobserved worker and firm attributes, based on the idea that positive (negative) sorting implies that firms upgrade (downgrade) their workforce quality when they grow in size. I use German matched employer-employee data to estimate a search and matching model with worker-firm complementarities, job-to-job transitions, and firm dynamics. The relationship between changes in workforce quality and firm growth rates in the data informs the strength of complementarities in the model. Thus, this strategy bypasses the lack of identification inherent to environments with constant firm types. I find evidence of negative sorting and a significant dampening effect of worker-firm complementarities on wage inequality. Worker and firm heterogeneity, differential bargaining positions, and sorting contribute 71%, 20%, 32% and -23% to wage dispersion, respectively. Reallocating workers across firms to the first-best allocation without mismatch yields an output gain of less than one percent. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:856&r=dge |
| By: | Adrien Auclert (Stanford); Ludwig Straub (MIT); Matthew Rognlie (Northwestern University) |
| Abstract: | We demonstrate the importance of intertemporal marginal propensities to consume (IMPCs) in the transmission mechanism of macroeconomic shocks. We show that IMPCs are sufficient statistics for propagation, amplification, and the determinacy of general equilibrium outcomes. Incomplete markets models with precautionary savings and borrowing constraints capture the shape of IMPCs in the data, while alternative models with complete markets, overlapping generations, or hand to mouth agents cannot. Calibrating our model to existing evidence on IMPCs, we find that Taylor rules can ensure determinacy with a coefficient on inflation moderately less than 1, and that policies that frontload spending, such as tax cuts and deficit-financed government expenditure increases, have powerful multiplier effects. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:999&r=dge |
| By: | Pablo D'Erasmo (FRB Philadelphia); Dean Corbae (University of Wisconsin) |
| Abstract: | We develop a model of banking industry dynamics to study the quantitative impact of capital requirements on bank risk taking, commercial bank failure, and market structure. We propose a market structure where big banks with market power interact with small, competitive fringe banks. Banks face idiosyncratic funding shocks as well as aggregate shocks to the fraction of performing loans in their portfolio. A nontrivial size distribution of banks arises out of endogenous entry and exit, as well as banks' buffer stock of net worth. We test the model using business cycle properties and the bank lending channel across banks of different sizes. We then conduct a series of counterfactuals (including countercyclical requirements and size contingent (e.g. SIFI) requirements). We find that regulatory policies can have an important impact on market structure itself. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:1221&r=dge |
| By: | Bora Durdu (Federal Reserve Board); Molin Zhong (Federal Reserve Board) |
| Abstract: | Shadow banks have played an increasing role in the intermediation of credit as well as transmission of shocks to the rest of the economy over the last two decades. We examine the implications of these banks using a medium-scale DSGE model in which shadow banks differ from commercial banks in two aspects. First, shadow banks do not face capital requirements. Second, these banks do not receive deposit insurance from the government. Using the model, we highlight that shadow banks can mitigate the effects of an increase in capital requirements. A one percentage point increase in capital requirements leads to an annualized decline from 0.75% to around 0.05% in commercial bank default rates in the longer run. These declines in default rates are achieved with modest declines in economic activity; the change in capital requirement leads to a short-run decline in GDP of 0.6%, a long-run decline of 0.2%, and a total lending decline of 0.9%. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:482&r=dge |
| By: | Serdar Birinci (University of Minnesota); Kurt Gerrard See (University of Minnesota) |
| Abstract: | We study optimal unemployment insurance (UI) over the business cycle using a tractable heterogeneous agent job search model that features labor productivity driven business cycles and incomplete asset markets, and find that UI policy should be countercyclical. In this framework, besides providing consumption insurance upon job loss, generous UI payments allow individuals to maintain similar consumption levels even during recessions, when they would otherwise have had to accumulate savings by reducing consumption. Moreover, the presence of borrowing constraints disciplines the unemployed’s job search behavior, thus offsetting some of the moral hazard costs introduced by the generous UI payments in downturns. Even when the opportunity cost of employment is set to be high, these channels remain active to preserve the countercyclicality of the optimal UI policy. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:69&r=dge |
| By: | Boragan Aruoba (University of Maryland); Dun Jia (Renmin University of China); Felipe Saffie (University of Maryland) |
| Abstract: | This paper distinguishes three concepts that are usually commonly referred as uncertainty: i) real uncertainty or the increase in dispersion of productivity, ii) informational uncertainty or the decrease in the precision of a common signal, and iii) disagreement or the decrease in the precision of idiosyncratic signals of rms. A simple dynamic labor search model is used to analytically show that these concepts have dierent implications for aggregate outcomes and for the distributio of rm-level outcomes. These dierences are used in a DSGE labor-search model to identify and quantify each form of uncertainty in the United States over the last 30 years. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:490&r=dge |
| By: | David Kohn (Universidad Catolica de Chile); Fernando Leibovici (Federal Reserve Bank of St. Louis); Michal Szkup (The University of British Columbia) |
| Abstract: | We study the role of financial frictions and balance-sheet effects in account- ing for the dynamics of aggregate exports, output, and investment in large devaluations. We investigate a small open economy with heterogeneous firms and endogenous export decisions, in which firms face financing constraints and debt can be denominated in foreign units. We find that these channels can explain only a small fraction of the dynamics of exports observed in the data since financially-constrained exporters increase exports by reallocating sales across markets. We show analytically the role of this mechanism on exports adjustment and document its importance using plant-level data. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:949&r=dge |
| By: | Maximiliano Dvorkin (Federal Reserve Bank of St. Louis); Emircan Yurdagul (uc3m); Horacio Sapriza (Federal Reserve Board); Juan Sanchez (Federal Reserve Bank of St. Louis) |
| Abstract: | Sovereign debt crises generally involve debt restructurings characterized by debt maturity extensions, delayed payments, face-value haircuts, and temporary financial autarky. We develop a novel quantitative model of endogenous sovereign debt maturity choice and restructuring that rationalizes the debt dynamics observed around distressed debt restructurings. The use of dynamic discrete choice solution methods allows us to smooth the borrower's decision rules on default and debt portfolio choices, rendering the problem tractable. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:1273&r=dge |
| By: | Bruno Chiarini; Maria Ferrara; Elisabetta Marzano |
| Abstract: | This paper examines the role of tax evasion in explaining the business cycle in a DSGE model with a financial accelerator. For this purpose, we assume that financially constrained agents are tax evaders, taking advantage of an additional margin of flexibility in coping with adverse shocks. In this setting, we simulate a risk shock that propagates its effects in the credit channel via the financial accelerator mechanism. The results show that tax evasion is pro cyclical and strengthens the effects of the financial accelerator. Unlike the standard literature, in which tax evasion cushions business cycle fluctuations, here we find that it amplifies macroeconomic fluctuations considerably. |
| Keywords: | tax evasion, financial accelerator, business cycle, risk shocks, DSGE modeling |
| JEL: | E32 E44 H26 |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:ces:ceswps:_7169&r=dge |
| By: | Georg Duernecker (University of Munich); Berthold Herrendorf (Arizona State University) |
| Abstract: | The currency in which international prices are set is a factor of fundamental importance in international economics: it determines the benefits of floating versus pegged exchange rates and the spillover effects of national monetary policy on other economies. However, the standard assumption in existing models - that all prices are set in a currency of either the producer or the consumer - is inconsistent with two basic facts: the dominant status of the dollar in global trade and the radical transformation of the price system over history. In this paper, I develop a general equilibrium multi-country framework with endogenous currency choice that is consistent with thess of occupations. We then feed the stricter German degree requirements into the otherwise unchanged model. We find that as a result Germans in the model work considerably fewer hours than Americans in the service sector in particular and in the market in general. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:89&r=dge |
| By: | Kartik Athreya (Federal Reserve Bank of Richmond); Jose Mustre-del-Rio (Federal Reserve Bank of Kansas City); Juan Sanchez (Federal Reserve Bank of St. Louis) |
| Abstract: | Using recently available proprietary panel data, we show that while many (35%) US consumers experience financial distress at some point in the life cycle, most of the events of financial distress are primarily concentrated in a much smaller proportion of consumers in persistent trouble. Roughly 10% of consumers are distressed for more than a quarter of the life cycle, and less than 10% of borrowers account for half of all distress events. These facts can be largely accounted for in a straightforward extension of a workhorse model of defaultable debt that accommodates a simple form of heterogeneity in time preference but not otherwise. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:308&r=dge |
| By: | Gregory Casey (Brown University) |
| Abstract: | To examine the relationship between technological progress and unemployment, I study a model that features putty-clay production, directed technical change, and wage bargaining. The first goal of this project is to understand the forces that deliver a constant steady state unemployment rate in the presence of labor-saving technical change. Labor-saving technical change increases unemployment, which lowers wages and creates incentives for future investment in labor-using technologies. In the long run, this interaction generates a balanced growth path that is observationally equivalent to that of the standard neoclassical growth model, except that is also incorporates a positive steady state level of unemployment. The second goal is to understand the effects of technological breakthroughs that permanently lower the cost of creating new labor-saving technologies. Breakthroughs lead to faster growth in output per worker and wages, but also yield higher long-run unemployment and a lower labor share of income. Despite increasing the speed of technological progress, breakthroughs also slow economic growth in the short-run. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:302&r=dge |
| By: | Thomas Hintermaier (Economics, Univ Bonn); Winfried Koeniger (University of St.Gallen) |
| Abstract: | This paper quantifies the extent of heterogeneity in consumption responses to changes in real interest rates and relative house prices in the four largest economies in the euro area: France, Germany, Italy and Spain. We first calibrate a life-cycle incomplete-markets model with a liquid financial asset and illiquid housing to match the large heterogeneity of households asset portfolios, observed in the Household Finance and Consumption Survey (HFCS) for these countries. We then show that the heterogeneity in household finances implies that responses of non-housing consumption to changes in the real interest rate and in house prices differ substantially across the analyzed countries, and across age groups within these countries. The different consumption responses to changes in the real interest rate point towards important heterogeneity in monetary-policy transmission within the euro area. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:405&r=dge |
| By: | Franz Hamann (Banco de la República); Enrique Mendoza (University of Pennsylvania); Paulina Restrepo-Echavarria (Federal Reserve Bank of St Louis) |
| Abstract: | In this paper we document the stylized facts about the relationship between international oil price swings, sovereign risk and macroeconomic performance of oil-exporting economies. We show that even though being a bigger oil producer decreases sovereign risk–because it increases a country’s ability to repay–having more oil reserves increases sovereign risk by making autarky more attractive. We develop a small open economy model of sovereign risk with incomplete international financial markets, in which optimal oil extraction and sovereign default interact. We use the model to understand the mechanisms behind the empirical facts. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:1235&r=dge |
| By: | Fernando Martin (Federal Reserve Bank of St. Louis) |
| Abstract: | Societies design institutions to restrict the behavior of undisciplined governments, which often take the form of simple policy constraints: monetary policy targets, limits on the deficit and debt ceilings. I study their relative effectiveness in a dynamic stochastic model where fiscal and monetary policy are jointly determined. For a variety of aggregate shocks considered, the best policy is always to impose a minimum primary surplus. For an economy calibrated to the postwar US, the surplus should be about half a percent of output. Most welfare gains arise from constraining government behavior during normal times, which to a large extent is sufficient to discipline policy in adverse times. Monetary policy targets are not generally desirable as they hinder the ability of governments to smooth distortions. Allowing for the effective use of inflation to affect the real value of public debt is a critical component of good institutional design. Debt ceilings are benign, but always dominated by deficit constraints. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:267&r=dge |
| By: | Abdellah Manadir; Kevin Moran |
| Abstract: | This paper compares the environments in Bernanke et al. (1999) and Gertler and Karadi (2011), two popular frameworks used to incorporate financial frictions in macroeconomic modelling. We show that the key practical difference between the two frameworks lies in their implications for the link between leverage and expected future spreads of capital returns over safe rates: while the former pairs leverage to one-period-hence such spreads, the latter connects it to a distributed lag of all future spreads. We argue that this difference between the two frameworks is more crucial than the distinction often discussed in the literature, which is related to the specific location of the friction on the borrower-intermediary-entrepreneur financing chain. The paper then compares quantitative versions of the frameworks, estimated using Bayesian procedures and decoupling parameter settings related to steady states from those involving the economy’s dynamic solution around that steady state. We find that when this flexible approach in used, the friction proposed by Gertler and Karadi (2011), which emphasize long-term forward-looking behavior in the leverage equation, is preferred by aggregate data. |
| Keywords: | Financial frictions, DSGE Models, Bayesian estimation. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:lvl:crrecr:1816&r=dge |
| By: | Jeremy Greenwood (University of Pennsylvania); Juan Sanchez (Federal Reserve Bank of St. Louis); Pengfei Han (University of Pennsylvania) |
| Abstract: | The relationship between venture capital and growth is examined using an endogenous growth model incorporating dynamic contracts between entrepreneurs and venture capitalists. At each stage of fi nancing, venture capitalists evaluate the viability of startups. If viable, VCs provide funding for the next stage. The success of a project depends on the amount of funding. The model is confronted with stylized facts about venture capital; viz., statistics by funding round concerning the success rate, failure rate, investment rate, equity shares, and the value of an IPO. Raising capital gains taxation reduces growth and welfare. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:1204&r=dge |
| By: | Sedlacek, Petr; Sterk, Vincent |
| Abstract: | The 2017 Tax Cuts and Jobs Act slashed tax rates on business income and introduced immediate expensing of investments. Using a quantitative heterogeneous firms model, we investigate the long-run effects of such tax reforms on firm dynamics. We find that they can substantially increase business dynamism, potentially off-setting the large decline in the U.S. startup rate observed over recent decades. This result is driven by indirect equilibrium forces: the tax reform stimulates firm entry, leading to an increase in labor demand and wages, which in turn makes firm selection more stringent. Related to this is a large boost of the number of firms and of aggregate output, investment and employment. |
| JEL: | D21 E22 E24 H25 |
| Date: | 2018–07 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:13073&r=dge |
| By: | Christian Heyerdahl-Larsen (London Business School); Philipp Illeditsch (Carnegie Mellon University, Tepper Schoo) |
| Abstract: | Classical asset pricing models fail to account for the low correlation between macroeconomic fundamentals and (i) stock market returns and (ii) trading volume observed in the data. We develop an overlapping generations model with log utility investors who have heterogeneous time preferences and disagree about investors’ future time preferences and, thus, their future demands. There is speculative trade because investors perceive demand shocks differently and, thus, even in the absence of Merton’ type hedging demands or early resolution of uncertainty, these demand shocks, which are independent of output shocks, are priced in equilibrium. Our demand disagreement model can reconcile time-varying risk-free rates, excess stock market volatility, and the predictability of stock market returns by the price- dividend ratio, with a low correlation between macroeconomic fundamentals and both asset prices and trading volume. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:607&r=dge |
| By: | Javier Bianchi (Federal Reserve Bank of Minneapolis); Cesar Sosa-Padilla (Notre Dame) |
| Abstract: | We study the use of foreign reserves for macroeconomic stabilization purposes in a small open economy. Three key features characterize our model economy: (i) nominal rigidities, (ii) fixed exchange rates, and (iii) sovereign default risk. We argue that these features are prevalent in a large number of emerging economies. In this setup, reserve accumulation not only serves a precautionary role (hedging against roll-over risk) but it is also useful for macro-stabilization goals: in bad times, when aggregate demand is low, involuntary unemployment arises and output is low, the country can use (i.e. run down) its reserves to boost aggregate demand and output. We study the country’s optimal external portfolio composition (debt and reserves), how the stabilization property of reserves interacts with the typical precautionary role, and how this affects the country’s default incentives. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:1166&r=dge |
| By: | Juan Carlos Conesa; Bo Li; Qian Li |
| Abstract: | We evaluate a reform of the US tax system switching to consumption taxation instead of income taxation. We do so in an environment that allows for progressivity of consumption taxes through differential tax rates between basic and non-basic consumption goods. The optimal tax system involves substantial subsidies to the consumption of basic goods. We find large efficiency gains in the long run, with a very small increase in inequality. However, once we consider the transitional dynamics associated to the reform, only very low productivity households and a handful of high productivity low wealth households experience welfare gains. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:nys:sunysb:18-09&r=dge |
| By: | Haozhou Tang (Bank of Mexico) |
| Abstract: | This paper studies the macroeconomic effects of asset bubbles from the perspective of firms. I introduce bubbles into a model with firm heterogeneity and firm entry and exit: in a bubbly equilibrium, the price of a firm contains a fundamental component, which represents the net present value of profits, and a bubble component. I show that bubbles act as subsidies to new firms and have the following implications: i) bubbles lower the average productivity and profitability of new firms; ii) bubbles increase the number of firms, wages, and aggregate output; iii) along transition dynamics, bubbles subsidize new firms rather than incumbents, aggravating misallocation and therefore depressing aggregate productivity. The model can be used to discriminate the alternative explanations of business cycles, like shocks to productivity, and shocks to financial frictions. Firm-level evidence suggests that the Spanish economic expansion before the global financial crisis can be well interpreted as a consequence of a bubble boom, and the recession as an outcome of a bubble crash. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:362&r=dge |
| By: | Carlos Garriga (Federal Reserve Bank of St. Louis); Aaron Hedlund (University of Missouri) |
| Abstract: | This paper analyzes how arrangements in the in the mortgage market impact the dynamics of housing (boom-bust episodes) and the economy using a structural equilibrium model with incomplete markets and endogenous adjustment costs. In response to mortgage rates and credit conditions, the model can generate movements in house prices, residential investment, and homeownership consistent with the U.S. housing boom-bust. The propagation to the macroeconomy is asymmetric with much higher consumption sensitivity during the bust than the boom due to the endogenous fragility caused by mortgage debt. Mortgages with adjustable-rate increase the sensitivity of house prices to credit conditions relative to an economy with fixed-rate loans without refinancing. Macro prudential policies can mitigate fragility by reducing the magnitude of house price movements without curtailing homeownership. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:354&r=dge |
| By: | Aleksandar Vasilev (Independent Researcher) |
| Abstract: | We augment an otherwise standard business cycle model with a richer government sector, and add a modified cash in advance considerations, and one-period-ahead nominal wage contracts. In particular, the cash in advance constraint of Cooley and Hansen (1989) is extended to include private investment and government consumption. This specification, together with the nominal wage rigidity, when calibrated to Bulgarian data after the introduction of the currency board (1999-2016), gives a role to money in propagating economic uctuations. In addition, the combinations of these ingredients allows the framework to reproduce better observed variability and correlations among model variables, and those characterizing the labor market in particular. |
| Keywords: | business cycles, modified cash-in-advance constraint, one-period nominal wage contracts |
| JEL: | E32 |
| Date: | 2018–08 |
| URL: | http://d.repec.org/n?u=RePEc:sko:wpaper:bep-2018-08&r=dge |
| By: | Douglas Gale (New York University); Piero Gottardi (European University Institute) |
| Abstract: | We develop a general equilibrium theory of the capital structures of banks and firms. The liquidity services of bank deposits make deposits a "cheaper" source of funding than equity. Banks pass on part of this funding advantage in the form of lower interest rates to firms that borrow from them. Firms and banks choose their capital structures to balance the benefits of debt financing against the risk of costly default. An increase in the equity of a firm makes its debt less risky and that in turn reduces the risk of the banks who lend to the firm. Hence there is some substitutability between firm and bank equity. We find that firms have a comparative advantage in providing a buffer against systemic shocks, whereas banks have a comparative advantage in providing a buffer against idiosyncratic shocks. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:264&r=dge |
| By: | Qureshi, Irfan |
| Abstract: | Why does low central bank independence generate high macroeconomic instability? A government may periodically appoint a subservient central bank chairman to exploit the inflation-output trade-off, which may generate instability. In a New Keynesian framework, time-varying monetary policy is connected with a “chairman effect.” To identify departures from full independence, I classify chairmen based on tenure (premature exits), and the type of successor (whether the replacement is a government ally). Bayesian estimation using cross-country data confirms the relationship between policy shifts and central bank independence, explaining approximately 25 (15) percent of inflation volatility in developing (advanced) economies. Theoretical analyses reveal a novel propagation mechanism of the policy shock. |
| Keywords: | Financial Economics |
| Date: | 2017–09–09 |
| URL: | http://d.repec.org/n?u=RePEc:ags:uwarer:269096&r=dge |
| By: | INOSE Junya |
| Abstract: | We propose a model of dynamic investment, financing, and risk management with retained earnings. The key contribution of this chapter is to provide a dynamic model which explicitly includes retained earnings and equity issuance costs as friction. To consider the retained earnings explicitly, we describe the dynamics of both the asset and liability section of the balance sheet, i.e., cash holdings and (physical) property in the asset section, and stock and retained earnings in the equity section. Our key results are: (1) the firm retains its earnings when its productivity is high and cash-capital ratio is low, and (2) the optimal rate of cash holdings increases when the volatility of productivity shock is high and decreases when risk-neutral mean productivity shock is low. |
| Date: | 2018–08 |
| URL: | http://d.repec.org/n?u=RePEc:eti:dpaper:18052&r=dge |
| By: | Enrique Mendoza (Department of Economics, University of Pennsylvania) |
| Abstract: | Macroprudential policy holds the promise of becoming a powerful tool for preventing financial crises. Financial amplification in response to domestic shocks or global spillovers and pecuniary externalities caused by Fisherian collateral constraints provide a sound theoretical foundation for this policy. Quantitative studies show that models with these constraints replicate key stylized facts of financial crises, and that the optimal financial policy of an ideal constrained-efficient social planner reduces sharply the magnitude and frequency of crises. Research also shows, however, that implementing effective macroprudential policy still faces serious hurdles. This paper highlights three of them: (i) complexity, because the optimal policy responds widely and non-linearly to movements in both domestic factors and global spillovers due to regime shifts in global liquidity, news about global fundamentals, and recurrent innovation and regulatory changes in world markets, (ii) lack of credibility, because of time-inconsistency of the optimal policy under commitment, and (iii) coordination failure, because a careful balance with monetary policy is needed to avoid quantitatively large inefficiencies resulting from violations of Tinbergen’s rule or strategic interaction between monetary and financial authorities. |
| JEL: | E0 F0 G0 |
| Date: | 2016–10–24 |
| URL: | http://d.repec.org/n?u=RePEc:pen:papers:16-020&r=dge |
| By: | Jasmine Xiao (University of Notre Dame) |
| Abstract: | This paper documents two facts on the Great Recession. First, public firms that switched from bank finance to bond finance actually experienced a slower recovery in investment, despite having no shortage of credit compared to those that did not switch. Second, their debt substitution was accompanied by a substantial increase in cash holdings. As firms substitute toward bonds when bank lending is impaired, they lose the ability to restructure debt to avoid default. Debt substitution thus strengthens firms’ precautionary incentive to simultaneously increase cash holdings at the expense of investment, as they optimally trade-off growth against self-insurance. Model simulations suggest that this “precautionary savings” channel can account for a substantial fraction of the decline in aggregate investment in the recent recession. I show that embedding balance sheet adjustment in a business-cycle model improves the model’s amplification, and helps to disentangle shocks to credit demand from shocks to credit supply. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:887&r=dge |
| By: | Stephane Auray (CREST-Ensai and ULCO); Aurelien Eyquem (GATE, Universit\'e Lumiere Lyon 2, Institut Universitaire de France); Paul Gomme (Concordia University and CIREQ) |
| Abstract: | We solve the Ramsey-optimal tax plan for a small open economy with an endogenously-determined real exchange rate. The open economy constrains the government's setting of the capital income tax rate since physical capital cannot be dominated in rate of return by foreign assets. However, the endogenous real exchange rate loosens this constraint relative to a one good open economy model in which the real exchange rate is necessarily fixed. We find that, the dynamics of the two good small open economy model more closely resemble those of a closed economy model than a one good small open economy model. |
| Keywords: | optimal fiscal policy, tax reforms, welfare |
| JEL: | E32 E52 F41 |
| Date: | 2018–08 |
| URL: | http://d.repec.org/n?u=RePEc:crd:wpaper:18001&r=dge |
| By: | Sanjay Singh (University of California, Davis) |
| Abstract: | We analyze the implications for monetary policy when deficient aggregate demand can cause a permanent loss in potential output, a phenomenon termed as output hysteresis. We incorporate Schumpeterian endogenous growth into a business cycle model with nominal rigidities. In the model, incomplete stabilization of a temporary shortfall in demand reduces the return to innovation, thus reducing R&D and producing a permanent loss in output. Output hysteresis arises under a standard Taylor rule, but not under a strict inflation targeting rule when the nominal interest rate is away from the zero lower bound (ZLB). At the ZLB, a central bank unable to commit to future policy actions suffers from hysteresis bias: it does not offset past losses in potential output. A new policy rule that targets zero output hysteresis approximates the optimal policy by keeping output at the first-best level. Estimated structural impulse response functions for key variables align with predictions of the model. A quantitative model provides evidence of significant output hysteresis resulting from endogenous growth over the Great Recession. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:554&r=dge |
| By: | Jean-Bernard Chatelain (PSE - Paris School of Economics, PJSE - Paris Jourdan Sciences Economiques - UP1 - Université Panthéon-Sorbonne - ENS Paris - École normale supérieure - Paris - INRA - Institut National de la Recherche Agronomique - EHESS - École des hautes études en sciences sociales - ENPC - École des Ponts ParisTech - CNRS - Centre National de la Recherche Scientifique); Kirsten Ralf (ESCE – International Business School) |
| Abstract: | Giannoni and Woodford (2003) found that the equilibrium determined by com- mitment to a super-inertial rule (where the sum of the parameters of lags of interest rate exceed ones and does not depend on the auto-correlation of shocks) corresponds to the unique bounded solution of Ramsey optimal policy for the new-Keynesian model. By contrast, this note demonstrates that commitment to an inertial rule (where the sum of the parameters of lags of interest rate is below one and depends on the auto-correlation of shocks) corresponds to the unique bounded solution. |
| Keywords: | Ramsey optimal policy,Interest rate smoothing,Super-inertial rule,Inertial rule,New-Keynesian model |
| Date: | 2018–08 |
| URL: | http://d.repec.org/n?u=RePEc:hal:psewpa:halshs-01863367&r=dge |
| By: | George-Marios Angeletos (M.I.T.); Zhen Huo (Yale University) |
| Abstract: | We characterize the equilibrium dynamics of a class of linear, incomplete-information models that feature forward-looking behavior, recurring shocks, slow learning, and rich higher-order uncertainty. We present an observational equivalence result that recasts this dynamics as that of representative-agent model featuring two distortions: extra discounting of the future; and anchoring of the current outcome to the past outcome, as in models with habit or adjustment costs. This provides a unified micro-foundation of various bells and whistles that the literature has used in order to match salient features of the macroeconomic time series. Furthermore, the as-if distortions are predicted to be more pronounced at the macro level than at the micro level, helping explain the disconnect between micro and macro estimates of consumption habit. We finally illustrate the quantitative potential of our insights in the context of inflation. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:236&r=dge |
| By: | Michael Lee (Federal Reserve Bank of New York); Daniel Neuhann (UT Austin, McCombs School of Business) |
| Abstract: | We develop a tractable dynamic model of collateralized lending in which the degree of adverse selection evolves endogenously due to moral hazard. We use this model to study how government interventions designed to boost liquidity in frozen markets af- fect private incentives to maintain high-quality assets. We show that small interventions can lead to “intervention traps” – expectations concerning future interventions destroy private incentives to improve the quality of collateral, which stunts recovery and war- rants continued market intervention – even when they restore market liquidity. Bigger interventions may lead to faster recoveries, and it may be efficient to continue to inter- vene even after market liquidity is restored. This runs counter to previous findings in static environments where it is optimal to keep interventions as small as possible, and to intervene only when markets are illiquid. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:840&r=dge |
| By: | Baris Kaymak (Universite de Montreal); Immo Schott (Université de Montréal) |
| Abstract: | We document a strong empirical connection between corporate taxation and the labor’s share of income in the manufacturing sector across OECD countries. The estimates indicate that the decline in corporate taxes is, on average, associated with 40% of the observed decline in labor’s share. We then present a model of industry dynamics where firms differ in their capital intensity as well as their productivity. A drop in the corporate tax rate reduces the labor share by shifting the distribution of production towards capital intensive firms. Industry con- centration rises as a result, and firm entry falls, consistent with the US experience documented in Kehrig and Vincent (2017) and Autor et al. (2017). Calibration of the model to the US economy indicates that corporate tax cuts explain at least a third of the decline in labor’s share in the US manufacturing industry. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:943&r=dge |
| By: | Danial Lashkari (Yale University) |
| Abstract: | This paper constructs a theory of industry growth through innovation and selection-driven creative destruction. Firms’ ideas determine their productivity and stochastically evolve over time. Firms innovate to improve their ideas and endogenously exit if unsuccessful. Entrants adopt the ideas of incumbents. In this model, when better ideas are innovated or adopted, they selectively replace worse ideas. Innovation externalities vary based on firm productivity: ideas generated by more productive firms create 1) longer-lasting positive externalities due to knowledge diffusion and 2) stronger negative externalities due to dynamic displacement of other firms. Therefore, the net external effect of innovation on aggregate productivity is heterogeneous and market equilibrium misallocates investments across firms. The solution to the social planner's problem suggests that optimal innovation policy instruments should depend on firm productivity. Quantitatively, the misallocations are large when the model is calibrated to firm-level data from US manufacturing and retail trade, and imply first-order considerations for the design of innovation policy. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:337&r=dge |
| By: | Douglas Gale (New York University); Andrea Gamba (University of Warwick); Marcella Lucchetta (Universita Ca' Foscari) |
| Abstract: | We study optimal bank regulation in an economy with aggregate uncertainty. Bank liabilities are used as “money” and hence earn lower returns than equity. In laissez faire equilibrium, banks maximize market value, trading off the funding advantage of debt against the risk of costly default. The capital structure is not socially optimal because external costs of distress are not internalized by the banks. The constrained efficient allocation is characterized as the solution to a planner’s problem. Efficient regulation is procyclical, but countercyclical relative to laissez faire. We show that simple leverage constraints can get the decentralized economy close to the constrained efficient outcome. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:680&r=dge |
| By: | Yuemei Ji |
| Abstract: | Serial correlation in macroeconomics is pervasive. Macroeconomic modellers find it impossible to model this feature without relying on serially correlated shocks. Using a behavioral macroeconomic model, I show that serial correlation in inflation and output can easily be explained in the context that agents do not have rational expectation. This important feature is missing in the standard New Keynesian rational expectations models. The rational expectation models need serially correlated exogenous shocks to account for the high serial correlation in inflation and output while the behavioral model produces serial correlation in these variables endogenously. I also show that inertia in the beliefs about the future is a strong force in producing the serial correlation in inflation and output. |
| Keywords: | behavioral macroeconomics, serial correlation, inflation, output gap, inertia in belief, endogenous business cycle |
| JEL: | E00 |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:ces:ceswps:_7181&r=dge |
| By: | Joachim Jungherr (IAE (CSIC), MOVE, and Barcelona GSE); Immo Schott (Université de Montréal) |
| Abstract: | We introduce risky long-term debt to a standard model of firm financing and investment. This allows us to identify a novel amplification mechanism: the Long-term Debt Accelerator. A negative shock triggers an adverse feedback loop between low investment and high credit spreads. Relative to a frictionless RBC setup, the Long-term Debt Accelerator amplifies shocks by about 160%. This amplification mechanism is absent from standard models including only short-term debt. Negative shocks are more severe than positive shocks of equal size and amplification is stronger for larger shocks. If fundamental volatility is lower and firms accumulate more debt, recessions become more severe. The Long-term Debt Accelerator is in line with the empirically observed cyclical behavior of credit spreads, leverage, and debt maturity. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:961&r=dge |
| By: | Paul Klein (Stockholm University); Gustavo Ventura (Arizona State University) |
| Abstract: | We examine the role of fiscal policy in accounting for the remarkable rise of Ireland from one of Western Europe's poorest countries to one of its richest in just a few years. We focus on the importance of business tax reform and changes in the size of government, in conjunction with other factors, which we model as a residual rise in Total Factor Productivity (TFP). We conduct our analysis using a two-sector, small-open economy model where production requires tangible and intangible capital services, and where inflows of capital are limited by a collateral constraint. We find that the much discussed reductions of business taxes played a significant, but secondary, role in the Irish miracle. However, tax reform and other changes strongly reinforce each other. We also find that Ireland's openness to capital movements was crucial: under the same driving forces, a closed economy would have experienced a much slower and significantly smaller rise in GDP. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:282&r=dge |
| By: | Jack Favilukis; Pierre Mabille (New York University); Stijn Van Nieuwerburgh (New York University) |
| Abstract: | Housing affordability has become one of the main policy challenges for the major cities of the world. Two key policy levers are zoning and rent control policies. We build a new dynamic equilibrium asset pricing model to evaluate the implications of such policies for house prices, rents, production and income, residential construction, income and wealth inequality, as well as the spatial distribution of households within the city. We calibrate the model to New York City, incorporating current zoning and rent control systems. Our model suggests large welfare gains from relaxing zoning regulations in Manhattan, and more modest gains from reducing the size of the rent control program. The former policy is progressive and a Pareto improvement, while rent control reform is regressive in nature and hurts the current beneficiaries. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:867&r=dge |
| By: | Sophie Osotimehin (University of Virginia); Latchezar Popov (Texas Tech University) |
| Abstract: | We study the effects of distortions in the use of primary and intermediate inputs on aggregate productivity. We show analytically how the aggregate productivity loss from distortions depends on the input-output structure of the economy and the degree of complementarity between inputs. We find that the production network does not systematically amplify the aggregate productivity loss, and that higher complementarity between inputs reduce the effects of distortions. Then, we apply our framework to quantify the effects of distortions caused by market power. Calibrated on Mexican industry-level data, the model suggests that reducing industry-level markups in Mexico to the US levels could raise aggregate TFP by as much as 15 percent. The TFP gain is as much as 5 times larger than without input-output linkages. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:561&r=dge |
| By: | Haroon Mumtaz (Queen Mary University of London); Ahmed Pirzada (University of Bristol); Konstantinos Theodoridis (Cardiff Business School) |
| Abstract: | This paper uses a panel Threshold VAR model to estimate the regime-dependent impact of oil shocks on stock prices. We find that an adverse oil supply shock has a negative effect on stock prices when oil inflation is low. In contrast, this impact is negligible in the regime characterised by higher oil price inflation. Using a simple DSGE model, we suggest that the explanation for this result may be tied to the behaviour of credit spreads. When oil inflation is low, lower policy rates encourage firms to get highly leveraged. A negative oil shock in this scenario leads to a substantial increase in spreads, reducing profits and equity prices. In contrast, at higher rates of inflation, spreads are less affected by the oil shock, ameliorating the impact on the stock market. |
| Keywords: | Threshold VAR, Hierarchical Prior, DSGE model, Oil shocks |
| Date: | 2018–08–24 |
| URL: | http://d.repec.org/n?u=RePEc:qmw:qmwecw:865&r=dge |
| By: | Guillaume R. Fréchette; Alessandro Lizzeri; Tobias Salz |
| Abstract: | This paper presents a dynamic general equilibrium model of a taxi market. The model is estimated using data from New York City yellow cabs. Two salient features by which most taxi markets deviate from the efficient market ideal are, first, matching frictions created by the need for both market sides to physically search for trading partners, and second, regulatory limitations to entry. To assess the importance of these features, we use the model to simulate the effect of changes in entry, alternative matching technologies, and different market density. We use the geographical features of the matching process to back out unobserved demand through a matching simulation. This function exhibits increasing returns to scale, which is important to understand the impact of changes in this market and has welfare implications. For instance, although alternative dispatch platforms can be more efficient than street-hailing, platform competition is harmful because it reduces effective density. |
| JEL: | J22 L0 L5 L91 |
| Date: | 2018–08 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:24921&r=dge |
| By: | Maria Ferreyra (The World Bank); Angelica Sanchez Diaz (World Bank); Carlos Garriga (Federal Reserve Bank of St. Louis) |
| Abstract: | This paper evaluates the general equilibrium effects of alternative college funding regimes, including free college and non-defaultable student loans. Our analysis suggests that the number of years that takes to break-even in the returns to college is substantially lower than in developed economies. Endogenizing the returns to education shows that policies that increase college graduation rates reduce the skill premium. This reduction is magnifi ed by the increase in the compensation to high school graduates, but the quantitative effects are very small and take years to realize. Incentive based-policies are more effective that universal policies like free tuition. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:1282&r=dge |
| By: | Bayer, Christian; Luetticke, Ralph |
| Abstract: | This paper describes a method for solving heterogeneous agent models with aggregate risk and many idiosyncratic states formulated in discrete time. It extends the method proposed by Reiter (2009) and complements recent work by Ahn et al. (2017) on how to solve such models in continuous time. We suggest first solving for the stationary equilibrium of the model without aggregate risk. We then write the functionals that describe the recursive equilibrium as sparse expansions around their stationary equilibrium counterparts. Finally we use the perturbation method of Schmitt-Grohé and Uribe (2004) to approximate the aggregate dynamics of the model. |
| Keywords: | Heterogeneous Agent Models; incomplete markets; linearization; Numerical Methods |
| JEL: | C63 E32 |
| Date: | 2018–07 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:13071&r=dge |
| By: | Tetsuo Ono (Graduate School of Economics, Osaka University) |
| Abstract: | This study considers two fiscal rules, a debt rule that controls the debt-to- GDP ratio, and an expenditure rule that controls the expenditure-to-GDP ratio, in a monetary growth model with financial intermediation. Tightening fiscal rules promotes economic growth and thus benefits future generations. However, there could be two equilibria of the nominal interest rates, and the welfare effects of the rules on the current generation are different between the two equilibria. In particular, the effects of a decreased debt-to-GDP ratio depend on its initial ratio; a low (high) ratio country has an incentive (no incentive) to reduce the ratio further from the viewpoint of the current generation's welfare. This result offers a reason for difficulties with fiscal reform in countries with already high debt-to-GDP ratios. |
| Keywords: | Fiscal Rule; Government Debt; Economic Growth |
| JEL: | E62 E63 H63 O42 |
| Date: | 2017–08 |
| URL: | http://d.repec.org/n?u=RePEc:osk:wpaper:1827&r=dge |
| By: | Elisabeth Falck (Goethe University Frankfurt); Mathias Hoffmann (Deutsche Bundesbank); Patrick Hürtgen (Deutsche Bundesbank) |
| Abstract: | Time-variation in disagreement about inflation expectations is a stylized fact in survey data, but little is known on how disagreement interacts with the efficacy of monetary policy. In times of high disagreement we estimate that a 100 bps increase in the U.S. policy rate leads to a significant short-term increase in inflation and in inflation expectations of up to 1.0 percentage point, whereas in times of low disagreement we find a significant decline of close to 1.0 percentage point. We reconcile these state-dependent effects with a dispersed information New Keynesian model, where we calibrate the level of disagreement to U.S. data. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:655&r=dge |
| By: | Julio Leal (Banco de México) |
| Abstract: | Which sectors are key for development? I calibrate a multi-sector model with input-output linkages, sector-specific distortions, and heterogeneity in sectorial productivity for the case of Mexico. When these features are taken into account, it turns out that the least efficient sectors are not necessarily those that create more harm on aggregate productivity. I show --through counterfactuals-- that closing the productivity gaps in a subset of highly influential and distorted sectors leads to substantial gains in aggregate productivity, and that the role of Services in Mexico's development problem is larger than previously thought. In addition, several margins in the economy are affected by sector-specific distortions, including labor misallocation. I quantify and decompose the aggregate effect of the removal of these distortions into its main economic channels. The focus on Mexico allows for a more direct link of distortions with policy recommendations. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:571&r=dge |
| By: | Davide Melcangi (University College London) |
| Abstract: | This paper studies the link between firm-level financial constraints and employment decisions, as well as the implications for the propagation of aggregate shocks. I exploit the idea that, when the financial constraint binds, a firm adjusts its employment in response to cash flow shocks. I identify such shocks from changes to business rates, a UK tax based on a periodically estimated value of the property occupied by the firm. A 2010 revaluation implied that similar firms, occupying similar properties in narrowly defined geographical locations, experienced different tax changes, allowing me to control for confounding shocks to local demand. I find that, on average, for every £1 of additional cash flow, 39 pence are spent on employment. I label this response the Marginal Propensity to Hire (MPH). I then calibrate a firm dynamics model with financial frictions towards this empirical evidence. As in the data, small and leveraged firms in the model have a greater MPH. Simulating a tightening of credit conditions, I find that the model can account for much of the decline in UK aggregate output and employment observed in the wake of the financial crisis. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:807&r=dge |
| By: | Manoel Bittencourt (School of Economic and Business Sciences, University of the Witwatersrand, Johannesburg); Rangan Gupta (Department of Economics, University of Pretoria, Pretoria, South Africa); Philton Makena (Department of Economics, University of Pretoria, Pretoria, South Africa); Lardo Stander (Department of Economics, University of Pretoria, Pretoria, South Africa) |
| Abstract: | Since 2006, almost 60 percent of global protest events have been exclusively driven by economic injustice. Standard determinants of socio-political instability reported in the literature, do not fully explain the effect of monetary and fiscal policy decisions on the intended target audience of those policy outcomes. We develop an overlapping generation’s monetary endogenous growth model characterized by socio-political instability, to analyse growth dynamics and specifically, monetary policy outcomes in the presence of this augmentation. Socio-political instability is specified as the fraction of output being lost due to strikes, riots and protests and is positively related to inflation. Interesting, two distinct growth dynamics emerge, one convergent and the other divergent, if socio-political instability is a function of inflation. And by using a sample of 170 countries during the 1980 – 2012 period, and allowing for time and fixed effects, the results indicate that inflation correlates positively with socio-political instability. Policy makers should be cognisant that it is crucial to maintain long-run price stability, as failure to do so may result in high inflation emanating from excessive money supply growth, and high (er) socio-political instability, and ultimately, the economy being on a divergent balanced growth path. |
| Keywords: | Socio-political instability, inflation, endogenous growth, dynamics |
| JEL: | C51 E32 O42 P44 |
| Date: | 2018–08 |
| URL: | http://d.repec.org/n?u=RePEc:pre:wpaper:201855&r=dge |
| By: | Stephen Terry (Boston University); Anastasia Zakolyukina (The University of Chicago); Toni Whited (University of Michigan) |
| Abstract: | Does firms' opportunistic information disclosure affect investment in R&D? To answer this question, we estimate a dynamic model that incorporates a trade-off between R&D investment and accruals manipulation. This trade-off arises because both are effective tools for distorting observable earnings. Distortion incentives stem from the combination of incomplete investor information and short-term manager compensation incentives based on the stock price. These incentives alone hurt shareholder value by 13%. With these incentives in place, regulations preventing information distortion further distort real investment, whose volatility rises by 10%. This excess volatility lowers firm value by 0.5%. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:217&r=dge |
| By: | Titan Alon |
| Abstract: | This paper builds a model of human capital accumulation driven by increasing specialization of the workforce. Individuals increase the efficiency of time dedicated to human capital acquisition by focusing investments on narrower sets of skills. The evolution of secondary and post-secondary curricula in the United States from 1870- 2000 confirms the presence of these changes in the scope of specialization. Quantitative exercises show that specialization can account for roughly 29% of the rise in the skill premium, and 25-30% of the rise in relative educational attainment from 1965-2005. The effect on the skill premium is largely due to a decline in specialization in high school, where vocational training was replaced with academic graduation requirements. The model’s predictions are also consistent with international variation in the skill premium, attainment levels, and the organization of educational institutions. An important policy implication of the analysis is that making room for specialized occupational training in secondary schools could be an effective tool to tackle income inequality. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:497&r=dge |
| By: | Eleanor Dillon (Amherst College); Christopher Stanton (Harvard University) |
| Abstract: | Small business owners and others in self-employment have the option to transition to paid work. If there is initial uncertainty about entrepreneurial earnings, this option increases the expected lifetime value of self-employment relative to pay in a single year. This paper rst documents that moves between paid work and self-employment are common and consistent with experi- mentation to learn about earnings. This pattern motivates estimating the expected returns to entrepreneurship within a dynamic lifecycle model that allows for non-random selection and gradual learning about the entrepreneurial earnings process. The model accurately ts entry patterns into self-employment by age. The option value of returning to paid work is found to constitute a substantial portion of the monetary value of entrepreneurship. The model is then used to evaluate policies that change incentives for entry into self-employment. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:1261&r=dge |
| By: | Galí, Jordi |
| Abstract: | I take stock of the state of New Keynesian economics by reviewing some of its main insights and by providing an overview of some recent developments. In particular, I discuss some recent work on two very active research programs: the implications of the zero lower bound on nominal interest rates and the interaction of monetary policy and household heterogeneity. Finally, I discuss what I view as some of the main shortcomings of the New Keynesian model and possible areas for future research. |
| Date: | 2018–07 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:13095&r=dge |
| By: | Xuewen Liu (HKUST) |
| Abstract: | Diversification through pooling and tranching securities was supposed to mitigate creditor runs in financial institutions by reducing their credit risk, yet many financial institutions holding diversified portfolios experienced creditor runs in the recent financial crisis of 2007-2009. We present a theoretical model to explain this puzzle. In our model, because financial institutions all hold similar (diversified) portfolios, their behavior in the asset market is clustered: they either sell their assets at the same time or collectively do not sell. Such clustering behavior reduces market liquidity after an adverse shock and increases the probability of a panic run by creditors. We show that diversification, while making the financial system more robust against small shocks, increases the possibility of a systemic crisis in the case of a larger shock; diversification, inducing stronger strategic complementarities across institutions, makes a self-fulfilling systemic crisis (multiple equilibria) more likely. Because individual institutions either over-diversify or under-diversity in the competitive equilibrium compared with the social optimum, there is room for regulation. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:739&r=dge |
| By: | Ravi Bansal (Duke University); Amir Yaron (University of Pennsylvania); Colin Ward (University of Minnesota) |
| Abstract: | We empirically show across several broad asset classes that sectoral wealth shares do not positively correlate with their risk premia---a first-order prediction of canonical equilibrium models. We then analyze the roles mean-variance and hedging demand play in accounting for sectoral shifts within a two-sector production economy that features imperfect substitutability across goods and demand shocks. With these two features, the model's performance improves, yet still unsatisfactorily accounts for sectoral shifts in wealth shares. We argue that equilibrium models thus face a challenge to explain the cross-sectional evolution of wealth shares and investors' incentives to hold them over time. |
| Date: | 2018 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed018:599&r=dge |