Showing papers by "Lawrence H. Summers published in 1985"

The Strategic Bequest Motive

Abstract: Although recent research suggests that intergenerational transfers play an important role in aggregate capital accumulation, our understanding of bequest motives remains incomplete. We develop a simple model of strategic bequests in which a testator influences the decisions of his beneficiaries by holding wealth in bequeathable forms and by conditioning the division of bequests on the beneficiaries' actions. The model generates falsifiable empirical predictions that are inconsistent with other theories of intergenerational transfers. We present econometric and other evidence that strongly suggests that bequests are often used as compensation for services rendered by beneficiaries.

Is Increased Price Flexibility Stabilizing

Abstract: This paper uses John Taylor's model of overlapping contracts to show that increased wage and price flexibility can easily be destabilizing because of the Mundell effect. While lower prices increase output, the expectation of falling prices decreases output. Simulations based on realistic parameter values suggest that increases in price flexibility might well increase the cyclical variability of output in the United States. Copyright 1986 by American Economic Association.

Is Increased Price Flexibility Stabilizing

Abstract: This paper uses Taylor's model of overlapping contracts to show that increased wage and price flexibility can easily be destabilizing. This result arises because of the Mundell effect. While lower prices increase output, the expectation of falling prices decreases output. Simulations based on realistic parameter values suggest that increases in price flexibility might bell increase the cyclical variability of output in the United States.

On Economics and Finance

Abstract: THE FIELDS OF ECONOMICS and finance are allied. Indeed finance is sometimes defined as the subfield of economics concerned with intertemporal and portfolio decisions. And yet we are increasingly witnessing the development of two cultures. Researchers in economics examine questions involving financial markets, in ways which seem to researchers in finance to be hopelessly misguided. Much research in finance is regarded by many economists as doctrinaire or trivial. The paper presented by Marsh [1] at these meetings on Euler equation tests of asset pricing models is not atypically partisan. All references to papers written by reearchers located in economics departments are critical. All reference to research by scholars located in finance departments are favorable. Even critical comment by one group of researchers on the work of the other is not terribly common. In many areas, parallel literatures have developed in economics and finance regarding the same questions with virtually no points of contact. There is a public finance and a "regular finance" literature on the role of dividend taxes. There are enormous largely unconnected literatures in both economics and finance about the effects of inflation on interest rates. Parallel literatures on agency theory and the structure of contracts have also emerged in recent years. Industrial organization and financial economists treat the phenomenon of mergers and takeovers in very different ways. The list could be multiplied. Casual observation suggests that most researchers operating in one tradition are almost entirely ignorant of basic concepts in the rival tradition. Researchers in finance who doubt this claim should ask themselves how frequently they have encountered concepts such as the "q < 1" theory of the effects of dividend taxes," "the Mundell-Tobin effect," or self-selection constraints. Economists who doubt this claim might note that several papers are published each year discovering in some particular context the standard finance result that increased variance raises option values. Or they might note how few events studied appear in mainline economics journals. The differences I am discussing may be clarified by considering a field of economics which could but does not exist: ketchup economics. There are two groups of researchers concerned with ketchup economics. Some general economists study the market for ketchup as part of the broader economic system. The other group is comprised of ketchup economists located in Department of Ketchup where they receive much higher salaries than do general economists. Each group has a research program. General economists are concerned with the fundamental determinants of prices and quantities in the ketchup market. They attempt to examine various factors

Poverty in America: is Welfare the Answer or the Problem?

Abstract: This paper reviews the current policies for fighting poverty and explores the impact they have had. We begin by reviewing trends in poverty, poverty spending and economic performance. It is immediately apparent that economic performance is the dominant determinant of the measured poverty rate over the past two decades. Government assistance programs expanded greatly over this period, but the growth in cash assistance was too modest to have major effects, and the large growth in in-kind benefits could not reduce measured poverty since such benefits are not counted as income. Next we focus on three groups: the disabled, female family heads, and unemployed black youth. We find little evidence that government deserves the blame for the problems of each group, and suggest that the broad outlines of current policies are defensible on economic grounds.

A Tax-Based Test for Nominal Rigidities

Abstract: In classical macroeconomic models with flexible wages and prices,whether a tax is levied on producers or consumers does not affect its incidence. However, if wages or prices are rigid in the short run, as they are in Keynesian macroeconomic models, then shifting a tax from one side ofthe market to the other may have real effects. Tax changes therefore provide potential tests for the presence of nominal rigidities. This paper examines the price and output effects of revenue-neutral shifts between direct and indirect taxation. The results, based on post-war data from both Great Britain and the United States, reject the view that wages and prices are completely flexible in the short run.

Taxes and the Investment Recovery

Abstract: THROUGHOUT 1983 and 1984, the United States experienced an exceptionally strong recovery of capital formation from the depths of the 198082 recession. Between the fourth quarter of 1982, the recession trough, and the fourth quarter of 1984, total business fixed investment, even after adjustment for inflation, increased by 33 percent-more than double the average 15 percent gain at a comparable stage in previous postWorld War II economic recoveries. Investment in producers' durable equipment was up a remarkable 42 percent. There has been no shortage of explanations for the surge in investment spending. Most prominently mentioned is the 1981-82 tax act, which sharply reduced the tax rate on income from new investments. ' Other explanations include the lower rate of inflation, which has improved the outlook for sustained economic growth in the United States, and the acceleration of technological change, reflected in the replacement of capital stock made obsolete by energy price changes during the 1970s and in the increasing use of computers in production. A few analysts even link the rise in the value of the dollar to increased investment. Their

Poverty in America: Is Welfare the Answer or the Problem?

Abstract: This paper reviews the current policies for fighting poverty and explores the impact they have had We begin by reviewing trends in poverty, poverty spending and economic performance It is immediately apparent that economic performance is the dominant determinant of the measured poverty rate over the past two decades Government assistance programs expanded greatly over this period, but the growth in cash assistance was too modest to have major effects, and the large growth in in-kind benefits could not reduce measured poverty since such benefits are not counted as income Next we focus on three groups: the disabled, female family heads, and unemployed black youth We find little evidence that government deserves the blame for the problems of each group, and suggest that the broad outlines of current policies are defensible on economic grounds

Public policy implications of declining old-age mortality.

Abstract: Recent years have witnessed dramatic improvements in the longevity of the US elderly population. This paper explores some policy implications of the dramatic longevity gains that have occurred and are likely to continue. It focuses on the potential burden through demand for medical care and other resources that the elderly are likely to create. The paper surveys some relevant evidence and presents some new calculations bearing on the effects of mortality improvements. While the available data permit only tentative conclusions it appears that reductions in morbidity associated with declining mortality have been counterbalanced by high morbidity rates among marginal survivors. As a consequence the health needs of elderly persons at given ages have not changed very much. The author argues that Poterba and Summerss conclusion that future medicare costs and costs of institutionalization can be predicted from current age-specific information consistent with the model and the empirical work but in practice it is too sweeping because it ignores the advent of the Medicare prospective payment system. Second Poterba and Summers argue that there is little basis for proposing a redefinition of the elderly because the health status of the typical 65-year-old 20 years from now is likely to be about the same as it is now but even if one accepts the argument that selection and medical progress have approximately offset each other in the past 20 years they may not do so in the next 20. Thirdly Poterba and Summers argue that it would be desirable to reorient medical progress toward policies that are less selective in their efforts on mortality but the author thinks that any attempt to reorient federal research and development policy may be ineffective in reorienting the total research and development effort.

Issues in National Savings Policy

Abstract: This paper reviews a number of issues relating to the policy goal of increasing national savings. The first section considers the measurement and definition of national savings. Comparisons of current US savings rates with those of other countries and with the past US experience are presented. The second section considers possible avenues through which public policy can increase natianal savings. While most discussion has centered on the effects of changes in the rate of return received by savers, this is far from the only channel through which policy can effect savings. I conclude that changes in public savings or dissaving through budget surpluses or deficits are the most potent and reliable policy tool for altering the saving rate. The third section of the paper examines a crucial savings policy question. Where will extra savings go? Both empirical estimates and econometric model simulations suggest will find their way into increased plant and equipment investment. A major effect of increased savings would be to reduce capital inflows and improve American competitiveness.

Issues in National Savings Policy

Abstract: This paper reviews a number of issues relating to the policy goal of increasing national savings. The first section considers the measurement and definition of national savings. Comparisons of current US savings rates with those of other countries and with the past US experience are presented. The second section considers possible avenues through which public policy can increase natianal savings. While most discussion has centered on the effects of changes in the rate of return received by savers, this is far from the only channel through which policy can effect savings. I conclude that changes in public savings or dissaving through budget surpluses or deficits are the most potent and reliable policy tool for altering the saving rate. The third section of the paper examines a crucial savings policy question. Where will extra savings go? Both empirical estimates and econometric model simulations suggest will find their way into increased plant and equipment investment. A major effect of increased savings would be to reduce capital inflows and improve American competitiveness.

Taxation and the Size and Composition of the Capital Stock: An Asset Price Approach

Abstract: This paper develops an asset price approach to the analysis of capital taxation. The costs of adjusting capital stocks cause tax changes to have important impacts on the valuation of existing capital. The recapitalizations associated with tax reforms represent an important aspect of their incidence. These effects are studied within the context of an empirically calibrated general equilibrium model. The model extends previous work by explicitly treating the process of adjustment following tax reforms, treating in detail the relationship between tax rules and interest rates and examining the differential incidence effects of corporate tax reductions and investment incentives.

The Asset Price Approach to the Analysis of Capital Income Taxation

Abstract: This chapter summarizes and attempts to place in a broader context my recent research directed at developing an asset price approach to the analysis of the effects of capital income taxation. The link between asset markets and real investment decisions has been an important theme of much recent research in macroeconomics dating at least from Tobin’s seminal q theory of investment. However, asset markets have been subordinate in most previous theoretical and empirical efforts to model the effects of capital income taxation on economic behaviour. Although changes in asset prices are the proximate determinants of who gains and loses following tax reforms, asset markets are suppressed in standard models used to study tax incidence.

Taxation and the Size and Composition of the Capital Stock: An Asset Price Approach

Abstract: This paper develops an asset price approach to the analysis of capital taxation. The costs of adjusting capital stocks cause tax changes to have important impacts on the valuation of existing capital. The recapitalizations associated with tax reforms represent an important aspect of their incidence. These effects are studied within the context of an empirically calibrated general equilibrium model. The model extends previous work by explicitly treating the process of adjustment following tax reforms, treating in detail the relationship between tax rules and interest rates and examining the differential incidence effects of corporate tax reductions and investment incentives.

Poverty in America: Is Welfare the Answer or the Problem?

Abstract: This paper reviews the current policies for fighting poverty and explores the impact they have had. We begin by reviewing trends in poverty, poverty spending and economic performance. It is immediately apparent that economic performance is the dominant determinant of the measured poverty rate over the past two decades. Government assistance programs expanded greatly over this period, but the growth in cash assistance was too modest to have major effects, and the large growth in in-kind benefits could not reduce measured poverty since such benefits are not counted as income. Next we focus on three groups: the disabled, female family heads, and unemployed black youth. We find little evidence that government deserves the blame for the problems of each group, and suggest that the broad outlines of current policies are defensible on economic grounds.

Is Increased Price Flexibility Stabilizing

Abstract: This paper uses Taylor's model of overlapping contracts to show that increased wage and price flexibility can easily be destabilizing. This result arises because of the Mundell effect. While lower prices increase output, the expectation of falling prices decreases output. Simulations based on realistic parameter values suggest that increases in price flexibility might bell increase the cyclical variability of output in the United States.

The Usefulness of the Wind-Up Measure of Pension Liabilities: a Labourmarket Perspective

Abstract: Financial economists have long favoured the use of a wind-up measure of the firm's pension liabilities. Yet the pension liabilities of the firm also represent the pension wealth of its workers. It is reasonable to presume that workers and shareholders have a common view of the pension contract. If the wind-up measure depicts the true pension liabilities of the firm, then the wage concession granted by its workers must reflect the fact that the firm may choose to terminate the plan at any time. Data on the wage-service characteristics of the membership of a sample of final earnings plans in Canada suggest,contrary to the implications of the wind-up measure, that workers' wages do not internalize accruing pension benefits on a year-to-year basis. Instead, the data suggest that pension plans may be a vehicle through which a significant portion of the total compensation of individual employees is deferred until their later work years, and that the wind-up measure may well understate the pension liabilities of an on-going firm.