Showing papers in "American Economic Journal: Macroeconomics in 2012"

Temperature Shocks and Economic Growth: Evidence from the Last Half Century

Abstract: This paper uses historical fluctuations in temperature within countries to identify its effects on aggregate economic outcomes. We find three primary results. First, higher temperatures substantially reduce economic growth in poor countries. Second, higher temperatures may reduce growth rates, not just the level of output. Third, higher temperatures have wide-ranging effects, reducing agricultural output, industrial output, and political stability. These findings inform debates over climate’s role in economic development and suggest the possibility of substantial negative impacts of higher temperatures on poor countries. (JEL E23, O13, Q54, Q56)

Stories of the Twentieth Century for the Twenty-First

Abstract: A key precursor of twentieth-century financial crises in emerging and advanced economies alike was the rapid buildup of leverage. Those emerging economies that avoided leverage booms during the 2000s also were most likely to avoid the worst effects of the twenty-first century's first global crisis. A discrete-choice panel analysis using 1973-2010 data suggests that domestic credit expansion and real currency appreciation have been the most robust and signicant predictors of financial crises, regardless of whether a country is emerging or advanced. For emerging economies, however, higher foreign exchange reserves predict a sharply reduced probability of a subsequent crisis.

Effects of Fiscal Stimulus in Structural Models

Abstract: The paper subjects seven structural DSGE models, all used heavily by policymaking institutions, to discretionary fiscal stimulus shocks using seven different fiscal instruments, and compares the results to those of two prominent academic DSGE models. There is considerable agreement across models on both the absolute and relative sizes of different types of fiscal multipliers. The size of many multipliers is large, particularly for spending and targeted transfers. Fiscal policy is most effective if it has moderate persistence and if monetary policy is accommodative. Permanently higher spending or deficits imply significantly lower initial multipliers. (JEL E12, E13, E52, E62)

Evidence on the Incidence of Wage Posting, Wage Bargaining, and On-the-Job Search

Abstract: Some workers bargain with prospective employers before accepting a job. Others face a posted wage as a take-it-or-leave-it opportu nity. Both modes of wage determination have generated large bodies of research. We surveyed a representative sample of US workers to inquire about the wage determination process at the time they were hired into their current or most recent jobs. A third of the respon dents reported bargaining over pay before accepting their current jobs. Almost a third of workers had precise information about pay when they first met with their employers, a sign of wage posting. About 40 percent of workers were on-the-job searchers—they could have remained at their earlier jobs at the time they accepted their current jobs, indicating a more favorable bargaining position than is held by unemployed job-seekers. About half of all workers reported that their employers had learned their pay in their earlier jobs before

Real Wages and the Business Cycle: Accounting for Worker, Firm, and Job Title Heterogeneity

Abstract: Using a longitudinal matched employer-employee dataset for Portugal over the 1986-2007 period, this study analyzes the wage responses to aggregate labor market conditions for newly hired workers and existing workers within the same firm. Accounting for worker, firm, and job title heterogeneity, the data support the hypothesis that entry wages are more procyclical than wages of stayers. A one point increase in the unemployment rate decreases wages of newly hired workers within a given firm-job title by around 2.7 percent and by 2.2 percent for stayers within the same firm-job title. Finally, the results reveal a one-for-one wage response to changes in labor productivity. (JEL: E24, E32, J64)

Are the Effects of Monetary Policy Shocks Big or Small

Abstract: This paper studies the small estimated effects of monetary policy shocks from standard VAR's versus the large effects from the Romer and Romer (2004) approach. The differences are driven by three factors: the different contractionary impetus, the period of reserves targeting and lag length selection. Accounting for these factors, the real effects of policy shocks are consistent across approaches and most likely medium. Alternative monetary policy shock measures from estimated Taylor rules also yield medium-sized real effects and indicate that the historical contribution of monetary policy shocks to real fluctuations has been significant, particularly during the 1970s and early 1980s.

Imperfect Competition in the Interbank Market for Liquidity as a Rationale for Central Banking

Abstract: We study liquidity transfers between banks through the interbank borrowing and asset sale markets when (i) surplus banks providing liquidity have market power, (ii) there are frictions in the lending market due to moral hazard, and (iii) assets are bank-speci…c. We show that when the outside options of needy banks are weak, surplus banks may strategically under-provide lending, thereby inducing ine¢ cient sales of bank-speci…c assets. A central bank can ameliorate this ine¢ ciency by standing ready to lend to needy banks, provided it has greater information about banks (e.g., through supervision) compared to outside markets, or is prepared to extend lossmaking loans. The public provision of liquidity to banks, in fact its mere credibility, can thus improve the private allocation of liquidity among banks. This rationale for central banking …nds support in historical episodes preceding the modern era of central banking and has implications for recent debates on the supervisory and lender-of-last-resort roles of central banks.

Ambiguity Aversion: Implications for the Uncovered Interest Rate Parity Puzzle

Abstract: Empirically, high-interest-rate currencies tend to appreciate in the future relative to low-interest-rate currencies instead of depreciating as uncovered interest rate parity (UIP) states. The explanation for the UIP puzzle that I pursue in this paper is that the agents’ beliefs are systematically distorted. This perspective receives some support from an extended empirical literature using survey data. I construct a model of exchange rate determination in which ambiguity-averse agents need to solve a ltering problem to form forecasts but face signals about the time-varying hidden state that are of uncertain precision. In the presence of such uncertainty, ambiguityaverse agents take a worst-case evaluation of this precision and respond stronger to bad news than to good news about the payos

The Geography of Conflicts and Regional Trade Agreements

Abstract: In addition to standard trade gains, regional trade agreements (RTAs) can promote peaceful relations by increasing the opportunity cost of conflicts. Country pairs with large trade gains from RTAs and a high probability of conflict should be more likely to sign an RTA. Using data from 1950 to 2000, we show that this complementarity between economic and politics determines the geography of RTAs. We disen tangle trade gains from political factors by a theory-driven empirical estimation and find that country pairs with higher frequency of past wars are more likely to sign RTAs, the more so the larger the trade

Why Are Target Interest Rate Changes So Persistent

Abstract: Author(s): Coibion, O; Gorodnichenko, Y | Abstract: While the degree of policy inertia in central banks reaction functions is a central ingredient in theoretical and empirical monetary economics, the source of the observed policy inertia in the United States is controversial, with tests of competing hypotheses, such as interest-smoothing and persistent-shocks, being inconclusive. This paper employs real time data; nested specifications with flexible time series structures; narratives; interest rate forecasts of the Fed, financial markets, and professional forecasters; and instrumental variables to discriminate between competing explanations of policy inertia. The evidence strongly favors the interest-smoothing explanation and thus can help resolve a key puzzle in monetary economics. (JEL C53, E43, E47, E52, E58). © 2012 Asian Network for Scientific Information.

Social Security Reforms: Benefit Claiming, Labor Force Participation, and Long-Run Sustainability

Abstract: system has motivated policymakers to consider a range of possible reforms. Two such reforms are to increase the early retirement age and to increase the normal retirement age. In this paper, we assess the effects of these reforms on allocations and the solvency of the system in the long run. Our objective of assessing the efficacy of proposed reforms compels us to exam ine labor supply responses as one of the most important mechanisms that determine the effects of these reforms. In addition, a first order issue that needs to be taken into account is that eligibility for Social Security and claiming of Social Security are not the same. Therefore, in order to analyze these types of reforms, it is critical to have a model that captures the key features of the claiming decision and its inter action with labor supply. However, existing general equilibrium studies of Social Security have made claiming exogenous, and are therefore not capable of answer ing the question of interest. As a result, a model in which both benefit claiming and labor force participation are endogenous in a general equilibrium setting is needed

Tranching, CDS, and Asset Prices: How Financial Innovation Can Cause Bubbles and Crashes

Abstract: We show how the timing of financial innovation might have contributed to the mortgage bubble and then to the crash of 2007–2009. We show why tranching and leverage first raised asset prices and why CDS lowered them afterward. This may seem puzzling, since it implies that creating a derivative tranche in the securitization whose payoffs are identical to the CDS will raise the underlying asset price, while the CDS outside the securitization lowers it. The resolution of the puzzle is that the CDS lowers the value of the underlying asset since it is equivalent to tranching cash. (JEL E32, E44, G01, G12, G13, G21).

Learning in a medium-scale DSGE model with expectations based on small forecasting models

Abstract: In this paper we evaluate the empirical performance of a medium‐scale DSGE model (Smets and Wouters 2007) when agents form expectations about forward variables by using small forecasting models. Agents learn about these simple AR and VAR forecasting models through Kalman filter estimation and they combine them either using a prediction based weighting scheme or fixed weights. The results indicate that a model, in which agents use a mixture of simple forecasting models to form expectations, does fit the data better than the full rational expectations model. Adaptive learning leads to substantial time variation in the coefficients of the forecasting models. Especially the beliefs about the dynamics of the inflation process turn out to be very important for the overall performance of the model. Agents’ beliefs about the persistence of inflation display a peak the late seventies, and follow a clear downward trend starting during the Volcker disinflation period. This pattern in beliefs, which is in line with other recent evidence in the literature on inflation persistence, implies that the response of inflation to the various shocks declined significantly over the last 25 years. In this way, adaptive learning about inflation persistence also explains the observed decline in both the mean and the volatility of inflation as well as the flattening of the Phillips curve. Allowing for learning about inflation dynamics also results in lower estimates for the persistence of the exogenous processes that drive price and wage dynamics in the Rational Expectation version. We also find that the implicit beliefs of agents based on small forecasting models are more closely related to the survey evidence on inflation expectations than the beliefs under rational expectations. JEL codes: C11, D84, E30, E52

Government spending multipliers in developing countries : evidence from lending by official creditors

Abstract: This paper uses a novel loan-level dataset covering lending by official creditors to developing country governments to construct an instrument for public spending that can be used to estimate government spending multipliers. Loans from official creditors (primarily multilateral development banks and bilateral aid agencies) are a major source of financing for government spending in developing countries. These loans typically finance public spending projects that take several years to implement, with multiple disbursements linked to the stages of project implementation. The long disbursement periods for these loans imply that the bulk of government spending financed by official creditors in a given year reflects loan approval decisions made in many previous years, before current-year macroeconomic shocks are known. Loan-level commitment and disbursement transactions from the World Bank's Debtor Reporting System database are used to isolate a predetermined component of government spending associated with past loan approvals. This can be used as an instrument to estimate spending multipliers for a large sample of 102 developing countries. The one-year government spending multiplier is reasonably-precisely estimated to be around 0.4, and there is some suggestive evidence that multipliers are larger in recessions, in countries less exposed to international trade, and in countries with flexible exchange rate regimes.

Exogenous versus Endogenous Separation

Abstract: This paper assesses how various approaches to modeling the separation margin affect the quantitative ability of the Mortensen-Pissarides labor matching model. The model with a constant separation rate fails to produce realistic volatility and productivity responsiveness of the separation rate and worker flows. The specification with endogenous separation succeeds along these dimensions. Allowing for on-the-job search enables the model to replicate the Beveridge curve. All specifications, however, fail to generate sufficient volatility of the job finding rate. While adopting the Hagedorn-Manovskii calibration remedies this problem, the volume of job-to-job transitions in the on-the-job search specification becomes essentially zero. (JEL E24, J41, J64)

The Optimal Conduct of Monetary Policy with Interest on Reserves

Abstract: In a world with interest on reserves, the central bank has two distinct tools that it can use to raise the short-term policy rate: it can either increase the interest it pays on reserve balances, or it can reduce the quantity of reserves in the system. We argue that by using both of these tools together, and by broadening the scope of reserve requirements, the central bank can simultaneously pursue two objectives: it can manage the inflation-output tradeoff using a Taylor-type rule, and it can regulate the externalities created by socially excessive shortterm debt issuance on the part of financial intermediaries. (JEL E43, E52, E58, G21)

Measuring What Employers Do about Entry Wages over the Business Cycle: A New Approach

Abstract: Rigidity in real hiring wages plays a crucial role in some recent macroeconomic models. But are hiring wages really so noncyclical? We propose using employer/employee longitudinal data to track the cyclical variation in the wages paid to workers newly hired into spe cific entry jobs. Illustrating the methodology with 1982-2008 data from the Portuguese census of employers, we find real entry wages were about 1.8 percent higher when the unemployment rate was 1 percentage point lower. Like most recent evidence on other aspects of wage cyclicality, our results suggest that the cyclical elasticity of wages is similar to that of employment. (JEL E24, E32, J31, J64) At least since Keynes (1936), macroeconomists have theorized that wages are inflexible and that limited cyclical variability of wages may account for the cyclical volatility of employment and unemployment. The idea continues to fig ure prominently in the current literature. For example, the very first sentence of Gertler and Trigari (2009, 38) says, "A long-standing challenge in macroeconom ics is accounting for the relatively smooth behavior of real wages over the business cycle along with the relatively volatile behavior of employment." Much of the current interest in the cyclical behavior of wages, especially hiring wages, has grown out of a debate about the ability of the canonical Mortensen and Pissarides (1994) model to generate realistically large cyclical fluctuations in unem ployment. In that model, wages within a worker/employer match are determined by Nash bargaining. The resulting procyclicality in real wages means that, during a recession, lowered wages give employers an incentive to hire the unemployed work ers that have been laid off by other employers. A problematic implication, pointed out by Shimer (2005), is that, under standard parameter values, the model generates much smaller cyclical fluctuations in unemployment than actually do occur.

Contagious Adverse Selection

Abstract: We illustrate the corrosive eect of even small amounts of adverse selection in an asset market and show how it can lead to the total breakdown of trade. The problem is the failure of "market con…- dence", de…ned as approximate common knowledge of an upper bound on expected losses. Small probability events can unravel market con- …dence. We discuss the role of contagious adverse selection and the problem of "toxic assets"in the recent …nancial crisis.

Home Equity Lending and Retail Spending: Evidence from a Natural Experiment in Texas

Abstract: We estimate how spending in Texas responded to a 1997 constitutional amendment that relaxed severe restrictions on home equity lending. We use this event as a natural experiment to estimate the importance of credit constraints. If households are credit-constrained, such an increase in credit availability will increase their spending. We find that Texas retail sales at the county and state levels increased significantly after the amendment, lending support to the credit-constraint hypothesis. We confirm these findings and refine our interpretation of the estimated aggregate-level responses using household-level data on home equity loans. (JEL D14, E21, G21, G28)

Sticky Wages: Evidence from Quarterly Microeconomic Data+

Abstract: Using an original micro-dataset from France, we investigate nomi nal wage stickiness. Nominal wage changes are found to occur at a quarterly frequency of around 38 percent over our sample period, and to be to a large extent staggered across establishments, and very synchronized within establishments. We carry out an econometric analysis of wage changes based on a two-threshold sample selec tion model. Our results are that the timing of wage adjustments is time-dependent as opposed to state-dependent, there is evidence of predetermination in wage changes, and both backward and forward looking behavior is relevant in wage setting. (JEL E24, E52, J31)

A Quantitative Theory of Information and Unsecured Credit

Abstract: Important changes have occurred in unsecured credit markets over the past three decades. Most prominently, there have been large increases in aggregate consumer debt, the personal bankruptcy rate, the size of bankruptcies, the dispersion of interest rates paid by bor rowers, and the relative discount received by those with good credit ratings. We find that improvements in information available to lend ers on household-level costs of bankruptcy can account for a signifi cant fraction of what has been observed. The ex ante welfare gains from better information are positive but small. (JEL D14, D82, G21) For most of the postwar period, the unsecured market for credit has been small. Direct evidence from the Survey of Consumer Finances (SCF), as well as other sources (Ellis 1998), shows that unsecured credit did not appear in any signifi cant amount in the United States until the late 1960s. However, over the past three decades there have been dramatic changes in this market. First, and perhaps the most well-known attribute of the unsecured credit market in the period we consider, has been the large increase in personal bankruptcy rates, from less than 0.1 percent of households filing annually in the 1970s to more than 1 percent annually since 2002. Sullivan, Warren, and Westbrook (2000) also notes that not only are bankruptcies more common now than before, they are also larger. As measured by ratio of median net worth-to-median US household income, the size of bankruptcies grew from 0.19 in 1981 to approximately 0.26 by 1997. More generally, the use of unsecured credit has intensified. It has nearly tripled, as measured by the ratio of aggregate negative net worth to aggregate income, from 0.30 percent in 1983, to 0.67 percent in 2001, to 0.80 percent in 2004 (as measured in the SCF). Perhaps most dramatically, data from the SCF suggests that the distribution of interest rates for unsecured credit was highly concentrated in 1983 and very diffuse

International Portfolio Allocation under Model Uncertainty

Abstract: This paper revisits an old argument, hedging real exchange rate risk, as an explanation of the international home bias in equity. In a dynamic model, the relevant risk to be hedged is the long-run risk as opposed to the short-run risk. Domestic equity is indeed a good hedge with respect to long-run real-exchange-rate risk. Two new frameworks are able to explain a large share of the observed US home bias: a model with Hansen-Sargent preferences in which agents fear model misspecification and a model with Epstein-Zin preferences. These two models are also immune to the risk-free rate puzzle. (JEL C58, F31, G11, G15)

The Cyclicality of Skill Acquisition: Evidence from Panel Data

Abstract: This paper presents new empirical evidence regarding the cyclicality of skill acquisition activities. The paper studies both training and schooling episodes at the individual level using quarterly data from the NLSY79 for a period of 19 years. We find that aggregate schooling is strongly countercyclical, while aggregate training is acyclical. Several training categories, however, behave procyclically. The results also indicate that firm-financed training is procyclical, while training financed through other means is countercyclical; and that the cyclicality of skill acquisition investments depends significantly on the educational level and the employment status of the individual. (JEL E24, E32, I20, J24)

Political Pressures on Monetary Policy during the US Great Inflation

Abstract: Drawing on an analysis of Federal Open Market Committee (FOMC) documents, this paper argues that political pressures on the Federal Reserve were an important contributor to the rise in inflation in the United States in the 1970s. Members of the FOMC understood that a serious attempt to tackle inflation would generate opposition from Congress and the executive branch. Political considerations contributed to delays in monetary tightening, insufficiently aggressive anti-inflation policies, and the premature abandonment of attempts at disinflation. Empirical analysis verifies that references to the political environment at FOMC meetings are correlated with the stance of monetary policy during this period. (JEL D72, E32, E52, E58, N12) W hat accounts for the Federal Reserve’s failure to control inflation in the United States in the 1970s? One important set of factors has been highlighted in recent research by Romer and Romer (2002), Nelson (2005), Orphanides (2002, 2003, 2004), and others. The argument set forth by these authors, which Romer (2005) calls the “ideas” hypothesis, is that the Federal Reserve’s errors were rooted in the beliefs that policymakers held about the structure of the economy. These beliefs included an unrealistically low estimate of the natural rate of unemployment, the belief that observed inflation had little to do with monetary policy and that monetary policy could do little to combat it, and an overly pessimistic estimate of the costs of disinflation. The Fed’s erroneous beliefs led it to pursue a monetary policy that was consistently over expansionary, resulting in a steadily increasing rate of inflation. According to this view, inflation only came under control in the early 1980s when policymakers’ beliefs about the economy began to change. In particular, in this period, policymakers had more realistic estimates of the natural rate of unemployment, were convinced that monetary policy was at the root of the inflation problem, and believed that the costs of disinflation could be contained if the Fed was successful in changing the public’s expectations of inflation. This paper argues that political pressures on the Federal Reserve were an impor tant additional factor for the Fed’s failure to control inflation in the 1970s. Drawing

Missing Import Price Changes and Low Exchange Rate Pass-Through

Abstract: A large body of empirical work has found that exchange rate movements have only modest effects on inflation. However, the response of an import price index to exchange rate movements may be underestimated because some import price changes are missed when constructing the index. We investigate downward biases that arise when items experiencing a price change are especially likely to exit or to enter the index. We show that, in theoretical pricing models, entry and exit have different implications for the timing and size of these biases. Using Bureau of Labor Statistics (BLS) microdata, we derive empirical bounds on the magnitude of these biases and construct alternative price indexes that are less subject to selection effects. Our analysis suggests that the biases induced by selective exits and entries are modest over typical forecast horizons. As such, the empirical evidence continues to support the conclusion that exchange rate passthrough to U.S. import prices is low.

Capital Market Integration and Wages

Abstract: For three years after the typical emerging economy opens its stock market to inflows of foreign capital, the average annual growth rate of the real wage in the manufacturing sector increases by a factor of three. No such increase occurs in a control group of countries that do not liberalize. The temporary increase in wage growth drives up the level of the average worker’s annual compensation by US $487—an increase equal to nearly one-fifth of their annual pre-liberalization salary. Overall, the results suggest that trade in capital may have a larger impact on wages than trade in goods. (JEL E25, E44, F16, F43, G18, O16) T he impact of trade on wages occupies a salient space in the collective imagination of the economics profession. When a country opens up to trade with the rest of the world, income shifts away from that country’s scarce factor of production and toward the one that is abundant (Stolper and Samuelson 1941). Inspired by the celebrated Stolper-Samuelson Theorem, economics journals abound with articles examining the extent to which trade induces factor price equalization. The evidence so far is mixed. The consensus view suggests that trade with developing countries is, at best, a modest force behind the large decline in the relative wages of low-skilled workers in rich countries ( Krugman 1995; Lawrence and Slaughter 1993; Cline 1997; Lawrence 2008) . 1 In the case of workers in developing countries, the evidence actually runs contrary to the theory. Whereas Stolper-Samuelson predicts that trade with rich countries will increase the relative wages of low-skilled workers in poor countries, trade liberalization during the 1980s and 1990s actually increased wage inequality in the developing world ( Goldberg and Pavcnik 2007).

Hedging against the Government: A Solution to the Home Asset Bias Puzzle

Abstract: We explain why international nominal bonds and equity portfolios are biased domestically In our model, holding domestic government nominal debt provides a hedge against shocks to bond returns and the impact on taxes they induce For this result, only two features are essential: nominal risk and taxes only on domestic agents A third feature explains domestically biased equity holdings: government spending falls on domestic goods Then, an increase in government spending raises the returns on domestic equity, providing a hedge against the subsequent increase in taxes A calibrated version of the model predicts asset holdings that quantitatively match the data (JEL F30, G11, G15, H61, H63)

How Does The US Government Finance Fiscal Shocks

Abstract: In this paper, we explore the dynamic adjustment of the US government’s fiscal balances to expenditure shocks. We identify the different fiscal adjustment channels that help stabilize the US government’s balances and develop a method for quantifying the use of each channel in the postwar era. To do so, we make use of the government’s intertemporal budget constraint. The government’s budget constraint dictates that surprise increases in spending must be financed through either an increase in primary surpluses or a reduction in returns on the government’s bond portfolio. We refer to the first channel of adjustment as the surplus channel and the second as the debt valuation channel. The surplus channel operates through an increase in contemporaneous and expected future surplus growth when the news about higher expenditures are revealed, whereas the debt valuation channel operates through a decline in contemporaneous and expected future debt returns. In normative models of fiscal policy, adjustments through the debt valuation channel are referred to as “fiscal insurance.” Standard models in this literature feature a benevolent government that minimizes the excess burden of taxation by varying its debt returns. The extent to which it can do this is determined by the asset market structure it faces. In complete-market models, a decline in debt returns absorb the surprise increase in spending needs, allowing the government to maintain a constant excess burden of taxation. In

Financial Contracts and the Political Economy of Investor Protection

Abstract: This paper studies the joint dynamics of investor protection and economic development in a political economy model with capital accumulation and occupational choice. Less investor protecti...

The Few Leading the Many: Foreign Affiliates and Business Cycle Comovement

Abstract: This paper argues that the correlation of business cycles across countries is largely due to linkages between multinational firms and their foreign affiliates. There are very few foreign affiliates in France, but they contribute considerably to aggregate economic activities. We exploit the heterogeneity in the presence and origin of foreign affiliates across French regions to identify their impact on comovement. We find a positive impact of foreign affiliates' presence on the comovement of business cycles between their regions of location and their countries of origin. This effect is not primarily driven by foreign affiliates' trade with their countries of origin.