Showing papers in "The American Economic Review in 1990"

The Economics of Modern Manufacturing: Technology, Strategy, and Organization

Abstract: Manufacturing is undergoing a revolution. The mass production model is being replaced by a vision of a flexible multiproduct firm that emphasizes quality and speedy response to market conditions while utilizing technologically advanced equipment and new forms of organization. The authors' optimizing model of the firm generates many of the observed patterns that mark modern manufacturing. Central to the authors' results is a method of handling optimization and comparative statics problems that requires neither differentiability nor convexity. Copyright 1990 by American Economic Association.

Herd Behavior and Investment

Abstract: This paper examines some of the forces that can lead to herd behavior in investment. Under certain circumstances, managers simply mimic the investment decisions of other managers, ignoring substantive private information. Although this behavior is inefficient from a social standpoint, it can be rational from the perspective of managers who are concerned about their reputations in the labor market. We discuss applications of the model to corporate investment, the stock market, and decision making within firms. (JEL 026, 522) A basic tenet of classical economic theory is that investment decisions reflect agents' rationally formed expectations; decisions are made using all available information in an efficient manner. A contrasting view is that investment is also driven by group psychology, which weakens the link between information and market outcomes. In The General Theory, John Maynard Keynes (1936, pp. 157-58) expresses skepticism about the ability and inclination of "long-term investors" to buck market trends and ensure efficient investment. In his view, investors may be reluctant to act according to their own information and beliefs, fearing that their contrarian behavior will damage their reputations as sensible decision makers:

Why doesn't capital flow from rich to poor countries?

Abstract: A rotary spinning ring construction is provided wherein the rotary ring body is provided with upper and lower outwardly tapered body portions, each of which has its surface provided with inclined grooves, a ring holder for receiving the rotary body therein, a sliding flange positioned between the holder and the body and having some play therein, and dust caps mounted on the upper and lower portions of the rotary body to seal the upper and lower areas of play between the holder and the rotary body. This arrangement results in a spinning ring construction that will dust automatically.

Cooperative and Noncooperative R&D in Duopoly with Spillovers : Erratum

Abstract: In our article published in this Review (volume 78, no. 5, December 1988, pp. 1133–37), we have shown that in the presence of sufficient spillovers of the R&D benefits, duopolists, cooperating in R&D but not in the output, spend more on R&D than noncooperating firms at both stages, and also produce more output, closest to the socially optimal level. A second symmetric result is that for small spillovers, duopolists cooperating neither in R&D nor in output spend more on R&D and produce more output than cooperative firms. However, this result has been obscured by an obvious inequality inversion and other typos implying a modification in the conclusions. Indeed in fn. 13 on p. 1135 one should have that x > x∗ iff

Deposit Insurance, Risk, and Market Power in Banking

Abstract: A fixed-rate deposit insurance system provides a moral hazard for excessive risk taking and is not viable absent regulation. Although the deposit insurance system appears to have worked remarkably well over most of its fifty-year history, major problems began to appear in the early 1980s. This paper tests the hypothesis that increases in competition caused bank charter values to decline, which in turn caused banks to increase default risk through increases in asset risk and reductions in capital. Copyright 1990 by American Economic Association.

Fiscal Policy in General Equilibrium

Abstract: This paper studies four classic fiscal-policy experiments within a quantitatively restricted neoclassical model. The authors' main findings are as follows: (1) permanent changes in government purchases can lead to short-run and long-run output multipliers that exceed one; (2) permanent changes in government purchases induce larger effects than temporary changes; (3) the financing decision is quantitatively more important than the resource cost of changes in government purchases; and (4) public investment has dramatic effects on private output and investment. These findings stem from important dynamic interactions of capital and labor absent in earlier equilibrium analyses of fiscal policy. Copyright 1993 by American Economic Association.

Asset Prices under Habit Formation and Catching Up with the Joneses

Abstract: This paper introduces a utility function that nests three classes of utility functions: (1) time-separable utility functions; (2) "catching up with the Joneses" utility functions that depend on the consumer's level of consumption relative to the lagged cross-sectional average level of consumption; and (3) utility functions that display habit formation. Closed-form solutions for equilibrium asset prices are derived under the assumption that consumption growth is i.i.d. The equity premia under catching up with the Joneses and under habit formation are, for some parameter values, as large as the historically observed equity premium in the United States

The Dynamo and the Computer: An Historical Perspective on the Modern Productivity Paradox

Abstract: The Dynamo and the Computer: An Historical Perspective on the Modern Productivity Paradox Author(s): Paul A. David Source: The American Economic Review, Vol. 80, No. 2, Papers and Proceedings of the Hundred and Second Annual Meeting of the American Economic Association (May, 1990), pp. 355-361 Published by: American Economic Association Stable URL: http://www.jstor.org/stable/2006600 Accessed: 08/12/2010 01:40

A Theory of Predation Based on Agency Problems in Financial Contracting

Abstract: By committing to terminate funding if a firm's performance is poor, investors can mitigate managerial incentive problems. These optimal financial constraints, however, encourage rivals to ensure that a firm's performance is poor; this raises the chance that the financial constraints become binding and induce exit. The authors analyze the optimal financial contract in light of this predatory threat. The optimal contract balances the benefits of deterring predation by relaxing financial constraints against the cost of exacerbating incentive problems. Copyright 1990 by American Economic Association.

Long Swings in the Dollar: Are They in the Data and Do Markets Know It?

Abstract: The value of the dollar appears to move in one direction for long periods of time. The authors develop a new statistical model of exchange rate dynamics as a sequence of stochastic, segmented time trends. They reject the null hypothesis that exchange rates follow a random walk in favor of their model of long swings. The authors' model also generates better forecasts than a random walk. The specification is a natural framework for assessing the importance of the "peso problem" for the dollar. The authors nonetheless reject uncovered interest parity. Copyright 1990 by American Economic Association.

The Causes of Preference Reversal

Abstract: Observed preference reversal cannot be adequately explained by violations of independence, the reduction axiom, or transitivity. The primary cause of preference reversal is the failure of procedure invariance, especially the overpricing of low-probability, high-payoff bets. This result violates regret theory and generalized (nonindependent) utility models. Preference reversal and a new reversal involving time preferences are explained by scale compatibility, which implies that payoffs are weighted more heavily in pricing than in choice. Copyright 1990 by American Economic Association.

An Empirical Analysis of Cigarette Addiction

Abstract: To test a model of rational addiction, we examine whether lower past and future prices for cigarettes raise current cigarette consumption. The empirical results tend to support the implication of addictive behavior that cross price effects are negative and that long-run responses exceed short-run responses. Since the long-run price elasticity of demand is almost twice as large as the short-run price elasticity, the long-run increase in tax revenue from an increase in the federal excise tax on cigarettes is considerably smaller than the short-run increase. (JEL Dll, D12, 110).

A Schumpeterian Model of the Product Life Cycle

Abstract: This paper presents a dynamic general equilibrium model of North-South trade in which research and development races between firms determine the rate of product innovation in the North. Tariffs designed to protect dying industries in the North from Southern competition reduce the steady-state number of dominant firms in the North, reduce the rate of product innovation, and increase the relative wage of Northern workers. Copyright 1990 by American Economic Association.

Tying, Foreclosure, and Exclusion

Abstract: In recent years, the "leverage theory" of tied good sales has faced heavy and influential criticism. In an important sense, though, the models used by its critics are actually incapable of addressing the leverage theory's central concerns. Here the author reconsiders the leverage hypothesis and argues that tying can indeed serve as a mechanism for leveraging market power. The mechanism through which this leverage occurs, its profitability, and its welfare implications are discussed in detail. Copyright 1990 by American Economic Association.

Lifetime Earnings and the Vietnam Era Draft Lottery: Evidence from Social Security Administrative Records: Errata

Abstract: The randomly assigned risk of induction generated by the draft lottery is used to construct estimates of the effect of veteran status on civilian earnings. These estimates are not biased by the fact that certain types of men are more likely than others to service in the military. Social Security administrative records indicate that, in the early 1980s, long after their service in Vietnam had ended, the earnings of white veterans were approximately 15 percent less than the earnings of comparable nonveterans. Copyright 1990 by American Economic Association.

The economics of rotating savings and credit associations

Abstract: This paper analyzes the economic role and performance of a type of financial institution which is observed worldwide: rotating savings and credit associations (Roscas). Using a model in which individuals save for an indivisible durable consumption good, we study Roscas which distribute funds using random allocation and bidding. Each type of Rosca allows individuals without access to credit markets to improve their welfare, but under a reasonable assumption on preferences, random allocation is preferred when individuals have identical tastes. This conclusion need not hold when individuals are heterogeneous. We also discuss the sustainability of Roscas given the possibility of default.

Utility Functions that Depend on Health Status: Estimates and Economic Implications

Abstract: Taylor's series and logarithmic estimates of health state-dependent utility functions both imply that job injuries reduce one's utility and marginal utility of income, thus rejecting the monetary loss equivalent formulation Injury valuations have unitary income elasticity, and the valuation of nonincremental risk changes and effects of base risks follow economic predictions Copyright 1990 by American Economic Association

Voting on the Budget Deficit

Abstract: This paper analyzes a model in which a group of rational individuals votes over the composition and time profile of public spending. All voters agree that a balanced budget is ex ante optimal. However, if there is disagreement between current and future majorities, a balanced budget is not a political equilibrium under majority rule. Under certain conditions, a majority of the voters favors a budget deficit, and the equilibrium deficit is larger the greater is the polarization among voters. Copyright 1990 by American Economic Association.

Testing the Rationality of Price Forecasts: New Evidence from Panel Data

Abstract: This paper tests the rationality of individual price forecasts in a panel of professional forecasters. Here, unlike in most previous studies, rationality is not rejected. The results here differ because (1) using individual forecasts avoids aggregation bias, (2) comparison of forecasts to initial data avoids bias due to data revision, (3) the professional forecasters have economic incentives to state their expectations accurately, and (4) a new covariance matrix estimator consistent when forecast errors are correlated across individuals is used. Copyright 1990 by American Economic Association.

Comparative Advantage and Long-run Growth

Abstract: The authors construct a dynamic, two country model of trade and growth in which endogenous technological progress results from the profit-maximizing behavior of entrepreneurs. They study the role that the external trading environment and that trade and industrial policies play in the determination of long-run growth rates. Cross-country differences in efficiency at R&D versus manufacturing (i.e., comparative advantage) bear importantly on the growth effects of economic structure and commercial policies. Copyright 1990 by American Economic Association.

Market Liquidity, Hedging, and Crashes

Abstract: In the absence of significant news, hedging strategies were blamed for the stock market crash of October 1987; but traditional models cannot explain how a relatively small amount of selling could cause so large a price drop. The authors develop a rational expectations model in which prices play an important role in shaping expectations; markets are much less liquid in their model than in traditional models. Discontinuities (or "crashes") can occur even with relatively little hedging. The model is consistent with theories as disparate as Keynes' "beauty contest" insights and Thom's "catastrophe" analysis and suggests means to reduce volatility. Copyright 1990 by American Economic Association.

Comparing Information in Forecasts from Econometric Models

Abstract: The information contained in one model's forecast compared to that in another can be assessed from a regression of actual values on predicted values from the two models. The authors do this for forecasts of real GNP growth rates for different pairs of models. The models include a structural model (the Fair model), various versions of the vector autoregressive model, and various versions of a model the authors call the "autoregressive components" model. The authors' procedure requires that forecasts make no use of future information and they have been careful to try to insure this, including using the version of the Fair model that existed in 1976, the beginning of their test period. Copyright 1990 by American Economic Association.

Chartists, Fundamentalists, and Trading in the Foreign Exchange Market

Abstract: Annual Research Conference--II: Chartists, Fundamentalists, and Trading in the Foreign Exchange Market The overshooting theory of exchange rates seems ideal for explaining some important aspects of the movement of the dollar in recent years. From 1981-4, for example, when real interest rates in the United States rose above those of her trading partners (presumably because of shifts in the monetary/fiscal policy mix), the dollar appreciated strongly. This episode supported the overshooting theory: the higher rates of return had made U.S. assets more attractive to international investors, which is what caused the dollar to appreciate; the appreciation continued until the dollar's value was so far above long-run equilibrium that expectations of future depreciation were enough to offset the higher nominal interest rate in the minds of international investors. (Figure 1 shows the correlation of the real interest differential with the real value of the dollar, since exchange rates began to float in 1973.) Bubble Episodes At times, however, the path of the dollar has departed from what would be expected on the basis of macro-economic fundamentals. The most dramatic example was the period from June 1984 to February 1985. The dollar appreciated 20 percent over this interval, even though the real interest differential already had begun to fall. The other observable factors that are suggested in standard macroeconomic models--money growth rates, real growth rates, the trade deficit--also were moving in the wrong direction to explain the dollar's rise at this time. Of course, standard observable macroeconomic variables cannot explain, much less predict, most short-term changes in the exchange rate. But what does this mean? It may be that the unexplained short-term changes are rational revisions in the market's perception of the long-run equilibrium exchange rate. These revisions are caused by shifts in "tastes and technologies," even if the shifts are not observable to macroeconomists as standard measurable fundamentals. A major difficulty with this interpretation, though, is that it is hard to believe that the world demand for U.S. goods (or U.S. productivity) could have risen enough to increase the equilibrium real exchange rate by more than 20 percent over a nine-month period, let alone that such a shift then would be reversed over an equally short period. The second view is that the appreciation may have been an example of a speculative bubble: that it was unrelated to fundamentals, but rather was the outcome of self-confirming market expectations. In other words, the dollar "overshot the overshooting equilibrium." This also may have been the nature of the dollar appreciation of 1988-9. Ken Froot and I have suggested that such episodes may be examples of speculative bubbles, and that they may be described best by models in which market participants are not necessarily assumed to agree on the correct way to forecast the exchange rate.(1) Trading Volume in the Foreign Exchange Market Supporting the idea that market participants differ widely in their forecasts is the tremendous volume of foreign exchange trading. If participants all agree on their forecasts, why do they trade so much? In April 1989, foreign exchange trading (adjusted for double-counting) in the United States totaled $128.9 billion a day, an increase of 120 percent from March 1986. Simultaneous counts in London and Tokyo reported $187 billion and $115 billion a day, respectively. Thus the worldwide total is over $430 billion of foreign exchange trading a day. Interestingly, the banks in the New York Fed Census reported that only 4.9 percent of their trading was with a nonfinancial firm; for the nonbanks, only 4.4 percent of their trading was with a nonfinancial firm. In other words, 95 percent of trading takes place among banks and other financial firms, rather than with customers (importers and exporters). …

A Social Exchange Approach to Voluntary Cooperation

Abstract: A social exchange approach to voluntary cooperation is developed on the assumption that voluntary cooperative behavior is motivated by social approval, which is conceptualized as an emotional activity. The associated unique Nash equilibrium may have attractive welfare properties and provides an understanding of spontaneous norm emergence. Furthermore, the opening of a market or government intervention for the collective good is shown to affect voluntary cooperation negatively. Copyright 1990 by American Economic Association.

Selection Criteria in Coordination Games: Some Experimental Results

Abstract: We study the selection of an equilibrium for coordination games: symmetric, simultaneous move, complete information games which have multiple, Pareto-ranked Nash equilibria. We design and experiment to explore regularities in the observed outcomes for this class of games. With replication, we find that the Nash equilibrium concept accurately predicts the strategies chosen by players in these games. However, the equilibrium outcome is not always the Pareto-dominant equilibrium so that coordination failures can arise. Moreover, we find that altering the payoffs of a dominated strategy can influence the selection of a Nash equilibrium. Our results are consistent with a modified version of Harsanyi's tracing procedure in which players initially place some positive probability that their opponent is a cooperative player even though the cooperative strategy may be dominated by another strategy.