Research Database

In the data, a large fraction of price changes are temporary. We provide a simple menu cost model which explicitly includes a motive for temporary price changes. We show that this simple model can account for the main regularities concerning temporary and permanent price changes. We use the model as a benchmark to evaluate existing shortcuts that do not explicitly model temporary price changes. One shortcut is to take the temporary changes out of the data and fit a simple Calvo model to it. If we do so prices change only every 50 weeks and the Calvo model overestimates the real effects of monetary shocks by almost 70%. A second shortcut is to leave the temporary changes in the data. If we do so prices change every 3 weeks and the Calvo model produces only 1/9 of the real effects of money as in our benchmark. We show that a simple Calvo model can generate the same real effects as our benchmark model if we set parameters so that prices change every 17 weeks.

We consider the problem of an insurer who enters into a repeated relationship with a set of risk averse agents in the presence of ex post verification costs. The insurer wishes to minimize the expected cost of providing these agents a certain expected utility level. We characterize the optimal contract between the insurer and the insured agents. We then apply the analysis to the provision of deposit insurance. Our results suggest—in a deposit insurance context—that it may be optimal to utilize the discount window early on, and to make deposit insurance payments only later, or not at all.

This article studies the accuracy of two versions of Kydland and Prescott's (1980, 1982) procedure for approximating optimal decision rules in problems in which the objective fails to be quadratic and the constraints fail to be linear. The analysis is carried out using a version of the Brock-Mirman (1972) model of optimal economic growth. Although the model is not linear quadratic, its solution can nevertheless be computed with arbitrary accuracy using a variant of existing value-function iteration procedures. I find the Kydland-Prescott approximate decision rules are very similar to those implied by value-function iteration.

This paper examines the pricing of statebank notes prior to 1860 using data on the discounts on these notes as quoted in New York, Philadelphia, Cincinnati, and Cleveland. The study is organized around determining whether these banknotes were priced consistent with their expected net redemption value. It finds a bank’s notes had higher prices when it was redeeming it notes for specie than when is was suspended. However, although prices generally varied inversely with redemption costs, the relationship was not tight and persistent arbitrage opportunities existed.

We don’t really know why the U.S. banking industry is consolidating rapidly, as it has been doing for the last decade or so. After a large number of studies on the topic including this one, what seems clear is that consolidation is not producing significant efficiencies — at least not on average. Other dimensions of the consolidation trend — such as its heavy concentration in large banks — are just as poorly understood. Given this ignorance as to the “why” of consolidation, it is extremely risky to predict its future effects. Based on past experience and data, at least, we can conclude the following.

This paper describes an analytically tractable model of balanced growth that allows for extensive heterogeneity in the technologies used by firms. Firms enter with fixed characteristics that determine their initial technologies and the levels of fixed costs required to stay in business. Each firm produces a different good, and firms are subject to productivity and demand shocks that are independent across firms and over time. Firms exit when revenues are too low relative to fixed costs. Conditional on fixed firm characteristics, the stationary distribution of firm size satisfies a power law for all sizes above the size at which new firms enter. The tail of the size distribution decays very slowly if the growth rate of the initial productivity of potential entrants is not too far above the growth rate of productivity inside incumbent firms. In one interpretation, this difference in growth rates can be related to learning-by-doing inside firms and spillovers of the information generated as a result. As documented in a companion paper, heterogeneity in fixed firm characteristics together with idiosyncratic firm productivity growth can generate entry, exit, and growth rates, conditional on age and size, in line with what is observed in the data.

We derive the empirical implications of a popular class of international macroeconomic models. The real economy is a stochastic exchange model with complete markets. A standard result is that cross-country risk sharing implies perfect correlation between consumption paths across countries. With mild restrictions on the endowment process ii also implies a positive correlation between net exports and output in every country. We introduce money using cash-in-advance constraints and show that the implications for real variables carry over into the monetary economy. These dichotomy and neutrality propositions generalize those in the literature to stochastic environments with heterogeneous agents, and do not require the cash-in-advance constraint to bind in every state. They imply that any correlation between the nominal exchange rate and the balance of trade can be made consistent with the theory.

This paper proposes a theory of when labor contract should be nominal or, instead, indexed. We find that, contracts should be indexed if prices are difficult to forecast and nominal otherwise. We use a principal-agent model developed by Jovanovic and Ueda (1997), with moral hazard, renegotiation, and where a signal (the nominal value of the sales of the agent) is observed before renegotiation takes place. We show that their result, that the optimal contract is nominal when agents must choose pure strategies, is robust to the case where agents can choose mixed strategies in the sense that, for certain parameters, the optimal contract is still nominal. For other parameters, however, we show that the optimal contract is indexed. Our findings are consistent with two empirical regularities. First prices are more volatile with higher inflation and, second, countries with high inflation tend to have indexed contracts. Our theory suggests that it is because prices are difficult to forecast in high inflation countries that contracts are indexed.

We develop and calibrate a search-theoretic model of the labor market in order to forecast the evolution of the aggregate US labor market during and after the coronavirus pandemic. The model is designed to capture the heterogeneity of the transitions of individual workers across states of unemployment and employment and across different employers. The model is designed also to capture the trade-offs in the choice between temporary and permanent layoffs. Under reasonable parametrizations of the model, the lockdown instituted to prevent the spread of the novel coronavirus is shown to have long-lasting negative effects on unemployment. This is because the lockdown disproportionately disrupts the employment of workers who need years to find stable jobs.

Over the period 1982–2006, the U.S. Bureau of Economic Analysis (BEA) estimates the return on investments of foreign subsidiaries of U.S. multinational companies averaged 9.4 percent per year after taxes while U.S. subsidiaries of foreign multinationals earned on average only 3.2 percent. We estimate the importance of two factors that distort BEA returns: technology capital and plant-specific intangible capital. Technology capital is accumulated know-how from intangible investments in R&D, brands, and organizations that can be used in foreign and domestic locations. Technology capital used abroad generates profits for foreign subsidiaries with no foreign direct investment. Plant-specific intangible capital in foreign subsidiaries is expensed abroad, lowering current profits on foreign direct investment (FDI) and increasing future profits. We develop a multicountry general equilibrium model with an essential role for FDI and apply the same methodology as the BEA to construct economic statistics for the model economy. We estimate that mismeasurement of intangible investments accounts for over 60 percent of the difference in BEA returns.

This paper describes a newly constructed data set of all U.S. state banks from 1782 to 1861. It contains the names and locations of all banks and branches that went into business and an estimate of when each operated. The compilation is based on reported balance sheets, listings in banknote reporters, and secondary sources. Based on these data, the paper presents a count of the number of banks and branches in business by state. I argue that my series are superior to previously existing ones for reasons of consistency, accuracy, and timing. The paper contains examples to support this argument.

This paper investigates—in the context of a simple example—the accuracy of an econometric technique recently proposed by Kydland and Prescott. We consider a hypothetical econometrician who has a large sample of data, which is known to be generated as a solution to an infinite horizon, stochastic optimization problem. The form of the optimization problem is known to the econometrician. However, the values of some of the parameters need to be estimated. The optimization problem—presented in a recent paper by Long and Plosser—is not linear quadratic. Nevertheless, its closed form solution is known, although not to the hypothetical econometrician of this paper. The econometrician uses Kydland and Prescott’s method to estimate the unknown structural parameters. Kydland and Prescott’s approach involves replacing the given stochastic optimization problem by another which approximates it. The approximate problem is a element of the class of linear quadratic problems, whose solution is well-known—even to the hypothetical econometrician of this paper. After examining the probability limits of the econometrician’s estimators under “reasonable” specifications of model parameters, we conclude that the Kydland and Prescott method works well in the example considered. It is left to future research to determine the extent to which the results obtained for the example in this paper applies to a broader class of models.

An overlapping generations model is developed that contains labor markets in which adverse selection problems arise. As a response to these problems, quantity rationing of labor occurs. In addition, the model is capable of generating (a) random employment and prices despite the absence of underlying uncertainty in equilibrium; (b) a statistical (nondegenerate) Phillips curve; (c) procyclical movements in productivity; (d) correlations between aggregate demand and unemployment (and output); (e) an absence of correlation between unemployment (employment) and real wages. In addition, the Phillips curve obtained typically has the "correct" slope. Finally, the model reconciles the theoretical importance and observed unimportance of intertemporal substitution effects, and explains why price level stability may be a poor policy objective.

Earlier researchers have found either no relation or a positive relation between the conditional expected return and the conditional variance of the monthly excess return on stocks when they used the standard GARCH-M model. This is in contrast to the negative relation found when other approaches were used to model conditional variance. We show that the difference in the estimated relation arises because the standard GARCH-M model is misspecified. When the standard model is modified allow for (i) the presence for seasonal patterns in volatility, (ii) positive and negative innovations to returns to having different impacts on conditional volatility, and (iii) nominal interest rates to affect conditional variance, we once again find support for a negative relation. Using the modified GARCH-M model, we also show that there is little evidence to support the traditional view that conditional volatility is highly persistent. Also, positive unanticipated returns result in a downward revision of the conditional volatility whereas negative unanticipated returns result in an upward revision of conditional volatility of a similar magnitude. Hence the time series properties of the monthly excess return on stocks appear to be substantially different from that of the daily excess return on stocks.