Research Database

We analyze economies with indivisible commodities. There are two reasons for doing so. First, we extend and provide new insights into sunspot equilibrium theory. Finite competitive economies with perfect markets and convex consumption sets do not allow sunspot equilibria; these same economies with nonconvex consumption sets do, and they have several properties that can never arise in convex environments. Second, we provide a reinterpretation of the employment lotteries used in contract theory and in macroeconomic models with indivisible labor. We show how socially optimal employment lotteries can be decentralized as competitive equilibria once sunspots are introduced.

We examine the validity of one version of the Coase Theorem: In any economy in which property rights are fully allocated, competition will lead to efficient allocations. This version of the theorem implies that the public goods problem can be solved by allocating property rights fully and letting markets do their work. We show that this mechanism is not likely to work well in economies with either pure public goods or global externalities. The reason is that the privatized economy turns out to be highly susceptible to strategic behavior in that the free-rider problem in public goods economies manifests itself as a complementary monopoly problem in the private goods economy. If the public goods or externalities are local in nature, however, market mechanisms are likely to work well.

Our work is related to the recent literature on the foundations of Walrasian equilibrium in that it highlights a relationship among the appropriateness of Walrasian equilibrium as a solution concept, the incentives for strategic play, the aggregate level of complementarities in the economy, and the problem of coordinating economic activity.

A traditional explanation for why sovereign governments repay debts is that they want to keep a good reputation so they can easily borrow more. Bulow and Rogoff have challenged this explanation. They argue that, in complete information models, government borrowing requires direct legal sanctions. We argue that, in incomplete information models with multiple trust relationships, large amounts of government borrowing can be supported by reputation alone.

Intuitively, a patient trader should be able to make his trading partners compete to reveal whatever information is relevant to their transactions with him. This possibility is examined in the context of a model resembling that of Gale (1986). The main result is that, under assumptions having to do with asset structure and spanning, incentive-compatible elicitation of trading partners’ knowledge is feasible.

A classic result in the theory of implicit contract models with asymmetric information is that “underemployment” results if and only if leisure is an inferior good. We introduce household production into the standard implicit contract model and show that we can have underemployment at the same time that leisure is a normal good.

The paper compares implications of three kinds of models of households’ consumption behavior: the basic permanent-income model, several models of liquidity-constrained households, and a model of an informationally-constrained efficient contract. These models are distinguished in terms of implications regarding the present discounted values of net trades to households at various levels of temporary income, and the households’ marginal rates of substitution. Martingale consumption is studied as an approximation to the predicted consumption process of the efficient-contract model.

We analyze economies with private information concerning the quality of commodities. Without private information there is a nonmonetary equilibrium with only high quality commodities produced, and money cannot improve welfare. With private information there can be equilibria with bad quality commodities produced, and sometimes only nonmonetary equilibrium is degenerate. The use of money can lead to active (i.e., nondegenerate) equilibria when no active nonmonetary equilibrium exists. Even when active nonmonetary equilibria exist, with private information money can increase welfare via its incentive effects: in monetary equilibrium, agents may adopt trading strategies that discourage production of low quality output.

This paper explores some macroeconomic implications of including household production in an otherwise standard real business cycle model. We calibrate the model based on microeconomic evidence and long run considerations, simulate it, and examine its statistical properties Our finding is that introducing home production significantly improves the quantitative performance of the standard model along several dimensions. It also implies a very different interpretation of the nature of aggregate fluctuations.

We document properties of business cycles in ten countries over the last hundred years, contrasting the behavior of real quantities with that of the price level and the stock of money. Although the magnitude of output fluctuations has varied across countries and periods, relations among variables have been remarkably uniform. Consumption has generally been about as variable as output, and investment substantially more variable, and both have been strongly procyclical. The trade balance has generally been countercyclical. The exception to this regularity is government purchases, which exhibit no systematic cyclical tendency. With respect to the size of output fluctuations, standard deviations are largest between the two world wars. In some countries (notably Australia and Canada) they are substantially larger prior to World War I than after World War II, but in others (notably Japan and the United Kingdom) there is little difference between these periods. Properties of price levels, in contrast, exhibit striking differences between periods. Inflation rates are more persistent after World War II than before, and price level fluctuations are typically procyclical before World War II, countercyclical afterward. We find no general tendency toward increased persistence in money growth rates, but find that fluctuations in money are less highly correlated with output in the postwar period.

A tax distorted real business cycle model is parameterized, calibrated, and solved numerically in an attempt to measure the size of Harberger Triangles relative to Okun Gaps. In particular, the model constructed is used to study, quantitatively, the impact of various distortional government tax and subsidy schemes. It is shown that the government can use tax policy to stabilize cyclical fluctuations, and this is done for the economy being studied. The benefits of implementing such a stabilization policy are calculated and compared with the size of the welfare gains realized from reducing various tax distortions.

Data augmentation and Gibbs sampling are two closely related, sampling-based approaches to the calculation of posterior moments. The fact that each produces a sample whose constituents are neither independent nor identically distributed complicates the assessment of convergence and numerical accuracy of the approximations to the expected value of functions of interest under the posterior. In this paper methods for spectral analysis are used to evaluate numerical accuracy formally and construct diagnostics for convergence. These methods are illustrated in the normal linear model with informative priors, and in the Tobit-censored regression model.

We document and attempt to explain the observation that automobile insurance premiums vary dramatically across local markets. We argue high premiums can be attributed to the large numbers of uninsured motorists in some cities, while at the same time, the uninsured motorists can be attributed to high premiums. We construct a simple noncooperative equilibrium model, where limited liability can generate inefficient equilibria with uninsured drivers and high, yet actuarially fair, premiums. For certain parameterizations, an optimal full insurance equilibrium and inefficient high price equilibria with uninsured drivers exist simultaneously, consistent with the observed price variability across seemingly similar cities.

This paper studies the quantitative properties of fiscal and monetary policy in business cycle models. In terms of fiscal policy, optimal labor tax rates are virtually constant and optimal capital income tax rates are close to zero on average. In terms of monetary policy, the Friedman rule is optimal—nominal interest rates are zero—and optimal monetary policy is activist in the sense that it responds to shocks to the economy.

This is a note on the analysis of inflation and taxation in Cooley and Hansen’s cash-in-advance economy described in their paper “The Welfare Costs of Moderate Inflations.” Basic issues concerning the costs and consequences of inflation are considered, their results are assessed, and some directions for extensions are suggested.

We ask whether a two-country real business cycle model can account simultaneously for domestic and international aspects of business cycles. With this question in mind, we document a number of discrepancies between theory and data. The most striking discrepancy concerns the correlations of consumption and output across countries. In the data, outputs are generally more highly correlated across countries than consumptions. In the model we see the opposite.

Technology change is modeled as the result of decisions of individuals and groups of individuals to adopt more advanced technologies. The structure is calibrated to the U.S. and postwar Japan growth experiences. Using this calibrated structure we explore how large the disparity in the effective tax rates on the returns to adopting technologies must be to account for the huge observed disparity in per capita income across countries. We find that this disparity is not implausibly large.

We extend the analysis of Kiyotaki and Wright, who study an economy in which the different commodities that serve as media of exchange are determined endogenously. Kiyotaki and Wright consider only symmetric, steady-state, pure-strategy equilibria, and find that for some parameter values no such equilibria exist. We consider mixed-strategy equilibria and dynamic equilibria. We prove that a steady-state equilibrium exists for all parameter values and that the number of steady-state equilibria is generically finite. We also show, however, that there may be a continuum of dynamic equilibria. Further, some dynamic equilibria display cycles.

In this paper we analyze the efficacy of seignorage as a tax associated with various monetary arrangements in a computable general equilibrium model. For the economies examined, we find that seignorage tax is not a good one relative to a tax on labor income. If the after-tax real return is –5 percent, as it was in the 1974–1978 period, welfare is approximately 0.5 percent of consumption lower than it would be if the after-tax return were zero.

This essay distills the differences between zero inflation proponents and critics to three main questions: Can the central bank make a credible commitment to maintaining a stable price level? Should monetary policy be used to reduce the tax on capital income? And would reducing uncertainty about inflation produce significant social benefits? Proponents of zero inflation answer all three questions yes, while critics answer no. The essay reviews both answers for each question and suggests that the disagreements are at least partly due to inadequacies in economic models. The essay repeats the author's view, argued in an earlier study, that when other policy options are considered, the overall benefits of a zero inflation policy shrink close to zero, and may even become negative.

This paper shows that there can be equilibria in which exchange rates display randomness unrelated to fundamentals. This is demonstrated in the context of a two currency, one good model, with three agent types and cash-in-advance constraints. A crucial feature is that the type i agents, for i=l, 2, must satisfy a cash-in-advance constraint by holding currency i, while type 3 agents can satisfy it by holding either currency. It is shown that real allocations vary across the multiple equilibria if markets for hedging exchange risk do not exist and that the randomness is innocuous if complete markets exist.

We ask whether a two-country real business cycle model can account simultaneously for domestic and international aspects of business cycles. With this question in mind, we document a number of discrepancies between theory and data. The most striking discrepancy concerns the correlations of consumption and output across countries. In the data, outputs are generally more highly correlated across countries than consumptions. In the model we see the opposite.

Economic equilibria are usually solutions to fixed point problems rather than solutions to convex optimization problems. This leads to two difficulties that are closely related: First, equilibria may be difficult to compute. Second, a model economy may have more than one equilibrium. This paper explores these issues for a number of stylized economies, including static economies that involve both pure exchange and production, economies that have infinite numbers of goods because of time and uncertainty, and economies with distortionary taxes and externalities. There are numerous numerical examples that illustrate the theory and could serve as test problems for algorithms.

Economic activity in the United States has been growing more slowly than average for the past three years, and it is not likely to speed up soon. The slow growth has been due primarily to pessimism among consumers about their long-run personal income. That pessimism—and its extension to the U.S. economy as a whole—is confirmed by data on real estate prices and labor force participation and by the 1992–93 forecast of a Bayesian vector autoregression model.

This paper studies the time series and cross-sectional behavior of tariffs during the prewar period in a manner that recognizes their dual role: as an instrument of commercial policy and as an important source of government revenue. The fact that these objectives may be reinforcing or conflicting has made a critical difference in the choice of tariff rates across commodities and over time. Another interesting feature of prewar tariffs is that most import duties were specific, charging a nominal amount of domestic currency per physical unit imported. Existing historical accounts focus on dates of legislative change and miss the cyclical variation in tariff rates that results from the impact of changing prices on the real value of specific duties. These price effects are quantitatively important during the 1900 to 1940 period. For example, the Fordney-McCumber Act of 1922 which has been interpreted as very protectionist simply corrected the erosion of real tariff rates occurring during the inflation of World War I. The opposite is true of the infamous Smoot-Hawley Tariff Act; the deflation of the 1930s added considerably to the legislated increases. The implications of these findings for modelling the role of Smoot-Hawley in the Great Depression is also discussed.

The welfare effects of alternative monetary arrangements are computed for an economy calibrated to U.S. data. In the model world, people vary their holdings of liquid assets in order to smooth their consumption. In such worlds, we find that the feature of an arrangement that matters is the equilibrium after-tax real return on savings. We also find that relative to a tax on labor income, seigniorage is a poor source of revenue.

This paper develops a model of vintage human capital in which each technology requires vintage specific skills. We examine the properties of a stationary equilibrium for our economy. The stationary equilibrium is characterized by an endogenous distribution of skilled workers across vintages. The distribution is shown to be single peaked and, under general conditions, there is a lag between the time when a technology appears and the peak of it's usage, a phenomenon known as diffusion. An increase in the rate of exogenous technological change shifts the distribution of human capital to more recent vintages thereby increasing the diffusion rate.

This paper investigates the effects of changes in a country's monetary policies on its economy and the welfare of its citizens and those of other countries. Each country is populated by two-period lived overlapping agents who reside in either a home service sector or a world-traded good sector. Policy effects are transmitted through changes in the real interest rate, relative prices, and price levels. Welfare effects are sometimes dominated by relative price movements and can thus be opposite of those found in one-good models. Simulation of dynamic paths also reveals that welfare effects for some types of agents reverse between those born in immediate post-shock periods and those born later.

This paper demonstrates a connection between failure of Walras’ Law and nonoptimal equilibria in a quite general overlapping generations model. Consider the following implication of Walras’ Law in finite economies. Suppose that all prices are positive and that all agents are on their budget lines. Then, no matter how the set of goods is partitioned, there cannot be an excess supply (in value terms) for some other set in the partition with excess demand (in value terms) for some other set in the partition. We use the Cass (1972), Benveniste (1976, 1986), Balasko and Shell (1980), and Okuno and Zilcha (1980) price characterization of optimality of equilibria in pure exchange overlapping generations models to show the following link between the above implication of Walras’ Law and optimality of a competitive equilibrium. A competitive equilibrium is nonoptimal if and only if the above implication of Walras’ Law fails in its neighborhood.

We prove the general existence of steady states with positive consumption in an N goods and fiat money version of the Kiyotaki-Wright (“On money as a median of exchange,” Journal of Political Economy 1989, 97 (4), 927–54) model by admitting mixed strategies. We also show that there always exists a steady state in which everyone accepts a least costly-to-store object. In particular, if fiat money is one such object, then there always exists a monetary steady state. We also establish some other properties of steady states and comment on the relationship between steady states and (incentive) feasible allocations.

This paper is a comment on P.C.B. Phillips, “To criticise the critics: an objective Bayesian analysis of stochastic trends” [Phillips (1990)]. Departing from the likelihood of an univariate autoregressive model different routes that lead to a posterior odds analysis of the unit root hypothesis are explored, where the differences in routes are due to the different choices of the prior. Improper priors like the uniform and the Jeffreys prior are less suited for Bayesian inference on a sharp null hypothesis as the unit root. A proper normal prior on the mean of the process is analyzed and empirical results using extended Nelson/Plosser data are presented.

Two types of unemployment insurance systems are studied. In one, unemployed workers receive benefits while those on reduced hours do not, as in North America (at least until recently). In the other, short-time compensation is paid to workers on reduced hours, as in Europe. With incomplete experience-rating of unemployment insurance taxes, the first system leads to inefficient temporary layoffs. The latter system does not lead to layoffs but does lead to inefficient hours per worker. Some cross-country evidence is presented regarding these effects. The implication of the analysis is that policy reform on the tax, not the benefit, side of the system is the best way to reduce the inefficiencies implied by both types of unemployment insurance.

This paper reexamines volatility tests of the expectations model of the term structure of interest rates. The restrictions of the model are studied in a general multivariate MA representation of the time series process of interest rates under various assumptions on the number of unit roots and the pattern of cointegration. Test statistics are computed by Bayesian techniques. We find that the long term interest rate overreacts to transitory shocks, and underreacts to permanent shocks.

Economists and policymakers disagree on the lengths central banks should go in pursuit of price stability and, in fact, on exactly what price stability means. This essay advocates that central banks try to maintain stable price levels in their countries, and it argues that the benefits of achieving this objective are worth the transition costs. The essay reviews some of the relevant academic literature on the economic effects of inflation and specifically addresses the issues of transition cost, fiscal dominance, and credibility.

This paper begins with the observation that the volatility of factor input growth is insufficient to explain the volatility in the growth rate of output, and explores the empirical plausibility of the hypothesis that this fact is due to the presence of productive externalities and increasing returns to scale. We construct a quantitative equilibrium macroeconomic model which incorporates these features, and allows for demand shocks operating at the level of the consumer. We employ the method of Hall (1986) and Parkin (1988) to measure these demand shocks, and use these measured disturbances to conduct stochastic simulations of the model. We find that the model with increasing returns, when driven by measured demand shocks, generates time series which replicate the basic stylized facts of U.S. business cycles, although with lower amplitude. However, in the absence of increasing returns the measured demand shocks do not produce a characteristic business cycle response. When preference shocks are combined with productivity shocks, we find that both the increasing returns and the constant returns models correctly predict a weak correlation between hours and wages, while the predictions of the increasing returns model provide the better overall match with the data.

This paper examines the response of sectoral real wages and location probabilities to oil price shocks using U.S. micro-panel data (the National Longitudinal Survey of Young Men). The goal is to determine whether the observed response patterns are consistent with so-called “sectoral shift” theories of unemployment. These theories predict that shocks that change sectoral relative wages should increase unemployment in the short run and lead to labor reallocation in the long run. Consistent with these predictions, the oil price changes of the 1970s resulted in substantial movements in industry relative wages and significant reallocation of labor across industries, while both oil price increases and decreases resulted in short run increases in unemployment. However, equilibrium sectoral models imply that real shocks that change relative wages across sectors should induce flows of labor into those sectors where relative wages rise. In fact, real oil price shocks are found to have substantially reduced respondents’ location probability in the construction industry, which had a wage increase relative to all large industries. The industry with the greatest increase in employment share was services, which had among the greatest wage declines. These are clear contradictions of the predictions of equilibrium sectoral models. Nevertheless, a more general class of models where both relative wage movements and quantity constraints generate labor flows appears to be quite consistent with the data.

This study focuses on the analysis of energy price shocks in the generation of business cycle phenomena. These shocks are transmitted through endogenous fluctuations in capital utilization. The production structure of the model gives rise to an empirical measure of ‘true’ technology growth that is exempt from recent criticisms levelled at the standard measure, i.e., Solow residual growth. The model is calibrated and evaluated for the U.S. economy using annual data over the 1960–1988 period. At business cycle frequencies, the model accounts for 74–91 percent of the volatility of U.S. output; closely matches the strong negative correlation between output and energy prices manifested in the U.S. data; and is generally consistent with other facts characterizing U.S. business cycles. Energy price shocks make a significant quantitative contribution to the model’s ability to explain the data.

This paper develops a two-sector neoclassical model of international trade with endogenous capital accumulation and intertemporal optimization. In contrast to the traditional “2x2x2” model, there is a Ricardian implication that countries specialize according to comparative advantage. Consequently, the theory predicts that government expenditure policies are unlikely to affect the established pattern of specialization and trade, but that changes in tax policies can result in a dramatic reorganization of world production. Further, the dynamic “2x2x2” model can explain many of the salient features of international trade that are problematic for the standard Heckscher-Ohlin-Samuelson model.

This paper analyses how the wage and employment decisions of females are affected by past workforce participation and hours supplied. Our estimation methods exploit the fact that, when markets are complete, the Lagrange multiplier for an agent’s lifetime budget constraint always enters multiplicatively with the prices of (contingent claims to) consumption and leisure. Depending on the properties of the equilibrium price process, it is thus possible to predict the behavior of a wealthy agent by observing that of a poorer person living in a more prosperous world. This provides the key to estimating, nonparametrically, the expectations that enter the calculus of equilibrium decisionmaking, and ultimately the structural parameters which characterize preferences.

There is widespread agreement that a surprise increase in an economy's money supply drives the nominal interest rate down and economic activity up, at least in the short run. This is understood as reflecting the dominance of the liquidity effect of a money shock over an opposing force, the anticipated inflation effect. This paper illustrates why standard general equilibrium models have trouble replicating the dominant liquidity effect. It also studies several factors which have the potential to improve the performance of these models.

Barksy-Miron [1989] find that the postwar U.S. economy exhibits a regular seasonal cycle, as well as the business cycle phenomenon. Are these findings consistent with current equilibrium business cycle theories as surveyed by Prescott [1986]? We consider a dynamic, stochastic equilibrium business cycle model which includes deterministic seasonals and nontime-separable preferences. We show how to compute a perfect foresight seasonal equilibrium path for this economy. An approximation to the stochastic equilibrium is calculated. Using postwar U.S. data, GMM estimates of the structural parameters are employed in the perfect foresight and simulation analyses. As in Constantinides and Ferson [1990], the estimates of consumption preferences exhibit habit-persistence, but a local optimum also exists which exhibits local durability.

The nontime-separable model predicts most of the seasonal patterns found in aggregate quantity time series; notable exceptions are the seasonal patterns in investment and the fourth quarter seasonal in labor hours. An evaluation of the model’s predictions for deseasonalized second moments finds strong support for the parameterization with local durability in consumption. This model broadly displays a seasonal cycle as well as the business cycle phenomenon.

This paper uses micro data to examine differences in the cyclical variability of employment, hours, and wages for skilled and unskilled workers. Contrary to conventional wisdom, we find that, at the aggregate level, skilled and unskilled workers are subject to essentially the same degree of cyclical variation in wages. That is, relative offer wage differentials between skilled and unskilled workers are acyclical. However, we do find important differences in the patterns of employment and hours variation for skilled vs. unskilled workers when a college degree is used as a proxy for skill. Workers with a college degree have little cyclical variation in employment or weekly hours, while uneducated workers have highly procyclical employment and hours. Thus, we find that the quality of labor input per manhour rises in recessions, thereby inducing a countercyclical bias in aggregate wage measures. We find substantial differences across industries in the cyclical variation of employment, hours, and wage differentials. We interpret these results as indicative of important inter-industry differences in labor contracting.

In this paper we use the common perspective provided by the neoclassical growth model to evaluate the size of the distortions associated with different monetary and fiscal policies designed to finance a given sequence of government expenditures. We construct an artificial monetary economy incorporating the cash-in-advance framework of Lucas and Stokey (1983), calibrate it to match important features of the U.S. economy, and simulate it to provide a quantitative assessment of the welfare costs associated with government policies involving different combinations of taxes on capital and labor income, consumption, and holdings of money. In particular, we evaluate the welfare gains from tax reforms that are designed to replace taxes on capital or labor income with other forms of taxation. Our results suggest that the welfare costs of financing a given sequence of government expenditures are slightly lower in economies that substitute inflation or consumption taxes for the tax on labor income, but dramatically lower for economies that substitute any of these taxes for the tax on capital income. Replacing the capital tax with a consumption tax, for example, eliminates 81 percent of the welfare cost arising from distorting taxation. In addition, we show that these welfare costs can be reduced further by eliminating the capital tax with a nonstationary policy that involves a transition to a temporary policy followed by a new steady state policy rather than an immediate change to a new steady state policy.

This paper empirically investigates the restrictions embodied in a popular dynamic monetary model for the cross relations between consumption, money holdings, inflation and assets’ returns using quarterly data for the high-inflation economy in Israel, 1970–1988. The model considered includes money in agents’ utility function. A set of the estimated parameters is used in the analysis to assess the model’s quantitative implications for seigniorage and for the welfare costs of inflation. The estimates are found to account well for the observed stability over time of seigniorage in Israel and imply sizeable welfare costs of inflation.

A version of the permanent income model is developed in which the bliss point of the agent is stochastic. The bliss point depends on realizations of the stochastic process generating labor income and a random shock. The model predicts consumption and labor income share a common trend and that a linear combination of current consumption, current labor income, and once lagged consumption is stationary. Empirically, consumption appears more serially correlated than the model is capable of supporting. Further, the volatility of consumption appears sensitive to time variation in real interest rates.

Does the magnitude of a trough in employment differ from the magnitude of a peak in employment, and is the time employment spends in rising from a trough to a peak longer than the time spends in falling from a peak to a trough? In this paper we measure the “asymmetry of magnitudes” and the “asymmetry of durations” of seven US postwar employment series. The series are detrended using the Hodrick-Prescott filter prior to the analysis. Appropriate measurements of the two types of asymmetry are the skewness of the detrended series and the skewness of the first differenced detrended series, respectively. Monte Carlo and bootstrapping procedures are used to evaluate the significance levels. Five out of seven series show negative skewnesses in levels as well as in first differences. The skewnesses of “magnitudes” and “durations” of US aggregate employment are significant, and yield –0.50 and –0.60 respectively.

In the second part of the paper a nonlinear AR model is derived from the theory of Hermitian type polynomials that have the potential to realize stochastic asymmetric self-sustained oscillations. In contrast with the standard linear AR model, the nonlinear AR model, fitted to the employment series, accurately generates the two types of asymmetry.

In this paper we use micro panel data to examine the effects of oil price shocks on employment and real wages, at the aggregate and industry levels. We also measure differences in the employment and wage responses for workers differentiated on the basis of skill level. We find that oil price increases result in a substantial decline in real wages for all workers, but raise the relative wage of skilled workers. The use of panel data econometric techniques to control for unobserved heterogeneity is essential to uncover this result, which is completely hidden in OLS estimates. While the short-run effect of oil price increases on aggregate employment is negative, the long-run effect is negligible. We find that oil price shocks induce substantial changes in employment shares and relative wages across industries. However, we find little evidence that oil price shocks cause labor to flow into those sectors with relative wage increases.

Two observations have sometimes been viewed as evidence that the equilibrium allocations of intermediated credit markets are inefficient. First, low-income households' marginal propensity to consume is close to unity. Second, even high-income households seem to face nonprice constraints during recessions. This paper presents a model that possesses both of these features. (A recession is modeled as an economy in which the equilibrium level of investment is at its lowest possible level.) However, contrary to the conventional view, the equilibrium of this model is ex ante efficient. The model also sheds light on some historical episodes of credit restraint.

This paper develops a model of competitive economy which is used to study the effect that distortionary taxes have on the business cycle and on agents’ welfare. In the presence of distortions, the equilibria are not Pareto optimal and standard computational techniques cannot be used. Instead, methods that take into account the presence of distorting taxes are applied. Maximum likelihood estimates of taste, technology and policy parameters from U.S. post-war time series are used to obtain several results. I find that a significant portion of the variance of the aggregate consumption, output, hours worked, capital stock, and investment can be attributed to the factor tax and government spending processes. Also, I compute the deadweight loss due to alternative tax changes and compare these estimates to others in the literature. Specification of taxes as constant versus state-contingent can have a significant effect on the results.

We propose and evaluate an explicit test of the null hypothesis of no difference in the accuracy of two competing forecasts. In contrast to previously developed tests, a wide variety of accuracy measures can be used (in particular, the loss function need not be quadratic, and need not even be symmetric), and forecast errors can be non-Gaussian, nonzero mean, serially correlated and contemporaneously correlated.

Estimates of interindustry wage differentials are obtained using a fixed-effects estimator on a long panel, the National Longitudinal Survey of Young Men (NLS). After controlling for observable worker characteristics, 84 percent of the residual variance of log wages across industries is explained by individual fixed-effects. Only 16 percent of the residual variance is “explained” by industry dummies. Since no controls for specific job characteristics are used, job characteristics that vary across industries could potentially explain this rather small residual across-industry log wage variance that is not attributable to individual effects. Clearly then, these data do not force us to resort to noncompetitive explanations of interindustry wage differentials, such as efficiency wage theory. Furthermore, efficiency wage theories predict that wages in efficiency wage paying (or primary) industries should be relatively rigid. Therefore, industry wage differentials should widen in recessions. However, no such tendency is found in the data.

Results in Lucas (1987) suggest that if public policy can affect the growth rate of the economy, the welfare implications of alternative policies will be large. In this paper, a stochastic, dynamic general equilibrium model with endogenous growth and money is examined. In this setting, inflation lowers growth through its effect on the return to work. However, the welfare costs of higher inflation are modest.

This paper examines whether the U.S. banking industry's recent consolidation trend—toward fewer and bigger firms—is a natural result of market forces. The paper finds that it is not: The evidence does not support the popular claims that large banking firms are more efficient and less risky than smaller firms or the notion that the industry is consolidating in order to eliminate excess capacity. The paper suggests, instead, that public policies are encouraging banks to merge, although it acknowledges that other forces may be at work as well.

We consider four models of consumption that differ with respect to efficient risk-sharing and altruism. They range from complete markets with altruism to family risk-sharing. We use a matched sample of parents and independent children available from the Panel Study of Income Dynamics to discriminate between the four models. Our testing procedure is designed to deal with the set of observed independent children being endogenously selected. The combined hypothesis of complete markets and altruism can be decisively rejected, while we fail to reject altruism and hence family risk-sharing for a subset of families.

This paper critically reevaluates recent claims that the postwar U.S. price level exhibits countercyclicality. While overall countercyclicality is confirmed, temporal disaggregation suggests a shift from pro- to countercyclicality in the early 1970s. Furthermore, the countercyclicality is markedly more pronounced for negative than for positive output innovations. The evidence thus casts doubt on single-source business cycle explanations.