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2007, 09
A number of authors have recently emphasized that the conventional model of unemployment dynamics due to Mortensen and Pissarides has difficulty accounting for the relatively volatile behavior of labor market activity over the business cycle. We address this issue by modifying the MP framework to allow for staggered multiperiod wage contracting. What emerges is a tractable relation for wage dynamics that is a natural generalization of the period-by-period Nash bargaining outcome in the conventional formulation. An interesting side-product is the emergence of spillover effects of average wages on the bargaining process. We then show that a reasonable calibration of the model can account well for the cyclical behavior of wages and labor market activity observed in the data. The spillover effects turn out to be important in this respect. JEL Classification: E32, E50, J64
2007, 01
Regional inflation dynamics within and across Euro area countries and a comparison with the US
(2006)
We investigate co-movements and heterogeneity in inflation dynamics of different regions within and across euro area countries using a novel disaggregate dataset to improve the understanding of inflation differentials in the European Monetary Union. We employ a model where regional inflation dynamics are explained by common euro area and country specific factors as well as an idiosyncratic regional component. Our findings indicate a substantial common area wide component, that can be related to the common monetary policy in the euro area and to external developments, in particular exchange rate movements and changes in oil prices. The effects of the area wide factors differ across regions, however. We relate these differences to structural economic characteristics of the various regions. We also find a substantial national component. Our findings do not differ substantially before and after the formal introduction of the euro in 1999, suggesting that convergence has largely taken place before the mid 90s. Analysing US regional inflation developments yields similar results regarding the relevance of common US factors. Finally, we find that disaggregate regional inflation information, as summarised by the area wide factors, is important in explaining aggregate euro area and US inflation rates, even after conditioning on macroeconomic variables. Therefore, monitoring regional inflation rates within euro area countries can enhance the monetary policy maker’s understanding of aggregate area wide inflation dynamics. JEL Classification: E31, E52, E58, C33
2007, 04
We analyse a 2-period competitive insurance market which is characterized by the simultaneous presence of standard moral hazard and adverse selection with regard to consumer time preferences. It is shown that there exists an equilibrium in which patient consumers use high effort and buy a profit-making insurance contract with high coverage, whereas impatient consumers use low effort and buy a contract with low coverage or even remain uninsured. This finding may help to explain why positive profits and the opposite of adverse selection with regard to risk types can sometimes be observed empirically. JEL Classification: D82, G22
2007, 10
Mortgage markets, collateral constraints, and monetary policy: do institutional factors matter?
(2006)
We study the role of institutional characteristics of mortgage markets in affecting the strength and timing of the effects of monetary policy shocks on house prices and consumption in a sample of OECD countries. We document three facts: (1) there is significant divergence in the structure of mortgage markets across the main industrialised countries; (2) at the business cycle frequency, the correlation between consumption and house prices increases with the degree of flexibility/development of mortgage markets; (3) the transmission of monetary policy shocks on consumption and house prices is stronger in countries with more flexible/developed mortgage markets. We then build a two-sector dynamic general equilibrium model with price stickiness and collateral constraints, where the ability of borrowing is endogenously linked to the nominal value of a durable asset (housing). We study how the response of consumption to monetary policy shocks is affected by alternative values of three key institutional parameters: (i) down-payment rate; (ii) mortgage repayment rate; (iii) interest rate mortgage structure (variable vs. fixed interest rate). In line with our empirical evidence, the sensitivity of consumption to monetary policy shocks increases with lower values of (i) and (ii), and is larger under a variable-rate mortgage structure. JEL Classification: E21, E44, E52
2007, 11
We study the problem of a policymaker who seeks to set policy optimally in an economy where the true economic structure is unobserved, and policymakers optimally learn from their observations of the economy. This is a classic problem of learning and control, variants of which have been studied in the past, but little with forward-looking variables which are a key component of modern policy-relevant models. As in most Bayesian learning problems, the optimal policy typically includes an experimentation component reflecting the endogeneity of information. We develop algorithms to solve numerically for the Bayesian optimal policy (BOP). However the BOP is only feasible in relatively small models, and thus we also consider a simpler specification we term adaptive optimal policy (AOP) which allows policymakers to update their beliefs but shortcuts the experimentation motive. In our setting, the AOP is significantly easier to compute, and in many cases provides a good approximation to the BOP. We provide a simple example to illustrate the role of learning and experimentation in an MJLQ framework. JEL Classification: E42, E52, E58
2006, 34
We show theoretically that income redistribution benefits borrowingconstrained individuals more than is implied by standard relative-income and uninsurable-risk considerations. Empirically, we find in international opinion-survey data that younger and lower-income individuals express stronger support for government redistribution in countries where consumer credit is less easily available. This evidence supports our theoretical perspective if such individuals are more strongly affected by tighter credit supply, in that expectations of higher incomes in the future increase their propensity to borrow. JEL Classification: E21
2006, 35
This paper presents a simple new method for estimating the size of ‘wealth effects’ on aggregate consumption. The method exploits the well-documented sluggishness of consumption growth (often interpreted as ‘habits’ in the asset pricing literature) to distinguish between short-run and long-run wealth effects. In U.S. data, we estimate that the immediate (next-quarter) marginal propensity to consume from a $1 change in housing wealth is about 2 cents, with a final long-run effect around 9 cents. Consistent with several recent studies, we find a housing wealth effect that is substantially larger than the stock wealth effect. We believe that our approach is preferable to the currently popular cointegrationbased estimation methods, because neither theory nor evidence justifies faith in the existence of a stable cointegrating vector. JEL Classification: E21, E32, C22
2006, 28
We propose a new decision criterion under risk in which people extract both utility from anticipatory feelings ex ante and disutility from disappointment ex post. The decision maker chooses his degree of optimism, given that more optimism raises both the utility of ex ante feelings and the risk of disappointment ex post. We characterize the optimal beliefs and the preferences under risk generated by this mental process and apply this criterion to a simple portfolio choice/insurance problem. We show that these preferences are consistent with the preference reversal in the Allais’ paradoxes and predict that the decision maker takes on less risk compared to an expected utility maximizer. This speaks to the equity premium puzzle and to the preference for low deductibles in insurance contracts. Keywords: endogenous beliefs, anticipatory feeling, disappointment, optimism, decision under risk, portfolio allocation.
2006, 29
The effects of public policy programs which aim at internalizing spill-overs due to successful innovation are analyzed in a sequential double-sided moral hazard doublesided adverse selection framework. The central focus lies in analyzing their impact on contract design. We show that in our framework only ex post grants are a robust instrument for implementing the first-best situation, whereas the success of guarantee programs, ex ante grants and some types of investment grants depends strongly on the characteristics of the project: in certain cases they not only give no further incentives but even destroy contract mechanisms and so worsen the outcome. JEL Classification: D82, G24, G32, H25, H81
2006, 30
The paper constructs a global monetary aggregate, namely the sum of the key monetary aggregates of the G5 economies (US, Euro area, Japan, UK, and Canada), and analyses its indicator properties for global output and inflation. Using a structural VAR approach we find that after a monetary policy shock output declines temporarily, with the downward effect reaching a peak within the second year, and the global monetary aggregate drops significantly. In addition, the price level rises permanently in response to a positive shock to the global liquidity aggregate. The similarity of our results with those found in country studies might supports the use of a global monetary aggregate as a summary measure of worldwide monetary trends. JEL Classification: E52, F01