I examine the robustness of monetary equilibria in a random-matching model, where a more efficient mechanism for trade is available. Agents choose between two trading sectors: the search and the intermediated sector. In the former, trade partners arrive randomly and there is a trading externality. In the latter, a costly matching technology provides deterministic double-coincidence matches. Multiple equilibria exist with the extent of costly matching endogenously determined. Money and “mediated” trade may coexist. This depends on the size of the probability of a trade, relative to the cost of deterministic matching. This outcome is inferior for an increasing-returns externality. Under certain conditions, regimes with only costly matching are welfare superior to monetary regimes with random matching.

An overlooked topic is the treatment of worker claims when firms are shutting down. In fact, when firms close, worker claims such as severance pay often go unfulfilled. To evaluate the quantitative importance of this observation, this paper develops a general equilibrium model with close attention to the exit margin, and examines how macroeconomic outcomes vary with the treatment of firing costs on exit. In the model, the impact of firing costs on employment weakens by a third when closing plants do not have to pay them, even though closure accounts for considerably less than one-third of total job destruction. Thus, the distribution of firm characteristics is a new channel for labor market rigidities to affect aggregates. The model also accounts for cross-country differences in the relationship between the structure of job flows and firm turnover.

A simple technique for directly testing the parameters of a time-series regression model for instability across frequencies is presented. The method can be implemented easily in the time domain, so that parameter instability across frequency bands can be conveniently detected and modeled in conjunction with other econometric features of the problem at hand, such as simultaneity, cointegration, missing observations, and cross-equation restrictions. The usefulness of the new technique is illustrated with an application to a cointegrated consumption-income regression model, yielding a straightforward test of the permanent income hypothesis.

Ramsey equilibrium models with heterogeneous agents and borrowing constraints are shown to yield efficient equilibrium sequences of aggregate capital and consumption. The proof of this result is based on verifying that equilibrium sequences of prices satisfy the Malinvaud criterion for efficiency.

This paper estimates the price–marginal cost markup for U.S. manufacturing using a new methodology. Most existing techniques of estimating the markup are a variant on the Hall (1988) framework that involves manipulating the Solow Residual. However, this paper argues that this notion is based on the unreasonable assumption that labor can be costlessly adjusted at a fixed wage rate. By relaxing this assumption we are able to derive a generalized markup index, which, when estimated using manufacturing data, is highly countercyclical and decreasing in trend since the 1960s. When we then seek to explain what causes the manufacturing markup to behave in this way, the most important determinant is the share of imported goods in the industry. Thus, increasing foreign competition in manufacturing has led to a decline in the industry's markup over time.

We develop business-cycle models with financial constraints, the driving force of which is news about the future (i.e., changes in expectations). We assume that an asset with fixed supply (“land”) is used as collateral, and firms need to hold collateral to finance their input costs. The latter feature introduces an interaction between the inefficiencies in the financial market and in the factor market. Good news raises the price of land today, which relaxes the collateral constraint. It, in turn, reduces the inefficiency in the labor market. If this force is sufficiently strong, the equilibrium labor supply increases. So do output, investment, and consumption. Our models also generate procyclical movement in Tobin's Q. We also show that when the news turns out to be wrong, the economy may fall into a recession.

We develop and apply bootstrap methods for diffusion models when fitted to the long run as characterized by the stationary distribution of the data. To obtain bootstrap refinements to statistical inference, we simulate candidate diffusion processes. We use these bootstrap methods to assess measurements of local mean reversion or “pull” to the center of the distribution for short-term interest rates. We also use them to evaluate the fit of the model to the empirical density.

The Generalized Axiom of Revealed Preference (GARP) can be violated because of random measurement errors in the observed quantity data. We study two tests proposed by Varian (1985) and de Peretti (2004), which test GARP within an explicit stochastic framework. Both tests compute adjusted quantity data that are compliant with GARP. We compare and contrast the two tests in theoretical terms and in an empirical application. The empirical application is based on testing a large group of monetary assets for the United States over multiple sample periods spanning 1960–1992. We found that both tests provided reasonable results and were largely consistent with each other.

A challenge that faces many advanced economies is how to finance age-related spending programs as the population ages. In this paper, we investigate two policy options–pension cuts and tax hikes–to mitigate fiscal pressure arising in the special context of Australia, whose population is ageing fast while growing substantially in size due to immigration. Using a computable overlapping generations model, we find that while both policy reforms can achieve a similar fiscal goal, they lead to different distributional and welfare effects across income groups over time. Future generations prefer pension cuts, whereas current generations prefer tax hikes to finance government spending commitments. Moreover, within the tax hike option, taxing income or consumption results in opposing macroeconomic and welfare effects. Indeed, our opposing intra- and inter-temporal welfare outcomes highlight some political complexity when devising a more sustainable tax-transfer system.

It has been widely known that neoclassical growth models with sufficient increasing returns in production may feature indeterminacy. This note analytically shows that investment adjustment costs increase the required degree of increasing returns for indeterminacy to arise. Under empirically plausible levels of investment adjustment costs, we need an implausibly large degree of increasing returns to generate indeterminacy.

A well-documented property of the Beveridge–Nelson trend–cycle decomposition is the perfect negative correlation between trend and cycle innovations. We show how this may be consistent with a structural model where permanent innovations enter the cycle or transitory innovations enter the trend, and that identification restrictions are necessary to make this structural distinction. A reduced-form unrestricted version is compatible with either option, but cannot distinguish which is relevant. We discuss economic interpretations and implications using U.S. real GDP data.

This paper presents a model that generates a nonmonotonic evolution of the return to education. The model highlights the role played by socioeconomic stratification in the joint determination of the supply of educated labor and the supply of physical capital. The recent theoretical literature attributes the increased education premium of the last decades to skill-biased technological progress. In contrast, our explanation is based on capital–skill complementarity and endogenous accumulation of physical and human capital in an environment characterized by credit constraints.

This paper uses spectral theory to develop the following two testable hypotheses in a unified framework for the predictions of business-cycle and endogenous growth models: (i) financial development affects only business-cycle volatility; and (ii) shocks affect both business-cycle volatility and long-run volatility of GDP growth. In other words, volatility caused by shocks is more persistent than that caused by financial underdevelopment. We decompose the business-cycle and long-run volatility by the spectral method and then test the hypotheses at the cross-country level. Empirical evidence provides support for both hypotheses. Higher private credit, a bank-based measure of financial development, dampens business-cycle volatility but not long-run volatility. Volatility of shocks, as measured by the volatility of changes in the terms of trade, magnifies both business-cycle and long-run volatility. The results are robust to accounting for endogeneity, a market-based measure of financial development, and an alternative method of volatility decomposition.

We apply the business cycle accounting methodology proposed by Chari, Kehoe, and McGrattan to identify the sources of Spanish business fluctuations during two outstanding cyclical episodes: the recession alongside the transition to democracy in 1977 and the great recession of 2008. We find that the labor wedge played a key role during both recessions and that taxes and labor market institutions are likely behind the wedge movements. We conclude that any model that tries to understand the causes of recessions that occurred in the last three decades should focus on the labor wedge.

We present a model capable of explaining 200 years of declining fertility, 200 years of rising educational achievement, and a significant baby boom for the United States and twenty other industrialized market countries. We highlight the importance of secularly declining young adult mortality risk for producing secularly declining fertility and a sudden decline in housing costs after the end of the Second World War, but ending by 1970. In addition, we introduce a new puzzle for the profession: Given the magnitude of the Baby Boom, roughly equal to fertility in 1900 for many of these countries, why did schooling of the Baby Boom cohorts not fall to the 1900 level of their predecessors? In fact, not only did it not fall, but the schooling levels of these cohorts are higher than for previous cohorts. Using a quantitative model, we are able to identify the magnitude of the reduction in costs of education necessary to explain this paradoxical increase in schooling. We produce a novel data set on historical education expenditures with over 1,500 observations. We find empirical support for these cost reductions.

We generalize a trade model with firm-specific heterogeneity and R&D-based growth to allow for endogenous education and fertility. The framework is able to explain cross-country differences in living standards and trade intensities by the differential pace of human capital accumulation among industrialized countries. Consistent with the empirical evidence, scale matters for relative economic prosperity as long as countries are closed, whereas scale does not matter in a fully globalized world. The average human capital of a country, by contrast, influences its relative economic prosperity irrespective of trade-openness.

This study explores the welfare effects of patent protection in a Romer-type expanding variety model in which R&D and capital accumulation are both engines of growth. It shows that the comparison between the productivity of R&D and that of capital plays an important role in the welfare analysis. When the relative productivity of R&D compared to capital is high (low), social welfare takes an inverted-U shape for (is decreasing in) the strength of patent protection, and the welfare-maximizing degree of patent protection is no greater than (identical to) the growth-maximizing degree. Moreover, the model is calibrated to the US economy and the numerical results support these welfare implications.

In this paper we investigate the relationship between leverage and the level of economic activity in the United States, using quarterly data over the period 1951–2012. We address the question for five different measures of leverage—household leverage, nonfinancial firm leverage, commercial bank leverage, broker–dealer leverage, and shadow bank leverage—making a distinction between traditional banks and shadow banks, the latter being a consequence of financial innovation and deregulation in the financial services industry over the past 30 years. We investigate whether the relationship between leverage and the level of economic activity is nonlinear and asymmetric using slope-based tests as well as tests of the null hypothesis of symmetric impulse responses. Our results inform policymakers about the important distinction between traditional banks and the market-based financial intermediaries that have been at the center of the global financial crisis of 2007–2009. They also inform about the macroeconomic effects of the deleveraging process that began in 2008, as well as about the need for countercyclical macroprudential policies to reduce the procyclicality of the financial system.

In an attempt to clean up an unruly literature, we specify the necessary and sufficient conditions for household optimality in a model where money is the only financial asset and provide the relevant proofs. We use our results to analyze when deflationary bubbles can and cannot exist. Our findings are in contrast to the results in several prominent contributions to the literature. We argue for particular specifications of the no-Ponzi-game restrictions on the representative household's and the government's intertemporal budget constraints in a model with money and bonds. Using the restriction on the household we derive the necessary and sufficient conditions for household optimality. The resulting equilibrium terminal conditions are then used to demonstrate that the existence of bonds does not affect when deflationary bubbles can and cannot occur. This result differs from that in other recent works.

This paper considers a Ramsey model of linear taxation for an economy with capital and two kinds of labor. If the government cannot distinguish between the return from capital and the return from entrepreneurial labor, then there will be positive capital income taxation, even in the long run. This happens because the only way to tax entrepreneurial labor is by also taxing capital. Furthermore, under fairly general conditions, the optimal tax on observable labor income is higher than the capital tax, although both are strictly positive. Thus, even though both income taxes are positive, imposing uniform income taxation would lead to additional distortions in the economy.