We investigate how stochastic asset price dynamics with herding and financial constraints explains the presence of a period of financial distress (PFD) following the peak and preceding the crash of a bubble [Charles P. Kindleberger, Manias, Panics, and Crashes: A History of Financial Crisis, 4th ed. (New York: Wiley, 2000, Appendix B)] as common among most major historical speculative bubbles. Simulations show that the PFD is due to (1) agents' wealth distribution dynamics and (2) positive and sufficiently high transaction costs generating losses for a significant mass of the agents' distribution after the peak of the bubble. The use of transaction costs to get the result is only a modeling tool. Many other mechanisms—able to generate losses for a large mass of the agents' distribution in periods in which financial constraints bind—can produce the same result. The paper also shows how the PFD is affected by a variation of the sensitivity of price to the excess demand and by the switching strategy.

This paper computes welfare-maximizing monetary and tax policy feedback rules in a calibrated dynamic general equilibrium model with sticky prices. The government makes exogenous final good purchases, levies a proportional income tax, and issues nominal one-period bonds. A quadratic approximation method is used to solve the model and to compute household welfare. Optimized policy has a strong anti-inflation stance and implies persistent fluctuations of the tax rate and of public debt. Very simple optimized policy rules, under which the interest rate just responds to inflation and the tax rate just responds to public debt, yield a welfare level very close to that generated by richer rules.

The paper employs an extended Yaari-Blanchard model of overlapping generations to study how the macroeconomy is affected over time by various demographic changes. It is shown that a proportional decline in fertility and death rates has qualitatively similar effects to capital income subsidies; both per capita savings and per capita consumption increase in the new steady state. A drop in the birth rate, although keeping the death rate constant, reduces per capita savings, but increases per capita consumption if the generational turnover effect is dominated by the intertemporal labor supply effect. If the generational turnover effect is sufficiently strong, however, a decline in the birth rate may, contrary to standard results, give rise to an increase in per capita savings. Finally, a fertility rate reduction that leaves unaffected the rate of generational turnover is shown to have effects qualitatively similar to those of a fall in public consumption. Both per capita savings and per capita output decline, but per capita private consumption rises.

In the modern world, the main assets are immaterial ideas. Such assets are much more easily stolen than traditional factors such as physical capital and land. In this paper, we investigate the long-run growth effects of intellectual misappropriation at the R&D level. We adopt a generalized framework with both vertical and horizontal innovation. Inspired by recent evidence and by the patent law, we assume that only vertical innovations can be spied, because they are less easily patented than horizontal innovations. The main results are: (1) despite growing population, the fraction of labor engaged in spying activities tends to be constant; (2) in economies in which the R&D process is more vulnerable to ideas theft, growth rates are lower but product differentiation will be more intense; (3) intellectual misappropriation neutralizes the positive growth effect of R&D subsidies but not their positive level effects.

We study adaptive learning in economic environments subject to recurring structural change. Stochastically evolving institutional and policymaking features can be described by regime-switching models with parameters that evolve according to finite state Markov processes. We demonstrate that in nonlinear models of this form, the presence of sunspot equilibria implies two natural schemes for learning the conditional means of endogenous variables: under mean value learning, agents condition on a sunspot variable that captures the self-fulfilling serial correlation in the equilibrium, whereas under vector autoregression learning (VAR learning), the self-fulfilling serial correlation must be learned. We show that an intuitive condition ensures convergence to a regime-switching rational expectations equilibrium. However, the stability of sunspot equilibria, when they exist, depends on whether agents adopt mean value or VAR learning: coordinating on sunspot equilibria via a VAR learning rule is not possible. To illustrate these phenomena, we develop results for an overlapping-generations model and a New Keynesian model.

This paper analyzes the robustness of the estimate of a positive productivity shock on hours to the presence of a possible unit root in hours. Estimations in levels or in first differences provide opposite conclusions. We rely on an agnostic procedure in which the researcher does not have to choose between a specification in levels or in first differences. We find that a positive productivity shock has a negative impact effect on hours, but the effect is much shorter lived, and disappears after two quarters. The effect becomes positive at business-cycle frequencies, although it is not significant.

We study the microeconomic and macroeconomic effects of longevity insurance. Using a tractable discrete-time overlapping-generations model of a closed economy we first study different types of government redistribution of accidental bequests in general equilibrium. Individuals face longevity risk, as there is a positive probability of passing away before the retirement period. We find nonpathological cases where it is better for long-run welfare to waste accidental bequests than to give them to the elderly. Next we study the introduction of a perfectly competitive life insurance market offering actuarially fair annuities. There exists a tragedy of annuitization: although full annuitization of assets is privately optimal, it is not socially beneficial, because of adverse general equilibrium repercussions.

We develop a framework to study the effects of policies of uncertain duration on consumption dynamics under both complete and incomplete markets. We focus on the dynamic implications of market incompleteness, specifically on the lack of state-contingent bonds. Two policies are considered: pure output-increasing and tariff-reducing (trade liberalization). With complete markets, the output-increasing policy leads to flat consumption, whereas with no contingent assets, consumption jumps upward on the announcement of the policy, continues rising as long as the policy is in effect, and collapses when it is abandoned. A similar consumption path obtains in a trade liberalization in the realistic case of low elasticity of substitution and no rebate of tariffs. Market incompleteness rationalizes the existence of gradual changes in consumption.

This paper revisits an important issue concerning the persistent real effect of a shock to monetary policy. Although recent sentiment has shifted away from price stickiness toward wage stickiness in explaining persistence, the present paper shows that introducing an input–output structure tends to make the former an equally important monetary transmission mechanism. Under staggered wage setting, the well-known relative-wage effect is the only source of endogenous sluggishness in wage, and thus price, adjustments, regardless of whether there is an intermediate input. Under staggered price setting, relative wages are constant, but the presence of an intermediate input creates a real-wage effect that prevents nominal wages from deviating too much from a sticky intermediate-input price. Meanwhile, stickiness in the intermediate-input price translates directly into sluggishness in marginal-cost movement. This reinforces the endogenous rigidity in the nominal wages and makes firms' pricing decisions even more rigid. Thus, although it makes no difference in output dynamics under staggered wage setting, the input–output structure improves the ability of staggered price setting in generating persistence. As a consequence, the conventional wisdom on the equivalence of price and wage staggering may continue to hold for some reasonable parameter values.

Consistent real income comparisons over time and space are critical for studies on catch-up and convergence. The paper provides an analytical framework for making real income comparisons across countries and over time that satisfy transitivity and at the same time reflect an underlying nonhomothetic utility function for a representative consumer. The concept of reference price comparisons is developed and implemented using nonhomothetic translog and almost ideal demand systems. The paper discusses a direct approach, which uses all the parameters of the demand system to make real income comparisons, and an indirect approach, which adjusts the national price-based comparisons using reduced information only on income elasticities of demand. The proposed approach is empirically implemented using data from the 1980 and 1996 benchmark data from the International Comparison Program, and the empirical results confirm the analytical results discussed in the paper.

We present an endogenous growth model with two sectors: a real sector where the final good is produced, and a banking sector that intermediates between savers and firms. Banking concentration exerts two opposite effects on growth. On the one hand, it induces economies of specialization, which is beneficial to growth. On the other hand, it results in duplication of banks' investment in fixed capital, which is detrimental to growth. The trade-off between the two opposing effects is ambiguous and can vary along the process of economic development. Hence, there is a potential nonlinear and nonmonotonic relationship between concentration and growth. We test this implication, using cross-country data on income and industry growth. We find that banking concentration is negatively associated with per-capita income growth and industrial growth only in low-income countries. This suggests that reducing concentration is more likely to promote growth in low-income countries than in high-income ones.

We propose a novel mechanism giving rise to poverty traps and multiple equilibria in economic performance. It is a potentially important source of persistent underdevelopment across countries and regions. At the core of this mechanism, bridging social capital and social trust feed back on each other, interdependently affecting individuals' earnings and subjective well-being. High trust and abundant bridging social capital reinforce each other, leading to a “high” equilibrium where both these variables take persistently high values, and earnings and well-being are high as well, whereas low trust and lack of bridging social capital create a vicious circle, leading to a “low trust trap” where all these variables are persistently low. The workings of our theoretical model are in agreement with a wide range of findings from the contemporary literature in sociology and social psychology.

We examine the evolution of monetary policy rules in a group of inflation-targeting countries (Australia, Canada, New Zealand, Sweden, and the United Kingdom), applying a moment-based estimator in a time-varying parameter model with endogenous regressors. From this novel flexible framework, our main findings are threefold. First, monetary policy rules change gradually, pointing to the importance of applying a time-varying estimation framework. Second, the interest-rate smoothing parameter is much lower than typically reported by previous time-invariant estimates of policy rules. External factors matter for all countries, although the importance of the exchange rate diminishes after the adoption of inflation targeting. Third, the response of interest rates to inflation is particularly strong during periods when central bankers want to break a record of high inflation, such as in the United Kingdom or Australia at the beginning of the 1980s. Contrary to common perceptions, the response becomes less aggressive after the adoption of inflation targeting, suggesting a positive anchoring effect of this regime on inflation expectations. This result is supported by our finding that inflation persistence typically decreased after the adoption of inflation targeting.

In this paper, we compare the empirical properties of closed- and open-economy DSGE models estimated on Euro area data. The comparison is made along several dimensions; we examine the models in terms of their marginal likelihoods, forecasting performance, variance decompositions, and their transmission mechanisms of monetary policy.

In this paper we study the transmission of capital depreciation shocks. The existing literature in the real business cycle tradition has concluded that these shocks are irrelevant to business cycle fluctuations. We show that they are potentially important drivers of aggregate fluctuations in a new Keynesian model. Nominal rigidities and some persistence in the shock process are the key ingredients that generate co-movement across real variables.

In this paper, we assess the characteristics of the housing market and its main determinants. Using data for 20 industrial countries over the period 1970Q1–2012Q2 and a discrete-time Weibull duration model, we find that the likelihood of the end of a housing boom or a housing bust increases over time. Additionally, we show that the different phases of the housing market cycle are strongly dependent on the economic activity, but credit market conditions are particularly important in the case of housing booms. The empirical findings also indicate that although housing booms have similar lengths in European and non-European countries, housing busts are typically shorter in European countries. The use of a more flexible specification for the hazard function that is based on cubic splines suggests that it evolves in a nonlinear way. From a policy perspective, our study can be useful for predicting the timing and the length of housing boom–bust cycles. Moreover, it highlights the importance of monetary policy by influencing lending rates and affecting the likelihood of occurrence of housing booms.

Although several targeted welfare programs across the world have made owner-occupied housing exempt from the means test, relatively little is known about the impact of such exemption on portfolio choice and consumption. We study the Australian age pension scheme and argue that current uncapped exemption may lead to distortionary incentives for high levels of housing wealth to be sheltered from the means test. We set up a life-cycle model with explicit housing choice and borrowing constraints to match some key features of the Australian economy. We find that abolishing the exemption of owner-occupied housing in the assets test increases aggregate output, capital accumulation, and welfare, but decreases housing investment and homeownership. However, removing such distortions does not necessarily imply that all households would be better off. Lowering taxes to maintain fiscal balance would result in wealthy households experiencing a large welfare loss, whereas the majority of the population would benefit.

In this paper, we consider the effects of population aging on a pay-as-you-go financed defined contributions pension scheme. We show that when retirement decisions are endogenous, aging increases the retirement age and the steady-state level of capital. The effect on pension payouts is in general ambiguous, except for the solution of full retirement, when this effect is unambiguously negative.

It is well known that the performance of simple models of economic growth improves substantially through the introduction of subsistence consumption. How to compute subsistence needs, however, is a difficult and controversial issue. Here, I reconsider the linear (Ak) growth model with subsistence consumption and show that the evolution of savings rates and economic growth rates over time is independent of the size of subsistence needs. The model is thus more general and less subject to arbitrariness than might have been thought initially. Quantitatively, it is shown that, although there is no degree of freedom to manipulate transitional dynamics, the model approximates the historical evolution of savings rates and growth rates reasonably well.

This paper tests the ability of New Keynesian models to match the data regarding a key channel for monetary transmission: the dynamic interactions between macroeconomic variables and their corresponding expectations. We exploit survey expectations data and adopt a dynamic stochastic general equilibrium (DSGE)-VAR approach to assess the extent and sources of model misspecification. The results point to serious misspecification in the expectations-formation side of the DSGE model. The rational expectations hypothesis is primarily responsible for the model's failure to capture the co-movements between observed macroeconomic expectations and realizations. Alternative models of expectations formation help partially reconcile the New Keynesian model with the data.