PDFTo Sell or To Borrow? A Theory of Bank Liquidity Management
By Michal Kowalik
RWP 14-18, December 2014

This paper studies banks' decision whether to borrow from the interbank market or to sell assets in order to cover liquidity shortage in presence of credit risk. The following trade-off arises. On the one hand, tradable assets decrease the cost of liquidity management. On the other hand, uncertainty about credit risk of tradable assets might spread from the secondary market to the interbank market, lead to liquidity shortages and socially inefficient bank failures. The paper shows that liquidity injections and liquidity requirements are effective in eliminating liquidity shortages and the asset purchases are not. The paper explains how collapse of markets for securitized assets contributed to the distress of the interbank markets in August 2007. The paper argues also why the interbank markets during the 2007-2009 crisis did not freeze despite uncertainty about banks' quality.

PDFSearch with Wage Posting under Sticky Prices
By Andrew Foerster and José Mustre-del-Río
RWP 14-17, December 2014; updated September 2019

This paper examines the implications of interacting pricing frictions, labor market frictions, and consumption risk by comparing variants of a New Keynesian model. The model variants make alternative assumptions about whether hiring and pricing decisions occur within the same firm or across different firms, and whether workers pool income. Nonetheless, each model implies the same contract is offered to workers, making model comparisons transparent. The economy's response to changes in unemployment benefits or persistently below-target inflation depends on whether hiring and pricing decisions are integrated. Meanwhile, the dynamics following technology or monetary shocks are shaped both by firm- and worker-level assumptions.

PDFSelf-Employment and Health Care Reform: Evidence from Massachusetts
By Didem Tuzemen and Thealexa Becker
RWP 14-16, November 2014; updated August 2015

We study the effect of the Massachusetts health care reform on the uninsured rate and the self-employment rate in the state. The reform required all individuals to obtain health insurance, required most employers to offer health insurance to their employees, formed a private marketplace that offered subsidized health insurance options and ex- panded public insurance. We examine data from the Current Population Survey (CPS) for 1994-2012 and its Annual Social and Economic (ASEC) Supplement for 1996-2013. We show that the reform led to a dramatic reduction in the state’s uninsured rate due to increased enrollment in both public and private health insurance. Estimation results from difference-in-differences models and the synthetic control method indicate that the aggregate self-employment rate was higher in the state after the implementation of the reform. We conclude that easier access to health insurance encouraged self- employment in Massachusetts. There are many similarities between the Massachusetts health care reform and the national health care reform, the Patient Protection and Affordable Care Act (PPACA). Based on Massachusetts’ experience, the PPACA will lower the national uninsured rate and may lead to a higher self-employment rate in the nation.

Uncertainty Shocks in a Model of Effective Demand
By Brent Bundick and Susanto Basu
RWP 14-15, November 2014; updated November 2016

Can increased uncertainty about the future cause a contraction in output and its components? This paper examines the role of uncertainty shocks in a one-sector, representative-agent, dynamic, stochastic general-equilibrium model. When prices are flexible, uncertainty shocks are not capable of producing business-cycle comovements among key macroeconomic variables. With countercyclical markups through sticky prices, however, uncertainty shocks can generate fluctuations that are consistent with business cycles. Monetary policy usually plays a key role in offsetting the negative impact of uncertainty shocks. If the central bank is constrained by the zero lower bound, then monetary policy can no longer perform its usual stabilizing function and higher uncertainty has even more negative effects on the economy. We calibrate the size of uncertainty shocks using fluctuations in the VIX and find that increased uncertainty about the future may indeed have played a significant role in worsening the Great Recession, which is consistent with statements by policymakers, economists, and the financial press.

PDFRational Inattention and Dynamics of Consumption and Wealth in General Equilibrium
By Jun Nie, Yulei Luo, Gaowang Wang and Eric R. Young
RWP 14-14, November 2014; updated May 2016

This paper derives the general equilibrium effects of rational inattention (or RI; Sims 2003, 2010) in a model of incomplete income insurance (Huggett 1993, Wang 2003). We first show that,under the assumption of CARA utility with Gaussian shocks, the permanent income hypothesis (PIH) arises in steady state equilibrium due to a balancing of precautionary savings and impatience. We explore how the introduction of RI can help the model fit the joint equilibrium dynamics of consumption, income, and wealth. We then contrast RI with habit formation and show that the two models make very different general equilibrium predictions, and that RI is closer to the data. We finally show that the equilibrium welfare costs of incomplete information due to RI are relatively low within the CARA-Gaussian setting.

PDFYield Curve and Monetary Policy Expectations in Small Open Economies
By Taeyoung Doh, Kwan Soo Bong and Woong Yong Park
RWP 14-13, November 2014; updated January 2016

This paper estimates a New Keynesian dynamic stochastic general equilibrium (DSGE) model in small open economies using the yield curve data as well as standard macro data. The DSGE model is estimated on the data of three inflation-targeting small open economies (Australia, Canada, and New Zealand) using Bayesian methods. We find that the long-end of the yield curve is highly correlated with the current and future short-term interest rates determined by domestic central banks. Yield curve data are particularly informative about the future stance of monetary policy in Australia and Canada in that the correlation between the model-implied monetary policy expectations and the ex-post realized policy interest rates increases when the yield curve data are used in estimation. Unlike the estimation results solely based on the macro data that imply the cental bank's relatively strong focus on inflation stabilization, our results using yield curve information suggest that even inflation-targeting central banks have a significant concern for output stabilization. We also document that persistent domestic shocks, not foreign disturbances, drive the average level of the yield curve in these three countries.

PDFHouse Prices, Heterogeneous Banks and Unconventional Monetary Policy Options
By A. Lee Smith
RWP 14-12, October 2014

This paper develops a financial mechanism which integrates housing and the real economy through housing-secured debt. In this environment, movements in home prices are amplified through both borrowers and banks' balance sheets, leading to a self-reinforcing credit/liquidity crunch. When placed within a traditional business cycle model, this financial structure quantitatively captures empirical relationships the traditional financial accelerator mechanism struggles to explain and the qualitative predictions of the model are consistent with dynamic responses from a VAR. The model provides a framework to examine the ability of QE policies and equity injections into big banks to mitigate a housing bust. Although both are effective, the nuances of the policies are important. A prolonged asset purchase program is preferable to a short-term equity injection; however, the model suggests the equity injections may been necessary to prevent an economic collapse at the acute stage of the 2008 Financial Crisis.

A Model of Monetary Policy Shocks for Financial Crises and Normal Conditions
By John W. Keating, Logan J. Kelly, A. Lee Smith and Victor J. Valcarcel
RWP 14-11, February 2018

Deteriorating economic conditions in late 2008 led the Federal Reserve to lower the target federal funds rate to near zero, inject liquidity into the financial system through novel facilities, and engage in large scale asset purchases. The combination of conventional and unconventional policy measures prevents using the effective federal funds rate to assess the effects of monetary policy beyond 2008. This paper develops an approach to identify the effects of monetary policy shocks in such instances. We employ a newly created broad monetary aggregate to elicit the effects of monetary policy shocks both prior to and after 2008. Our model produces plausible responses to monetary policy shocks free from price, output, and liquidity puzzles that plague other approaches. It also produces a series of monetary policy shocks which aligns well with major changes in the Fed’s asset purchase programs.

PDFNew Exporter Dynamics
By Jonathan L. Willis and Kim J. Ruhl
RWP 14-10, November 2014

Models in which heterogeneous plants face sunk export entry costs are standard tools in the international trade literature. How well do these models account for the observed dynamics of new exporters? We document that new exporters initially export small amounts and — conditional on continuing in the export market — grow gradually over several years. New exporters are most likely to exit the export market in their first few years. We construct a dynamic discrete choice model of exporting and find that the standard model cannot replicate the behavior of new exporters: New exporters grow too large too quickly and live too long. We assess the quantitative importance of accounting for new exporter dynamics by extending the model to account for these facts. In this model, the present value of exporting falls relative to the baseline model. As a result, the entry costs needed to account for the data are three times smaller than in the baseline model.

PDFMonocentric City Redux
By Jordan Rappaport
RWP 14-09, November 2014

This paper argues that centralized employment remains an empirically relevant stylization of midsize U.S. metros. It extends the monocentric model to explicitly include leisure as a source of utility but constrains workers to supply fixed labor hours. Doing so sharpens the marginal disutility from longer commutes. The numerical implementation calibrates traffic congestion to tightly match observed commute times in Portland, Oregon. The implied geographic distribution of CBD workers' residence tightly matches that of Portland. The implied population density, land price, and house price gradients approximately match empirical estimates. Variations to the baseline calibration build intuition on underlying mechanics.

PDFRecurrent Overdrafts: A Deliberate Decision by Some Prepaid Cardholders?
By Fumiko Hayashi and Emily Cuddy
RWP 14-08, October 2014; updated October 2015

Overdrafts have been an ongoing concern of policymakers, and they are one of the main issues being considered for prepaid card rules that the Consumer Financial Protection Bureau (CFPB) is currently drafting. Despite regulatory interventions and heated debate between proponents and opponents of further intervention, little research has been conducted to understand the overdraft behavior of prepaid cardholders. This paper attempts to fill that gap by analyzing a large micro-level dataset of general purpose reloadable (GPR) prepaid cardholders. We find that a small percentage of GPR prepaid cardholders regularly make overdraft transactions and incur overdraft fees, but they tend to spend and load more funds on their card as well as use their card for a longer period of time than do cardholders who do not make overdraft transactions. Our results suggest that some cardholders may be making a deliberate decision to overdraw their account and pay overdraft fees.

PDFA Pitfall of Expectational Stability Analysis
By Willem Van Zandweghe and Takushi Kurozumi
RWP 14-07, October 2014

A pitfall of expectational stability (E-stability) analysis can arise in models with multiperiod expectations: if an auxiliary variable is introduced as substitute for an expectational endogenous variable in such a model, this shrinks the region of the model parameters that guarantee E-stability of a fundamental rational expectations equilibrium. Moreover, in the model representation with no auxiliary variable, the same E-stability region as in that with the auxiliary variable is obtained if economic agents are assumed to make multiple forecasts in an inconsistent manner. Therefore, we argue that the introduction of an auxiliary variable as substitute for an expectational endogenous variable in models with multi-period expectations can induce misleading implications that are biased toward E-instability.

PDFProductivity, Nationalization, and the Role of "News": Lessons from the 1970s
By Nida Çakır Melek
RWP 14-06, June 2014; updated July 2016

The number of occurrences of an old phenomenon, expropriation of foreign-owned property, had peaked in the 1970s, and virtually every significant oil-producing developing country had nationalized its oil. Nationalization again was on the rise in the 2000s. Using novel data, this paper examines nationalization and its effect on productivity. First, we document historical global trends in expropriations, and examine the effect from the 1960s to the 1990s in a sample of oil-producing developing countries. We show that nationalization brings significant productivity losses. Then, we focus on Venezuela, presenting new extensive and detailed data. In Venezuela, productivity fell sharply immediately ahead of nationalization. We suggest a less-explored channel through which nationalization affects productivity: in anticipation of nationalization, producers reduce exploration, lower employment, and increase extraction. Guided by a quantitative dynamic partial equilibrium framework for nonrenewable resources disciplined by features of the Venezuelan data, we then examine the effect of nationalization on productivity. A comparison of the simulated and time series shows that the carefully calibrated model can explain 84 percent of the productivity pattern over 1961-1980 in the Venezuelan oil industry.

PDFLocation Decisions of Natural Gas Extraction Establishments: A Smooth Transition Count Model Approach
By Jason P. Brown and Dayton M. Lambert
RWP 14-05, April 2014

The economic geography of the United States' energy landscape changed rapidly with domestic expansion of the natural gas sector. Recent work with smooth transition parameter models is extended to an establishment location model estimated using Poisson regression to test whether expansion of this sector, as evidenced by firm location decisions from 2005 to 2010, is characterized by different growth regimes. Results suggest business establishment growth of firms engaged in natural gas extraction was faster when the average area of shale and tight gas transition coverage in neighboring counties exceeded 17%. Local agglomeration externalities, access to skilled labor and transportation infrastructure were of more economic importance to location decisions in the high growth regime. Accordingly, growth rates were heterogeneous across the lower 48 States, suggesting potentially different outcomes with respect to local investment decisions supporting this sector.

PDFUncertainty and Fiscal Cliffs
By Andrew Foerster
RWP 14-04, April 2014; updated August 2015

Motivated by the US Fiscal Cliff in 2012, this paper considers the short- and longer- term impact of uncertainty generated by fiscal policy. Empirical evidence shows increases in economic policy uncertainty lower investment and employment. Investment that is longer-lived and subject to a longer planning horizon responds to policy uncertainty with a lag, while capital that depreciates more quickly and can be installed with few costs falls immediately. A DSGE model incorporating uncertainty over future tax regimes produces responses to fiscal uncertainty that match key features of the data. The model features uncertainty over the average tax rate and rational expectations about the resolution of uncertainty with specific outcomes and timing. Uncertainty injects noise into the economy and lowers the level of economic activity.

PDFA Quantitative System of Monocentric Metros
By Jordan Rappaport
RWP 14-03, July 2014

The monocentric city framework is generalized to comprise a system of metros. A "representative" closed metro calibrates parameters and establishes a reservation utility and perimeter land price that must be matched by open metros. The open metros are assumed to have exogenous productivity below and above that in the representative metro. For a given level of productivity, transportation technology proves to be the most important quantitative determinant of population, land area, population density, and house prices across and within metros. Changes in highway capacity primarily affect these quantities while leaving commute speeds unchanged. Open metro land area asymptotes to a maximum at only moderately high relative productivity. Open metro land area and population fall to near zero at only moderately low relative productivity. Individuals with long commutes who are required to work a fixed number of hours have a marginal value of leisure time that is far above their wage. The framework yields a number of quantitative insights into how preferences, production technologies, and transportation technologies shape outcomes within and across metros.

PDFConsumer Debt Dynamics: Follow the Increasers
By John Carter Braxton and Edward S. Knotek II
RWP 14-02, March 2014

Consumer debt played a central role in creating the U.S. housing bubble, the ensuing housing downturn, and the Great Recession, and it has been blamed as a factor in the weak subsequent recovery as well. This paper uses micro-level data to decompose consumer debt dynamics by separating the actions of consumer debt increasers and decreasers, and then further decomposing movements into percentage and size margins among the increasers and decreasers. We view such a decomposition as informative for macroeconomic models featuring a central role for consumer debt. Using this framework, we show that variations in borrowing activity among the increasers explain four times as much of the total variation in consumer debt as variations among the decreasers who are shedding debt, whether through paydowns or defaults. We also provide micro-level evidence of a sharp decline in the percentage of increasers during the financial crisis that is qualitatively consistent with a binding zero lower bound on nominal interest rates, and evidence of a cycle in the average size of debt changes among the increasers that is related to rising collateral values pre-crisis coupled with additional financial frictions after the crisis.

PDFGeneral Purpose Reloadable Prepaid Cards: Penetration, Use, Fees and Fraud Risks
By Fumiko Hayashi and Emily Cuddy
RWP 14-01, February 2014

Prepaid cards are the most rapidly growing payment instrument. General purpose reloadable (GPR) prepaid cards, in particular, have gained considerable traction especially among the unbanked and underbanked. How these cards are used is now of acute interest to both policymakers, seeking to ensure broad access to electronic payment methods, consumer protection for prepaid cards, and payments system security, and to payment card industry participants, desiring to advance their product offerings and business models. This study examines the end-user experience of using a GPR card. It investigates which factors, if any, affect the intensity and duration of GPR card use, estimates the fee burden associated with various card usage patterns, and calculates fraud rates by transaction and merchant type. Because we lack cardholder information other than zip code, we supplement our card data with local demographic and socioeconomic data to test whether these factors are correlated with the observed variation in card use and incurred fees. Our results suggest that both account and local socio-demographic characteristics significantly influence the life span, the load and debit activities, the shares of purchase and cash withdrawals, and the average number and value of fees incurred per month, and that transaction and merchant types influence the rate of fraudulent transactions.