Working Papers
Stimulating discussion and critical comment on research in progress.
1999
- WP 99-19
- The effects of minimum wages throughout the wage distribution
- Workers initially earning near the minimum wage are adversely affected by minimum wage increases, while, not surprisingly, higher-wage workers are little affected. Although the pay of low-wage workers increases, their hours and employment decline, and the combined effect of these changes is a decline in earned income. (PDF)
- WP 99-18
- Intervention as information: a survey
- Research has generally failed to find reliable connections between official exchange-market interventions and exchange rates that are consistent with either a monetary or a portfolio-balance theory of exchange-rate determination. Recently economists have suggested that intervention might sometimes influence exchange rates through its effects on agents’ expectations. This survey discusses newer research that analyzes informational aspects of intervention. (PDF)
- WP 99-17
- Results of a study of the stability of cointegrating relations comprised of broad monetary aggregates
- There is strong evidence of a stable "money demand" relationship for MZM and M2 through the 1990s. Though the M2 relationship breaks down somewhere around 1990, evidence has been accumulating that the disturbance is well characterized as a permanent upward shift in M2 velocity that began around 1990 and was largely over by 1994. This paper’s results support the hypothesis that households permanently reallocated a portion of their wealth from time deposits to mutual funds. This reallocation may have been induced by depository restructuring, but it could also be explained by appropriately measured opportunity cost. (PDF)
- WP 99-16
- Currency Portfolios and Nominal Exchange Rates in a Dual Currency Search Economy
- We analyze a dual currency search model in which agents are allowed to hold multiple units of both currencies. Hence, agents hold portfolios of currency. We study equilibria in which the two currencies are identical and equilibria in which the two currencies differ according to the magnitude of the ’inflation tax’ risk associated with each currency. The inflation tax is modeled by having government agents randomly confiscate the two currencies at different rates. We are able to obtain analytical results in a very special case but in general we must rely on numerical methods to solve for the steady-state distributions of currency portfolios, prices and value functions. We find that when one of the currencies has the right amount of ’risk’, equilibria exist in which the safe currency trades for multiple units of the risky currency (pure currency exchange). As a result, the steady state has a distribution of nominal exchange rates. The mean and variance of the nominal exchange rate distribution is based on the fundamentals of the model such as the risk of confiscation, risk preferences, matching probabilities and relative money supplies. The mean and variance of this distribution typically change in predictable ways when the fundamentals change. While the ability to trade currencies improves average welfare, in general, the benefits of currency exchange are small. (PDF)
- WP 99-15
- Risk Sharing of Disaggregate Macroeconomic and Idiosyncratic Shocks
- We estimate the extent to which idiosyncratic and disaggregate macro shocks (such as regional and industry shocks) are not shared in the economy. Comparing the degree to which idiosyncratic and disaggregate macro shocks are not shared grants a deeper understanding as to why the economy lacks in specific areas of risk sharing arrangements. As well, it can point to areas where the economy?s risk sharing capability can be enhanced. Using household data from the Panel Study of Income Dynamics, we find that a negligible amount of risk (around 10%) is shared in the aggregate, about 50% is shared within regions and industries, while the remaining 40% is not shared with other households. These findings suggest that given the low level of international risk sharing, increased international integration may not lead to a significant increase in international risk sharing. (PDF)
- WP 99-14
- The adequacy of life insurance: evidence from the health and retirement survey
- This study examines life insurance adequacy among married American couples approaching retirement based on the 1992 Health and Retirement Survey with matched Social Security earnings histories. It evaluates each household’s life insurance needs based on new financial planning software that embodies a life-cycle-planning model and covers a broad array of demographic, economic, and financial characteristics. A sizable minority of households are significantly underinsured. Almost one third of wives and over 10 percent of husbands would have suffered living-standard reductions greater than 20 percent had their spouses died in 1992. (PDF)
- WP 99-13
- The impact of Social Security and other factors on the distribution of wealth
- Auerbach et al. (1995), document the dramatic postwar increase in the annuitization of the resources of America’s elderly. Gokhale et al. (1996) suggest that greater annuitization may explain the significant postwar rise in the consumption propensity of the elderly out of remaining lifetime resources. Gokhale et al. (2000) consider the related point that increased annuitization will reduce bequests, especially for lower and middle-income households, whose entire earnings are taxed under Social Security. By differentially disenfranchising the children of the poor from receipt of inheritances, Social Security may materially alter the distribution of wealth. This paper uses data from the PSID to further analyze how Social Security and other factors affect wealth inequality. (PDF)
- WP 99-12
- Social Security’s treatment of postwar Americans: how bad can it get?
- The authors consider Social Security’s treatment of postwar Americans under alternative tax increases and benefit cuts that would help bring the system’s finances into present-value balance. The alternatives include immediate tax increases, eliminating the ceiling on taxable payroll, immediate and sustained benefit cuts, raising the system’s normal retirement age, switching from wage to price indexing in calculating benefits, and limiting the price indexing of benefits. The choices made among these and other alternatives have important consequences for which postwar generations (and which of their members) will be forced to pay for the system’s long-term financing problems. (PDF)
- WP 99-11
- Optimal monetary policy in a small, open economy: a general-equilibrium analysis
- This paper uses a model of a small, open economy to address two monetary policy issues: 1) What restrictions on the policy rule ensure that the central bank does not introduce real indeterminacy into the economy? and 2) What is the optimal long-run rate of inflation? The model’s simplicity makes analyzing determinacy issues remarkably transparent. As for long-run inflation rates, a small, open economy takes the foreign nominal interest rate as a given. To the extent that this rate distorts domestic behavior, positive domestic nominal rates (in contrast to Friedman’s celebrated optimum quantity of money) play a role. (PDF)
- WP 99-10R
- Timing and real indeterminacy in monetary models
- An increasingly common approach to the theoretical analysis of monetary policy ensures that a proposed policy does not introduce real indeterminacy-and thus sunspot fluctuations-into the model economy. Policy is typically conducted in terms of directives for the nominal interest rate. This paper uses a discrete-time, money-in-the-utility function model to demonstrate how seemingly minor modifications in the trading environment result in dramatic differences in the policy restrictions needed to ensure real determinacy. These differences arise because of the differing pricing equations for the nominal interest rate. (PDF)
- WP 99-09
- Protection for Whom? Creditor Conflicts in Bankruptcy
- In this article we provide a rationale for bankruptcy law that is based on the conflicts among creditors that occur when a debtor?s liabilities exceed its assets. In the absence of a bankruptcy law, the private debt-collection remedies that creditors pursue when a debtor is insolvent result in an ad hoc disposal of the debtor?s assets, thereby reducing the aggregate value of creditors? claims. We show that coordination clauses can be used by creditors in their loan agreements that will result in coordination, ex post. Although all creditors would benefit from including these clauses in their contracts, they nevertheless choose not to in precisely those circumstances in which it is desirable to coordinate. This is an important insight because previous theories supporting a role for bankruptcy law are based on the notion that creditors want to contract about bankruptcy, but cannot. In contract, we demonstrate that creditors will choose not to coordinate ex ante, even though it is in their best interest ex post. (PDF)
- WP 99-08
- Firms’ Wage Adjustments: A Break from the Past?
- The paper proceeds as follows. First we describe the wage-setting process in large firms and discuss the reasons why wage change distributions may not be neutral with respect to inflation. Then we describe the data. The fourth section describes our main results on the distributional effects of inflation. To test for robustness, we also consider the impact of unemployment and changes in returns to education on wage-change 4 distributions. The fifth section investigates two policy-relevant questions: whether some jobs tend to be the first to respond to changes in inflation, and whether wage changes in the 1990s have deviated from historical patterns. The sixth section summarizes and concludes. (PDF)
- WP 99-07
- Banking and Commerce: A Liquidity Approach
- This paper looks at the advantages and disadvantages of mixing banking and commerce, using the \liquidity" approach to nancial intermediation. Adding a commercial rm makes it easier for a bank to dispose of assets seized in a loan default. This `internal market’ increases the liquidity of such assets and improves the bank’s ability to perform nancial intermediation. More generally, owning a commercial rm may act either as a substitute or a complement to commercial lending. In some cases, a bank will voluntarily refrain from making loans, choosing to become a non-bank bank in an unregulated environment. (PDF)
- WP 99-06
- The Band Pass Filter
- The ’ideal’ band pass filter can be used to isolate the component of a time series that lies within a particular band of frequencies. However, applying this filter requires a dataset of infinite length. In practice, some sort of approximation is needed. Using projections, we derive approximations that are optimal when the time series representations underlying the raw data have a unit root, or are stationary about a trend. We identify one approximation which, though it is only optimal for one particular time series representation, nevertheless works well for standard macroeconomic time series. (PDF)
- WP 99-05
- Monetary Policy Regimes and Beliefs
- This paper investigates the role of beliefs over monetary policy in propagating the effects of monetary policy within the context of a dynamic, stochastic general equilibrium model. In our model, monetary policy periodically switches between low and high money growth regimes. When individuals are unable to directly observe the current regime, they will assign some probability to the low money growth, low inflation regime based on observed money growth rates. We show that for an empirically relevant money growth process, beliefs evolve slowly in the wake of regime change. As a result, our model is able to capture some of the observed persistence of real and nominal variables following such a regime change. (PDF)
- WP 99-05R
- Monetary policy regimes and beliefs
- Revised. This paper investigates the role of beliefs over monetary policy in propagating the effects of monetary policy shocks within the context of a dynamic, stochastic general equilibrium model. In this model, monetary policy periodically switches between low- and high-money-growth regimes. When individuals cannot observe the regime directly, they must draw inferences over regime type based on historical money growth rates. The authors show that for an empirically plausible money growth process, beliefs evolve slowly in the wake of a regime change. As a result, their model is able to capture some of the observed persistence of real and nominal variables following such a regime change. (PDF)
- WP 99-04
- More on Marriage, Fertility, and the Distribution of Income
- According to Pareto, the distribution of income depends on "the nature of the people comprising a society, on the organization of the latter, and, also, in part, on chance." An overlapping generations model of marriage, fertility and income distribution is developed here. The "nature of the people" is captured by attitudes toward marriage, divorce, fertility, and children. Singles search for mates in a marriage market. They are free to accept or reject marriage proposals. Married agents make their decisions through bargaining about work, and the quantity and quality of children. They can divorce. Social policies, such as child tax credits or child support requirements, reflect the "organization of the (society)." Finally, "chance" is modelled by randomness in income, opportunities for marriage, and marital bliss. (PDF)
- WP 99-03
- A Method for Taking Models to the Data
- This paper develops a method for combining the power of a dynamic, stochastic, general equilibrium model with the flexibility of a vector autoregressive time-series model to obtain a hybrid that can be taken directly to the data. It estimates this hybrid model via maximum likelihood and uses the results to address a number of issues concerning the ability of a prototypical real business cycle model to explain movements in aggregate output and employment in the postwar US economy, the stability of the real business cycle model?s structural parameters, and the performance of the hybrid model?s out-of sample forecasts. (PDF)
- WP 99-02
- Taylor Rules in a Limited Participation Model
- We use the limited participation model of money as a laboratory for studying the operating characteristics of Taylor rules for setting the rate of interest. Rules are evaluated according to their ability to protect the economy from bad outcomes such as the burst of inflation observed in the 1970?s. Based on our analysis, we argue for a rule which: (i) raises the nominal interest rate more than one-for-one with a rise in inflation; and (ii) does not change the interest rate in response to a change in output relative to trend. (PDF)
- WP 99-01
- Maximum Likelihood in the Frequency Domain: A Time to Build Example
- A well known result is that the Gaussianlog-likelihood can be expressed as the sum over different frequency components. This implies that the likelihood ratio statistic has a similar linear decomposition. We exploit these observations to devise diagnostic methods that are useful for interpreting maximum likelihood parameter estimates and likelihood ratio tests. We apply the methods to the estimation and testing of two real business cycle models. The standard real business cycle model is rejected in favor of an alternative in which capital investment requires a planning period. (PDF)