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Federal Reserve Bank of St. Louis working papers are preliminary materials circulated to stimulate discussion and critical comment.

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Predicting Benchmarked US State Employment Data in Real Time

US payroll employment data come from a survey of nonfarm business establishments and are therefore subject to revisions. While the revisions are generally small at the national level, they can be large enough at the state level to substantially alter assessments of current economic conditions. Researchers and policymakers must therefore exercise caution in interpreting state employment data until they are “benchmarked” against administrative data on the universe of workers some 5 to 16 months after the reference period. This paper develops and tests a state space model that predicts benchmarked US state employment data in realtime. The model has two distinct features: 1) an explicit model of the data revision process and 2) a dynamic factor model that incorporates realtime information from other state-level labor market indicators. We find that across the 50 US states, the model reduces the average size of benchmark revisions by about 9 percent. When we optimally average the model’s predictions with those of existing models, we find that we can reduce the average size of the revisions by about 15 percent.

Policy Interventions in Sovereign Debt Restructurings

The wave of sovereign defaults in the early 1980s and the string of debt crises in the decades that followed have fostered proposals involving policy interventions in sovereign debt restructurings. A key question about these proposals that has proved hard to handle is how they in influence the behavior of creditors and debtors. We address such challenge by incorporating these policy proposals into a quantitative model in the tradition of Eaton and Gersovitz (1981) that includes renegotiation in sovereign debt restructurings. Critically, the model also endogenizes the choice of debt maturity, an essential aspect of sovereign defaults and restructurings. We evaluate several policy interventions, and we identify the crucial features that matter to improve the outcome of distressed debt restructurings and reduce the frequency of debt distress events.

A Theory of Economic Unions: A Comment

Gino Gancia, Giacomo Ponzetto and Jaume Ventura have written an extremely interesting paper on a topic that is very timely for the global economy. In this article, I will first argue that GPV have succeeded in formalizing their hypothesis, and that while providing very suggestive analytical results, additional work can and should be done with the model, especially with regards to relative changes in the relative weights of incumbent countries. Second, I will comment on the potential insights if the rest of the world is modeled more realistically. Third, I will call for extending the baseline model to incorporate additional aspects beyond trade, such as investment and immigration flows, which appear to be relevant for the story of the European Union and its discontents. Four, I will add my non-European perspective on using the model to understand the story of the European Union.

Tax Progressivity, Economic Booms, and Trickle-Up Economics

We propose a method to decompose changes in the tax structure into a component measuring the level of taxes and a component orthogonal to the level that measures progressivity. While our focus is on the progessivity results, we find that the level shock is similar to standard tax shocks found in the empirical literature in that a rise in the level is contractionary. An increase in tax progressivity sets off an economic boom. Those at the bottom of the income distribution (who are constrained hand-to-mouth consumers) set off a consumption boom that expands the overall economy. Those at the top of the income distribution benefit disproportionately from expansions, and their income gains more than offset the increases in tax from higher marginal rates. The net result is that an increase in progressivity leads to an increase in inequality, not a decrease as conventional wisdom would suggest. We interpret these results as evidence in favor of trickle-up, not trickle-down, economics.

Crises in the Housing Market: Causes, Consequences, and Policy Lessons

The global financial crisis of the past decade has shaken the research and policy worlds out of their belief that housing markets are mostly benign and immaterial for understanding economic cycles. Instead, a growing consensus recognizes the central role that housing plays in shaping economic activity, particularly during large boom and bust episodes. This article discusses the latest research regarding the causes, consequences, and policy implications of housing crises with a broad focus that includes empirical and structural analysis, insights from the 2000's experience in the United States, and perspectives from around the globe. Even with the significant degree of heterogeneity in legal environments, institutions, and economic fundamentals over time and across countries, several common themes emerge to guide current and future thinking in this area.

MoNK: Mortgages in a New-Keynesian Model

We propose a tractable framework for monetary policy analysis in which both short- and long-term debt affect equilibrium outcomes. This objective is motivated by observations from two literatures suggesting that monetary policy contains a dimension affecting expected future interest rates and thus the costs of long-term financing. In New-Keynesian models, however, long-term loans are redundant assets. We use the model to address three questions: what are the effects of statement vs. action policy shocks; how important are standard New- Keynesian vs. cash flow effects in their transmission; and what is the interaction between these two effects?

International technology Diffusion: A Gravity Approach

We adapt gravity methods from the empirical trade literature to study international technology diffusion in a novel way. First, we derive a theory-based gravity-type equation that describes the main fundamentals of international technology diffusion under perfect enforcement of intellectual property rights (IPR). We then estimate the gravity equation using bilateral royalty payments data—for a sample of 53 countries and the period 1995-2012—to infer the amount of technology diffusion predicted by the gravity model. Differences between the model and the data are mainly driven by characteristics of the importing-technology country that are not captured by the model. Controlling for the importer’s (i) intellectual property rights protection, (ii) structure of production, and (iii) taxation and legal system significantly improves the fit of the model: (i) and (ii) are especially relevant for developing economies, whereas (iii) is important for tax havens. A back-of-the-envelope counterfactual exercise shows that, had China had the same quality of IPR protection as the United States, technology transfer from the United States would have been, on average during 1995-2012, 57% higher. Our results are robust to the use of instrumental variables that address potential endogeneity concerns.

Bretton Woods and the Reconstruction of Europe

The Bretton Woods international financial system, which was in place from roughly 1949 to 1973, is the most significant modern policy experiment to attempt to simultaneously manage international payments, international capital flows, and international currency values. This paper uses an international macroeconomic accounting methodology to study the Bretton Woods system and finds that it: (1) significantly distorted both international and domestic capital markets and hence the accumulation and allocation of capital; (2) significantly slowed the reconstruction of Europe, albeit while limiting the indebtedness of European countries. Our results also provide support for the utility of the accounting methodology in that it finds a sharp change in the behavior of domestic and international capital market wedges that coincides with the breakdown of the system.

Binary Conditional Forecasts

While conditional forecasting has become prevalent both in the academic literature and in practice (e.g., bank stress testing, scenario forecasting), its applications typically focus on continuous variables. In this paper, we merge elements from the literature on the construction and implementation of conditional forecasts with the literature on forecasting binary variables. We use the Qual-VAR [Dueker (2005)], whose joint VAR-probit structure allows us to form conditional forecasts of the latent variable which can then be used to form probabilistic forecasts of the binary variable. We apply the model to forecasting recessions in real-time and investigate the role of monetary and oil shocks on the likelihood of two U.S. recessions.

House Price Growth Interdependencies and Comovement

This paper examines house price diffusion across metropolitan areas in the United States. We develop a generalization of the Hamilton and Owyang (2012) Markov-switching model, where we incorporate direct regional spillovers using a spatial weighting matrix. The Markov-switching framework allows consideration for house price movements that occur due to similar timing of downturns across MSAs. The inclusion of the spatial weighting matrix improves fit compared to a standard endogenous clustering model. We find seven clusters of MSAs that experience idiosyncratic recessions plus one distinct national house price cycle. Notably only the housing downturn associated with the Great Recession spread across all of the MSAs in our sample; other house price downturns remained contained to a single cluster. Previous research has found that housing cycles and business cycles are intertwined. To examine this potential relationship we apply our spatial Markov-switching model to employment growth data. We find that house price comovement and employment comovement are distinct across cities.

Negative Externalities and Real Asset Prices: Closing of Stapleton Airport and Effect on Nearby Housing Markets

The closing of a busy airport has large effects on noise and economic activity. We examine the effects of Stapleton airport’s closing on nearby, Denver housing markets. We find evidence of immediate anticipatory effects on prices upon announcement of the closing, but no price changes at closing likely because it was widely anticipated. However, we find that high income and white households delayed moving into these locations until after the airport’s closing. Also, developers upgraded the quality of houses being built after closing. Further, post-closing, these demographic and housing stock changes had substantial effects on housing prices.

How to Starve the Beast: Fiscal and Monetary Policy Rules

Societies often rely on simple rules to restrict the size and behavior of governments. When fiscal and monetary policies are conducted by a discretionary and profligate government, I find that revenue ceilings vastly outperform debt, deficit and monetary rules, both in effectiveness at curbing public spending and welfare for private agents. However, effective revenue ceilings induce an increase in deficit, debt and inflation. Under many scenarios, including recurrent adverse shocks, the optimal ceiling on U.S. federal revenue is about 15% of GDP, which leads to welfare gains for private agents worth about 2% of consumption. Austerity programs should be sudden instead of gradual, and focus on lowering revenue to reduce spending rather than raising revenue to lower debt.

Consumption in the Great Recession: The Financial Distress Channel

During the Great Recession, the collapse of consumption across the U.S. varied greatly but systematically with house-price declines. We nd that financial distress among U.S. households amplified the sensitivity of consumption to house-price shocks. We uncover two essential facts: (1) the decline in house prices led to an increase in household financial distress prior to the decline in income during the recession, and (2) at the zip-code level, the prevalence of financial distress prior to the recession was positively correlated with house-price declines at the onset of the recession. Using a rich-estimated-dynamic model to measure the financial distress channel, we nd that these two facts amplify the aggregate drop in consumption by 7 percent and 45 percent respectively.

Macroeconomic Implications of Uniform Pricing

We compile a new database of grocery prices in Argentina, with over 9 million observations per day. We find uniform pricing both within and across regions—i.e., product prices almost do not vary within stores of a chain. Uniform pricing implies that prices would not change with regional conditions or shocks, particularly so if chains operate in several regions. We confirm this hypothesis using employment data. While prices in stores of chains operating almost exclusively in one region do react to changes in regional employment, stores of chains that operate in many regions do not seem to react to local labor market conditions. We study the impact of uniform pricing on estimates of local and aggregate consumption elasticities in a tractable two-region model in which firms have to set the same price in all regions. The estimated model predicts an almost one-third larger elasticity of consumption to a regional than an aggregate income shock because prices adjust more in response to aggregate shocks. This result highlights that some caution may be necessary when using regional shocks to estimate aggregate elasticities, particularly when the relevant prices are set uniformly across regions.

What Does Financial Crisis Tell Us About Exporter Behavior and Credit Reallocation?

Using Japanese firm data covering the Japanese financial crisis in the early 1990s, we find that exporters' domestic sales declined more significantly than their foreign sales, which in turn declined more significantly than non-exporters' sales. This stylized fact provides a new litmus test for different theories proposed in the literature to explain a trade collapse associated with a financial crisis. In this paper we embed the Melitz's (2003) model into a tractable DSGE framework with incomplete financial markets and endogenous credit allocation to explain both the Japanese firm-level data and the well-documented aggregate trade collapse during a financial crisis in world economic history. The model highlights the role of credit reallocation between non-exporters and exporters as the main mechanism in explaining exporters' behaviors and trade collapse following a financial crisis.

How Should Unemployment Insurance Vary over the Business Cycle?

We study optimal unemployment insurance (UI) over the business cycle using a tractable heterogeneous agent job search model that features labor productivity driven business cycles and incomplete asset markets, and find that UI policy should be countercyclical. In this framework, besides providing consumption insurance upon job loss, generous UI payments allow individuals to maintain similar consumption levels even during recessions, when they would otherwise have had to accumulate savings by reducing consumption. Moreover, the presence of borrowing constraints disciplines the unemployed’s job search behavior, thus offsetting some of the moral hazard costs introduced by the generous UI payments in downturns. Even when the opportunity cost of employment is set to be high, these channels remain active to preserve the countercyclicality of the optimal UI policy.

What Do Survey Data Tell Us about US Businesses?

This paper examines the reliability of survey data on business incomes, valuations, and rates of return, which are key inputs for studies of wealth inequality and entrepreneurial choice. We compare survey responses of business owners with available data from administrative tax records, brokered private business sales, and publicly traded company filings and document problems due to nonrepresentative samples and measurement errors across all surveys, subsamples, and years. We find that the discrepancies are economically relevant for the statistics of interest. We investigate reasons for these discrepancies and propose corrections for future survey designs.

Spousal Labor Supply Response to Job Displacement and Implications for Optimal Transfers

I document a small spousal earnings response to the job displacement of the family head. The response is even smaller in recessions, when additional insurance is most valuable. I investigate whether the small response is an outcome of the crowding-out effects of existing government transfers, using a model where labor supply elasticities with respect to transfers are in line with microeconomic estimates both in aggregate and across subpopulations. Counterfactual experiments reveal that generous transfers in recessions discourage the spousal labor supply significantly. I then show that the optimal policy features procyclical means-tested and countercyclical employment-tested transfers, unlike the existing policy.

What is the Value of Being a Superhost?

We construct a search model where sellers post prices and produce goods of unknown quality. A match reveals the quality of the seller. Buyers rate sellers based on quality. We show that unrated sellers charge a low price to attract buyers and that highly rated sellers post a high price and sell with a higher probability than unrated sellers. We nd that welfare is higher with a ratings system. Using data on Airbnb rentals, we show that Superhosts and hosts with high ratings: 1) charge higher prices, 2) have a higher occupancy rate and 3) higher revenue than average hosts.

Tests of Conditional Predictive Ability: A Comment

We investigate a test of equal predictive ability delineated in Giacomini and White (2006; Econometrica). In contrast to a claim made in the paper, we show that their test statistic need not be asymptotically Normal when a fixed window of observations is used to estimate model parameters. An example is provided in which, instead, the test statistic diverges with probability one under the null. Simulations reinforce our analytical results.

Terror Externalities and Trade: An Empirical Analysis

We report robust evidence of adverse cross-border externalities from terrorism on trade for over 160 countries from 1976 to 2014. Terrorism in one country spills over to reduce trade in neighboring nations. These externalities arise from higher trade costs due to trade delays and macroeconomic uncertainty.

Comparative Advantage and Moonlighting

The proportion of multiple jobholders (moonlighters) is negatively correlated with productivity (wages) in cross-sectional and time series data, but positively correlated with education. We develop a model of the labor market to understand these seemingly contradictory facts. An income effect explains the negative correlation with productivity while a comparative advantage of skilled workers explains the positive correlation with education. We provide empirical evidence of the comparative advantage in CPS data. We calibrate the model to 1994 data on multiple jobholdings, and assess its ability to reproduce the 2017 data. There are three exogenous driving forces: productivity, number of children and the proportion of skilled workers. The model accounts for 68.7% of the moonlithing trend for college-educated workers, and overpredicts it by 33.7 percent for high school-educated workers. Counterfactual experiments reveal the contribution of each exogenous variable.

The Nonlinear Effects of Fiscal Policy

We argue that the fiscal multiplier of government purchases is increasing in the spending shock, in contrast to what is assumed in most of the literature. The fiscal multiplier is largest for large positive government spending shocks and smallest for large contractions in government spending. We empirically document this fact using aggregate U.S. data. We find that a neoclassical, life-cycle, incomplete markets model calibrated to match key features of the US economy can explain this empirical finding. The mechanism hinges on the relationship between fiscal shocks, their form of financing, and the response of labor supply across the wealth distribution. The model predicts that the aggregate labor supply elasticity is increasing in the size of the fiscal shock, and this holds regardless of whether shocks are deficit- or balanced-budget financed (albeit through different mechanisms). We find evidence of our mechanism in micro data for the US.

Contagious Switching

In this paper, we analyze the propagation of recessions across countries. We construct a model with multiple qualitative state variables that evolve in a VAR setting. The VAR structure allows us to include country-level variables to determine whether policy also propagates across countries. We consider two different versions of the model. One version assumes the discrete state of the economy (expansion or recession) is observed. The other assumes that the state of the economy is unobserved and must be inferred from movements in economic growth. We apply the model to Canada, Mexico, and the U.S. to test if spillover effects were similar before and after NAFTA. We find that trade liberalization has increased the degree of business cycle propagation across the three countries.

Occupation Mobility, Human Capital and the Aggregate Consequences of Task-Biased Innovations

We construct a dynamic general equilibrium model with occupation mobility, human capital accumulation and endogenous assignment of workers to tasks to quantitatively assess the aggregate impact of automation and other task-biased technological innovations. We extend recent quantitative general equilibrium Roy models to a setting with dynamic occupational choices and human capital accumulation. We provide a set of conditions for the problem of workers to be written in recursive form and provide a sharp characterization for the optimal mobility of individual workers and for the aggregate supply of skills across occupations. We craft our dynamic Roy model in a production setting where multiple tasks within occupations are assigned to workers or machines. We solve for the balanced-growth path and characterize the aggregate transitional dynamics ensuing task-biased technological innovations. In our quantitative analysis of the impact of task-biased innovations in the U.S. since 1980, we find that they account for an increased aggregate output in the order of 75% and for a much higher dispersion in earnings. If the U.S. economy had larger barriers to mobility it would have experienced less job polarization but substantially higher inequality and lower output as occupation mobility has provided an "escape" for the losers from automation.

Nonparametric Estimation of Lerner Indices for U.S. Banks Allowing for Inefficiency and Off-Balance Sheet Activities

The Lerner index is widely used to assess firms' market power. However, estimation and interpretation present several challenges, especially for banks, which tend to produce multiple outputs and operate with considerable inefficiency. We estimate Lerner indices for U.S. banks for 2001-18 using nonparametric estimators of the underlying cost and profit functions, controlling for inefficiency, and incorporating banks' off-balance-sheet activities. We find that mis-specification of cost or profit functional forms can seriously bias Lerner index estimates, as can failure to account for inefficiency and off-balance-sheet output.

Tests of Conditional Predictive Ability: Some Simulation Evidence

In this note we use simple examples and associated simulations to investigate the size and power properties of tests of predictive ability described in Giacomini and White (2006; Econometrica). While we find that the tests can be accurately sized and powerful in large enough samples we identify details associated with the tests that are not otherwise apparent from the original text. In order of importance these include (i) the proposed test of equal finite-sample unconditional predictive ability is not asymptotically valid under the fixed scheme, (ii) for the same test, but when the rolling scheme is used, very large bandwidths are sometimes required when estimating long-run variances, and (iii) when conducting the proposed test of equal finite-sample conditional predictive ability, conditional heteroskedasticity is likely present when lagged loss differentials are used as instruments.

Business Cycles Across Space and Time

We study the comovement of international business cycles in a time series clustering model with regime-switching. We extend the framework of Hamilton and Owyang (2012) to include time-varying transition probabilities to determine what drives similarities in business cycle turning points. We find four groups, or "clusters", of countries which experience idiosyncratic recessions relative to the global cycle. Additionally, we find the primary indicators of international recessions to be fluctuations in equity markets and geopolitical uncertainty. In out-of-sample forecasting exercises, we find that our model is an improvement over standard benchmark models for forecasting both aggregate output growth and country-level recessions.

Optimal Monetary Policy for the Masses

We study nominal GDP targeting as optimal monetary policy in a simple and stylized model with a credit market friction. The macroeconomy we study has considerable income inequality, which gives rise to a large private sector credit market. There is an important credit market friction because households participating in the credit market use non-state contingent nominal contracts (NSCNC). We extend previous results in this model by allowing for substantial intra-cohort heterogeneity. The heterogeneity is substantial enough that we can approach measured Gini coefficients for income, financial wealth, and consumption in the U.S. data. We show that nominal GDP targeting continues to characterize optimal monetary policy in this setting. Optimal monetary policy repairs the distortion caused by the credit market friction and so leaves heterogeneous households supplying their desired amount of labor, a type of "divine coincidence" result. We also further characterize monetary policy in terms of nominal interest rate adjustment.

A Quantitative Analysis of Countercyclical Capital Buffers

What are the quantitative effects of countercyclical capital buffers (CCyB)? I study this question in the context of a nonlinear DSGE model with a financial sector that is subject to occasional panics. A calibrated version of the model is combined with US data to estimate sequences of structural shocks, allowing me to study policy counterfactuals. First, I show that raising capital buffers during leverage expansions can reduce the frequency of crises by more than half. Second, I show that lowering capital buffers during a panic can moderate the intensity of the resulting crisis. A quantitative application to the 2007-08 financial crisis shows that CCyB in the 2.5% range (as in the Federal Reserve's current framework) could have greatly mitigated the financial panic in 2007Q4-2008Q4, for a cumulative gain of 22% in aggregate consumption. These findings suggest that CCyB are a useful policy tool both ex-ante and ex-post.


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