We study the endogenous determination of corporate debt maturity in a setting with default risk. We assume that firms must access the bond market and they issue debt with a flexible structure (coupon, face value, and maturity). Initially, the firm is in a low growth/illiquid state that requires debt refinancing if it matures. Since lenders do not refinance projects with positive but small net present value, firms may be forced to default in the first phase. We call this liquidity risk. The technology is such that earnings can switch to a higher (but riskier) level. In this second phase
firms have access to the equity market but they may default if this is the best option. We call this strategic default risk. In the model optimal maturity balances these two risks. We show that firms with poor prospects and firms in more unstable industries will choose shorter maturities even if it is feasible to issue longer debt. The model also offers predictions on how asset maturity, asset salability, and leverage influence maturity. Even though our model is extremely stylized we find that the predictions are roughly consistent with the evidence. Moreover, it offers some insights into the factors
that determine the structure of the debt.
We show evidence that news about future productivity play an important role in the dynamics of country risk leading to a sovereign debt crisis. We show that a news shock has a significantly larger contemporaneous impact on sovereign credit spreads than a comparable shock to labor productivity. We develop a quantitative model of news and sovereign debt default with endogenous maturity that can generate impulse responses very similar to the empirical estimates. The model also highlights that the effect of a news shock is stronger for an economy with shorter debt maturity. Finally, our analytic framework also suggests that as the precision of news increases, the economy may not increase its total indebtedness, but will be able to borrow at shorter maturities and pay lower spreads, especially during periods of high financial stress.
In this paper we document the stylized facts about the relationship between international
oil price swings, sovereign risk and macroeconomic performance of oil-exporting economies. We
show that even though being a bigger oil producer decreases sovereign risk–because it increases a
country’s ability to repay–having more oil reserves increases sovereign risk by making autarky more
attractive. We develop a small open economy model of sovereign risk with incomplete international
financial markets, in which optimal oil extraction and sovereign default interact. We use the model
to understand the mechanisms behind the empirical facts, and show that it supports them.
This paper quantiﬁes the long-run eﬀects of reducing capital gains taxes on aggregate investment. We develop a dynamic general equilibrium model with heterogeneous ﬁrms, which face discrete capital gains tax rates based on their ﬁrm size. We calibrate our model by targeting important micro moments as well as the diﬀerence-in-diﬀerences estimate of the capital elasticity based on our institutional setting in Korea. We ﬁnd that the ﬁrm-size reform that reduced the capital gains tax rates from 24 percent to 10 percent for the aﬀected ﬁrms increased aggregate investment by 1.22 percent in the steady state, with the short-run eﬀects overstating the eﬀects by 1.18 percentage points. Additionally, a counterfactual analysis where we set the uniformly low tax rate of 10 percent reveals that aggregate investment rose by 7 percent in the long-run. We also ﬁnd that general equilibrium eﬀects through prices are substantial in our simulation. Taken together, our ﬁndings suggest that reducing capital gains tax rates would substantially increase investment in the short-term, and accounting for dynamic and general equilibrium responses is important for understanding the aggregate eﬀects of capital gains taxes.
This paper proposes an equilibrium model to explain the positive and sizable term premia observed in the data. We introduce a slow mean-reverting process of consumption growth and a segmented asset market mechanism with heterogeneous trading technology to otherwise a standard heterogeneous agent general equilibrium model. First, a slow mean-reverting consumption growth process implies that the expected consumption growth rate is only slightly countercyclical and the process can exhibit a near zero first-order autocorrelation as seen in the data. The very small countercyclicality of the expected consumption growth rate suggests that the long term bonds are risky and hence the term premia are positive. Second, the segmented asset market mechanism amplifies the size and the magnitude of term premia since the aggregate risk is concentrated into a small fraction of marginal traders who demand high risk premia. For sensitivity analysis, the role of each assumption is further investigated by taking each factor out one by one.
To study long-run large-scale early childhood policies, this paper incorporates early childhood investments into a standard general-equilibrium (GE) heterogeneous-agent overlapping-generations model. After estimating it using US data, we show that an RCT evaluation of a short-run small-scale early childhood program in the model predicts effects on children's education and income that are similar to the empirical evidence. A long-run large-scale program, however, yields twice as large welfare gains, even after considering GE and taxation effects. Key to this difference is that investing in a child not only improves her skills but also creates a better parent for the next generation.
We study the impact of research collaborations in coauthorship networks on research output and how optimal funding can maximize it. Through the links in the collaboration network,
researchers create spillovers not only to their direct coauthors but also to researchers indirectly linked to them. We characterize the equilibrium when agents collaborate in multiple and possibly overlapping projects. We bring our model to the data by analyzing the coauthorship network of economists registered in the RePEc Author Service. We rank the authors and research institutions according to their contribution to the aggregate research output and thus provide a novel ranking measure that explicitly takes into account the spillover effect generated in the coauthorship network. Moreover, we analyze funding instruments for individual researchers as well as research institutions and compare them with the economics funding program of the National Science Foundation. Our results indicate that, because current funding schemes do not take into account the availability of coauthorship network data, they are ill-designed to take advantage of the spillover effects generated in scientific knowledge production networks.
A wide range of heterodox theories claim that banks are special because they create money in the act of lending. Put another way, banks can create the funding they need ex nihilo, whereas all other agencies must first acquire the funding they need from other parties. Mainstream economic theory largely agrees with this assessment, but questions its theoretical and empirical relevance, preferring to view banks as one of many potentially important actors in the financial market. In this paper, I develop a formal economic model in an attempt to make these ideas precise. The model lends some support to both views on banking.
I investigate the theoretical impact of central bank digital currency (CBDC) on a monopolistic banking sector. The framework combines the Diamond (1965) model of government debt with the Klein (1971) and Monti (1972) model of banking. There are two main results. First, the introduction of interest-bearing CBDC increases financial inclusion, diminishing the demand for physical cash. Second, while interest-bearing CBDC reduces monopoly profit, it need not disintermediate banks in any way. CBDC may, in fact, lead to an expansion of bank deposits if CBDCcompetition compels banks to raise their deposit rates.
Central banks are viewed as having a demonstrated ability to lower long-run inflation. Since the financial crisis, however, the central banks in some jurisdictions seem almost powerless to accomplish the opposite. In this article, we offer an explanation for why this may be the case. Because central banks have limited instruments, long-run inflation is ultimately determined by fiscal policy. Central bank control of long-run inflation therefore ultimately hinges on its ability to gain fiscal compliance with its objectives. This ability is shown to be inherently easier for a central bank determined to lower inflation than for a central bank determined to accomplish the opposite. Among other things, the analysis here suggests that for the central banks of advanced economies, any stated inflation target is more credibly viewed as a ceiling.
I study the macroeconomic effects of the US fiscal policy response to the Great Recession, accounting not only for standard tools such as government purchases and transfers but also for financial sector interventions such as bank recapitalizations and credit guarantees. A global solution to a quantitative model calibrated to the US allows me to study the state-dependent effects of different types of fiscal policies. I combine the model with data on the US fiscal policy response to find that the fall in aggregate consumption would have been twice as worse in the absence of that response with a cumulative loss of 14.5%. Transfers and bank recapitalizations yielded the largest fiscal multipliers at the height of the crisis through new transmission channels that arise from linkages between household and bank balance sheets.
A negative relationship between income and fertility has persisted for so long that its
existence is often taken for granted. One economic theory builds on this relationship and
argues that rising inequality leads to greater differential fertility between rich and poor.
We show that the relationship between income and fertility has flattened between 1980
and 2010 in the US, a time of increasing inequality, as high income families increased
their fertility. These facts challenge the standard theory. We propose that marketization
of parental time costs can explain the changing relationship between income and fertility.
We show this result both theoretically and quantitatively, after disciplining the model on
US data. We explore implications of changing differential fertility for aggregate human
capital. Additionally, policies, such as the minimum wage, that affect the cost of marketization,
have a negative effect on the fertility and labor supply of high income women.
We end by discussing the insights of this theory to the economics of marital sorting.
Money allows agents to achieve allocations that are not possible without it. How-
ever, currency in most economies is a uniform object, and there may be incentive
compatible allocations that cannot be implemented with a uniform currency. We show
that currency reform, ie, changing the monetary base by replacing one currency with
another, is a powerful tool that can enable a planner to achieve his desired allocation.
Our monetary mechanism with currency reform is anonymous and features nonlinear
pricing of consumption goods and future assets, as observed in practice. Our result
suggests that currency reform is rarely seen in practice precisely because it is such
a powerful tool and none but the most benevolent planner can be trusted to use it
We study optimal insurance contracts for an agent with Markovian private information.
Our main results characterize the implications of constrained efficiency for long-run welfare
and inequality. Under minimal technical conditions, there is Absolute Immiseration: in the
long run, the agent’s consumption and utility converge to their lower bounds. When types are
persistent and utility is unbounded below, there is Relative Immiseration: low-type agents are
immiserated at a faster rate than high-type agents, and “pathwise welfare inequality” grows
without bound. These results extend and substantially generalize the hallmark findings from
the classic literature with iid types, suggesting that the underlying forces are robust to a broad
class of private information processes. The proofs rely on novel recursive techniques and
martingale arguments. When the agent has CARA utility, we also analytically and numerically
characterize the short-run properties of the optimal contract. Persistence gives rise to qualitat-
ively novel short-run dynamics and allocative distortions (or “wedges”) and, quantitatively,
induces less efficient risk-sharing. We compare properties of the wedges to their counterparts
in the dynamic taxation literature.
New vehicle sales in the U.S. fell nearly 40 percent during the last recession, causing significant job losses and unprecedented government interventions in the auto industry. This paper explores two potential explanations for this decline: falling home values and falling households' income expectations. First, we establish that declining home values explain only a small portion of the observed reduction in vehicle sales. Using a county-level panel from the episode, we find: (1) A one-dollar fall in home values reduced new vehicle spending by about 0.9 cents; and (2) Falling home values explain approximately 19 percent of the aggregate vehicle spending decline. Next, examining state-level data from 1997-2016, we find: (3) The short-run responses of vehicle consumption to home value changes are larger in the 2005-2011 period relative to other years, but at longer horizons (e.g. 5 years), the responses are similar across the two sub-periods; and (4) The service flow from vehicles, as measured from miles traveled, responds very little to house price shocks. We also detail the sources of the differences between our findings (1) and (2) from existing research. Second, we establish that declining current and expected future income expectations played an important role in the auto market's collapse. We build a permanent income model augmented to include infrequent, repeated car buying. Our calibrated model matches the pre-recession distribution of auto vintages and exhibits a large vehicle sales decline in response to a moderate decline in expected permanent income. In response to the decline in permanent income, households delay replacing existing vehicles, allowing them smooth the effects of the income shock without significantly adjusting the service flow from their vehicles. Combining our negative results regarding housing wealth with our positive model-based findings, we interpret the auto market collapse as consistent with existing permanent income based approaches to durable goods consumption (e.g., Leahy and Zeira (2005)).
We study the interaction of information transmission in loan-backed asset markets and screening
effort in a general equilibrium framework. Originating banks can screen their borrowers, but can
inform investors of their asset type only through an error-prone rating technology. The premium
paid on highly rated assets emerges as the main determinant of screening effort. Because the
rating technology is imperfect, this premium is insufficient to induce the efficient level of screening.
However, the fact that banks know their asset quality and produce public information accordingly
helps keep the premium high. Mandatory rating and mandatory ratings disclosure policies interfere
with this decision margin, thereby reducing informativeness of high ratings, lowering the premium
paid on them, and exacerbating the credit misallocation problem. Policies that work to increase
accuracy and/or cost of rating technology can help restore efficiency. If, as in Skreta and Veldkamp
(2009), we associate the expansion leading up to the recent financial crisis with declining rating
accuracy, our model helps interpret several puzzling pre-crisis observations: laxer screening effort,
intensified rating activity, ratings inflation, the decline in the premium paid on highly rated assets,
and rising prevalence of triple-A ratings. The same model mechanism also helps explain the variation
in default rates across asset classes documented in Cornaggia, Cornaggia, and Hund (2017).
As a form of investment, the importance of capital reallocation between firms has been increasing
over time, with the purchase of used capital accounting for 25% to 40% of firms total investment
nowadays. Cross- firm reallocation of used capital also exhibits intriguing business-cycle properties,
such as (i) the illiquidity of used capital is countercyclical (or the quantity of used capital reallocation
across rms is procyclical), (ii) the prices of used capital are procyclical and more so than those of new
capital goods, and (iii) the dispersion of firms' TFP or MPK (or the bene t of capital reallocation)
is countercyclical. We build a search-based neoclassical model to qualitatively and quantitatively
explain these stylized facts. We show that search frictions in the capital market are essential for our
empirical success but not sufficient---fi nancial frictions and endogenous movements in the distribution
of rm-level TFP (or MPK) and interactions between used-capital investment and new investment
are also required to simultaneously explain these stylized facts, especially that prices of used capital
are more volatile than that of new investment and the dispersion of firm TFP is countercyclical.
Banking models in the tradition of Diamond and Dybvig (1983)
rely on sequential service to explain belief driven runs. But the run-like
phenomena witnessed during the nancial crisis of 200708 occurred
in the wholesale shadow banking sector where sequential service is
largely absent. This suggests that something other than sequential
service is needed to help explain runs. We show that in the absence
of sequential service runs can easily occur whenever bank-funded in-
vestments are subject to increasing returns to scale consistent with
available evidence. Our framework is used to understand and evalu-
ate recent banking and money market regulations.
This paper studies the industry-level and aggregate implications of financial development on international trade. I set up a multi-industry general equilibrium model of international trade with heterogeneous firms subject to financial frictions. Industries differ in capital-intensity, which leads to differences in external finance dependence. The model is parameterized to match key features of firm-level data. Financial development leads to substantial reallocation of international trade shares from labor- to capital-intensive industries, with minor effects at the aggregate-level. These findings are consistent with estimates from cross-country industry-level and aggregate data.
We study a model of endogenous means testing where households differ in their income and where the in-kind transfer received by each household declines linearly with income. Majority voting determines the two dimensions of public policy: the size of the welfare program and the means-testing rate. We establish the existence of a sequential majority voting equilibrium, when the households vote first on the size of the program and then on the means-testing rate. We show that the means-testing rate increases with the size of the program but the fraction and the identity of the households receiving the transfers are independent of the program size.
Sovereign debt crises generally involve debt restructurings characterized by a mix of face-value haircuts and debt maturity extensions. We develop a quantitative model of endogenous sovereign debt maturity choice and restructuring that captures key stylized facts of debt over the business cycle and during restructuring episodes, including the variation of haircuts, maturity extensions and default duration found in the data. We also find that policy interventions implementing minimum haircuts and redistributing losses away from holders of short term debt improve the outcome of distressed debt restructurings and reduce the frequency of debt distress events. Methodologically, the use of dynamic discrete choice solution methods allows us to smooth decision rules on default and debt portfolio choices, rendering the problem tractable.
This paper develops a theory of investment and maturity choices and studies its implications for the macroeconomy. The novel ingredient is an explicit secondary market with trading frictions which leads to a liquidity spread which increases with maturity and generates an upward sloping yield curve. As a result, trading frictions induce firms to borrow and invest at shorter horizons than in a frictionless benchmark. Economies with more severe frictions exhibit a steeper yield curve which further affects maturity and investment choices of rms. A model calibrated to match cross-country moments suggests that reductions in trading frictions-a new channel of financial development-can promote economic development. A policy intervention with government-backed financial intermediaries in the secondary market can improve liquidity and reduce the cost of long-term finance which promotes investment in longer-term projects and generates substantial welfare gains.
Poor families have more children and transfer less resources to them. This suggests that family decisions about fertility and transfers dampen intergenerational mobility. To evaluate the quantitative importance of this mechanism, we extend the standard heterogeneous-agent life-cycle model with earnings risk and credit constraints to allow for endogenous fertility, family transfers, and education. The model, estimated to the US in the 2000s, implies that a counterfactual flat income-fertility profile would-through the equalization of initial conditions-increase intergenerational mobility by 7%. The impact of a counterfactual constant transfer per child is twice as large.
We create a new database of retail prices in Argentina with over 10 million observations per day. Our main novel finding is that, different from Kaplan, Menzio, Rudanko, and Trachter (2016), chains, rather than stores, explain most of the price variation in our data. We show this in three ways: (a) Even though chains have on average 158 stores, there are on average less than 2.5 unique prices per product by chain; (b) Among products that change prices in one store, the probability that other stores of the same chain also change the price of the same product in the same day is 2.4 times the probability for other stores of any chain; and (c) A formal variance decomposition shows that only 28% of the price dispersion (for the same product, day, and city) is explained by stores setting different prices within a chain. This finding is relevant for retail-pricing theories since there are significantly fewer chains than stores, which matters for the degree of competition in the market. This paper also studies the heterogeneity in price changes and price dispersion across product categories.
This paper stresses a new channel through which global financial linkages contribute to the
co-movement in economic activity across countries. We show in a two-country setting with
borrowing constraints that international credit markets are subject to self-fulfilling variations
in the world real interest rate. Those expectation-driven changes in the borrowing cost in turn
act as global shocks that induce strong cross-country co-movements in both financial and real
variables (such as asset prices, GDP, consumption, investment and employment). When firms
around the world benefit from unexpectedly low debt repayments today, they borrow and invest
more, which leads to excessive supply of collateral and of loanable funds at a low interest rate,
thus fueling a boom in both home and foreign economies. As a consequence, business cycles
are synchronized internationally. Such a stylized model thus offers one way to rationalize both
the existence of world business-cycle factor documented by recent empirical studies through
dynamic factor analysis and such a factor’s intimate link to global financial markets.
We develop a N-sector business cycle network model a la Long and Plosser (1983),
featuring heterogenous money demand a la Bewley (1980) and Lucas (1980). Despite
incomplete markets and a well-defined distribution of real money balances across heteroge-
neous households, the enriched N-sector network model remains analytically tractable with
closed-form solutions up to the aggregate level. Relying on the tractability, we establish
several important results: (i) The economys input-output network linkages become en-
dogenously time-varying over the business cyclethanks to the influence of the endogenous
distribution of money demand on cross-sector allocations of commodities. (ii) Despite flex-
ible prices, money is neither neutral nor superneutral and transitory monetary injections
can generate highly persistent effects on sectoral output, thanks to the time-varying distri-
bution of money demand and its effect on input-output coefficients. (iii) Although money
injection is distributed equally across households by design, the real effects are asymmetric
across production sectors, e.g., the impact of money is strongest on downstream sectors that
purchase intermediate goods from the rest of the economy, but weakest on upstream sectors
that supply intermediate goods to the other sectors, in sharp contrast to the case of sectoral
technology shocks and government spending shocks. Our model also shows that movements
in the distribution of money demand could be an important source of the measured labor
wedge documented by the business cycle accounting literature.
We examine housing vacancy rates over time and space using Markov-switching models. Our theoretical analysis extends a standard search and matching model for housing by incorporating regime-switching behavior and interregional spillovers. Such an approach is strongly supported by our empirical results. Our estimations allow us to examine differences in vacancy rates as well as explore the possibility of asymmetries within and across housing markets, depending on the state/regime of a given housing market. Estimated vacancy rates, conditional on the vacancy regime, vary across regions in all models. Models allowing for interregional effects tend to perform better than models lacking this feature. These models track vacancies well. Noteworthy is their performance during the Great Recession/Financial Crisis. The importance and diversity of interregional effects are demonstrated, and vacancies in a specific Census region are affected by vacancies in other regions. Moreover, the sizes of these effects depend on the vacancy state of the specific region.
The benefits of implementing Unemployment Insurance Savings Accounts (UISAs)
are studied in the presence of the multiple sources of information frictions often
existing in developing countries. A benchmark incomplete markets economy is
calibrated to Mexico in the early 2000s. The unconstrained optimal allocation
would imply very large welfare gains relative to the benchmark economy (similar to
an increase in consumption of 23% in every period). More importantly, in presence
of multiple sources of information frictions, about half of those potential gains can
be accrued through the implementation of UISAs with replacement rates between
40-50%, contribution rates between 10-15%, an initial liquidity transfer of about 20
quarters of average income, and higher payroll taxes to finance those initial stocks.
This paper studies the role of the patterns of production and international trade on the higher business cycle volatility of emerging economies. We study a multi-sector small open economy in which firms produce and trade commodities and manufactures. We estimate the model to match key cross-sectional differences across countries: emerging economies run trade surpluses in commodities
and trade deficits in manufactures, while sectoral trade flows are balanced in developed economies. We find that these differences amplify the response of emerging economies to fluctuations in commodity prices. We show evidence consistent with these findings using cross-country data.
We use regional variation in the American Recovery and Reinvestment Act (2009-2012)
to analyze the eect of government spending on consumer spending. Our consumption data
come from household-level retail purchases in Nielsen and auto purchases from Equifax credit
balances. We estimate that a $1 increase in county-level government spending increases consumer spending by $0.18. We translate the regional consumption responses to an aggregate
fiscal multiplier using a multi-region, New Keynesian model with heterogeneous agents and
incomplete markets. Our model successfully generates the estimated positive local multiplier, a result that distinguishes our incomplete markets model from models with complete markets. The aggregate consumption multiplier is 0.4, which implies an output multiplier higher than one. The aggregate consumption multiplier is almost twice the local estimate because trade linkages propagate government spending across regions.