We study empirically and theoretically the role of preferred habitat in understanding the economic effects of the Federal Reserve’s quantitative easing (QE) purchases. Using high-frequency identification and exploiting the structure of the primary market for U.S. Treasuries, we isolate demand shocks that are transmitted solely through preferred habitat channels, but otherwise mimic QE shocks. We document large “localized” yield curve effects when financial markets are disrupted. Our calibrated model, which embeds a preferred habitat model in a standard New Keynesian framework, can largely account for the observed financial effects of QE. We find that QE is modestly stimulative for output and inflation, but alternative policy designs can generate stronger effects.
MEF Seminar Wintersemester 2021/22
We demonstrate the importance of distinguishing between the traditional use of labor for production, versus alternative uses of labor for overhead, marketing and other expansionary activities, for studying the distribution of both factor income and labor income. We use our framework to assess the impact of changes in markups on the overall labor share and on labor income inequality across occupations. We identify the production and expansionary content of different occupations from the co-movement of occupational income shares with markup-induced changes in the labor share. We find that around one-fifth of US labor income compensates expansionary activities, and that occupations with larger expansionary content have experienced the fastest wage and employment growth since 1980.
Joint with Katrine Jakobsen, Henrik Kleven, Jonas Kolsrud. Work in progress, slides available at https://econ.lse.ac.uk/staff/clandais/cgi-bin/.
We analyze a quasi-experiment of monetary policy and the labor market in Sweden during 2010–2011, where the central bank raised the interest rate substantially while the economy was still recovering from the Great Recession. We argue that this tightening was a large, credible, and unexpected deviation from the central bank’s historical policy rule. We show that this shock increased unemployment broadly, but the increase in unemployment varied somewhat across different types of workers, with low-tenure workers in particular being highly affected, and less across different types of firms. Moreover, we find that the structure of the labor market amplified the effects of monetary policy, as workers in sectors with more rigid wage contracts saw larger increases in unemployment.
We construct a model of firm dynamics with heterogeneous productivity and distortions. The productivity distribution evolves endogenously as the result of the decisions of firms seeking to upgrade their productivity over time. Firms can adopt two strategies toward that end: imitation and innovation. The theory bears predictions about the evolution of the productivity distribution. We structurally estimate the stationary state of the dynamic model targeting moments of the empirical distribution of R&D and TFP growth in China during the period 2007--2012. The estimated model fits the Chinese data well. We compare the estimates with those obtained using data for Taiwan and find the results to be robust. We perform counterfactuals to study the effect of alternative policies. We find large effects of R&D misallocation on long-run growth.
Introducing heterogeneous households to a New Keynesian small open economy model amplifies the real income channel of exchange rates: the rise in import prices from a depreciation lowers households’ real incomes, and leads them to cut back on spending. When the sum of import and export elasticities is one, this channel is offset by a larger Keynesian multiplier, heterogeneity is irrelevant, and expenditure switching drives the output response. With plausibly lower short-term elasticities, however, the real income channel dominates, and depreciation can be contractionary for output. This weakens monetary transmission and creates a dilemma for policymakers facing capital outflows. Delayed import price pass-through weakens the real income channel, while heterogeneous consumption baskets can strengthen it.
We provide sufficient conditions for the feasibility of a Pareto-improving fiscal policy when the risk-free interest rate on government bonds is below the growth rate or there is a markup between price and marginal cost. We do so in the class of incomplete markets models pioneered by Bewley-Huggett-Aiyagari, but we allow for an arbitrary amount of ex ante heterogeneity in terms of preferences and income risk. We consider both the case of dynamic inefficiency as well as the more plausible case of dynamic efficiency. The key condition is that seigniorage revenue raised by government bonds exceeds the increase in the interest rate times the initial capital stock. The Pareto improving fiscal policies weakly expand every agent’s budget set at every point in time. The policies improve risk sharing and potentially guide the economy to a more efficient level of capital.
This paper studies the macroeconomic effects of internal migration in an economy with labor market frictions and quantifies its role in mitigating asymmetric shocks. Labor mobility is viewed as an important mechanism to stabilize the economy from regional shocks in currency unions. But this view ignores the equilibrium effects of worker mobility in the presence of search frictions. I show how labor search frictions can account for the observed procyclicality of migration in the United States. Using microdata, I document that job-to-job transitions account for most of the interstate movements. However, during downturns, there is a significant increase in the relocation of unemployed workers across states. Procyclicality of migration is then accounted mostly by procyclicality of job-to-job transitions. I develop a general equilibrium model with aggregate business cycles and search frictions that can capture the observed employment transitions for workers moving across states.
We characterize optimal monetary policy in response to asymmetric shocks that shift demand from one sector to another, a condition arguably faced by many economies emerging from the Covid-19 crisis. We show that the asymmetry manifests itself as an endogenous cost-push shock, breaking divine coincidence, and resulting in inflation optimally exceeding its target despite elevated unemployment. In fact, there is no simple, possibly re-weighted, inflation index that can be used as the optimal target. When labor is mobile between sectors, monetary easing can have the additional benefit of inducing faster reallocation, by producing wage increases in the expanding sector.
Bank liabilities include debt with long-term maturities and deposits that typically are not withdrawn for extended periods. This subjects bank liabilities to debt dilution. Our analysis shows that this has major effects for how monetary policy shocks are transmitted to banks and for optimal capital regulation. Interest rate cuts produce protracted increases in bank risk which are stronger in low-rate regimes. Capital regulation addresses debt dilution but is subject to a time-inconsistency problem. We compare Ramsey and Markov-perfect optimal policies and find that regulator commitment significantly impacts optimal bank capital regulation, sometimes in unexpected ways.
Following a sudden stop, real exchange rates can adjust through a nominal exchange rate depreciation, lower domestic prices, or a combination of both. This paper makes three contributions to understand how the type of adjustment shapes the response of macroeconomic variables, in particular productivity, to such an episode. First, using Spanish micro data during two episodes, it documents that in a currency union unproductive firms exit more than in a floating regime. Second, it proposes a small open economy DSGE model featuring firm selection, variable markups and elastic labor supply to rationalize this finding. The model nests three mechanisms through which a sudden stop affects productivity: a pro-competitive, a cost, and a demand channel. While only the former operates when the nominal exchange rate adjusts, all three are active under a currency union. The model delivers general conditions under which the positive impact of the demand channel on productivity dominates.
We propose a new method for solving high-dimensional dynamic programming problems and recursive competitive equilibria with a large (but finite) number of heterogeneous agents using deep learning. We avoid the curse of dimensionality thanks to three complementary techniques: (1) exploiting symmetry in the approximate law of motion and the value function; (2) constructing a concentration of measure to calculate high-dimensional expectations using a single Monte Carlo draw from the distribution of idiosyncratic shocks; and (3) designing and training deep learning architectures that exploit symmetry and concentration of measure. As an application, we find a global solution of a multi-firm version of the classic Lucas and Prescott (1971) model of investment under uncertainty. First, we compare the solution against a linear-quadratic Gaussian version for validation and benchmarking. Next, we solve the nonlinear version where no accurate or closed-form solution exists.