Knowledge that Transforms

We find that technology's effect on employment varies greatly across manufacturing industries. Some industries exhibit a temporary reduction in employment in response to a permanent increase in TFP, whereas many more industries exhibit an employment increase in response to a permanent TFP shock. This raises serious questions about existing work that finds a labor productivity shock has a strong negative effect on employment. There are tantalizing and interesting differences between TFP and labor productivity. We argue that TFP is a more natural measure of technology because labor productivity reflects shifts in the input mix as well as in technology.

Yeon-Koo Che and Ian Gale (1998) studied the impact of imposing a cap on lobbying expenditures. They showed that a cap may lead to (1) greater expected aggregate expenditures and (2) a less efficient allocation of a political prize. In their comment, Todd Kaplan and David Wettstein (2005) show that if the cap is not rigid (i.e., its effect on the cost of lobbying is continuous) it has no effect.

We use a Bayesian Markov Chain Monte Carlo algorithm to estimate the parameters of a “true” data-generating mechanism and those of a sequence of approximating models that a monetary authority uses to guide its decisions. Gaps between a true expectational Phillips curve and the monetary authority's approximating nonexpectational Phillips curve models unleash inflation that a monetary authority that knows the true model would avoid. A sequence of dynamic programming problems implies that the monetary authority's inflation target evolves as its estimated Phillips curve moves. Our estimates attribute the rise and fall of post-WWII inflation in the United States to an intricate interaction between the monetary authority's beliefs and economic shocks. Shocks in the 1970s made the monetary authority perceive a tradeoff between inflation and unemployment which ignited big inflation. The monetary authority's beliefs about the Phillips curve changed in ways that account for former Federal Reserve Chairman Paul Volcker's conquest of U.S. inflation.

In a multicommunity model, high-income families cluster together in any equilibrium, and cluster near effective schools if effectiveness is an important component of community desirability. Governmental fragmentation facilitates this residential sorting. Thus, if parents prefer effective schools, income correlates with effectiveness in high-choice-market equilibrium. I examine the distribution of student background and test scores across schools within metropolitan areas that differ in the structure of educational governance. I find little indication of the “effectiveness sorting” that is predicted if parents choose neighborhoods for the efficacy of the local schools. This suggests caution about the productivity implications of school choice policies.

Macroeconomic variables exhibit inertia. On the face of it, such inertia sits uncomfortably with the behavior of rational, forward-looking agents who form expectations on the basis of the best information available at the time. Christopher Sims (2003, sect. 8) offers a three-fold taxonomy of attempts to rationalize inertia. The first is the idea of Robert Lucas (1973) and Edmund Phelps (1970) that agents face a signal extraction problem, so that their actions react only partially to shifts in fundamentals due to the residual uncertainty. The second is the sticky expectations approach of N. Gregory Mankiw and Ricardo Reis (2002), where otherwise rational and forward-looking agents receive information with some delay. The third is the rational inattention approach favored by Sims himself, where agents with informationprocessing constraints choose the optimal coarsening of their information (Sims, 2003). Our approach is a variation on the signalextraction theme but has implications for the sticky-expectations and rational-inattention approaches. As explained recently by Michael Woodford (2003), the original contribution of Lucas (1973) had limited success in explaining the persistence of macroeconomic aggregates due to the feature that the underlying fundamentals are fully revealed after a delay of one period. Without this simplifying feature, however, the complexity of the problem increases rapidly as expectations of others’ expectations become relevant in one’s calculations (Robert Townsend, 1983; Phelps, 1983). Tractability aside, the approach holds much promise. When agents are differentially informed, events in the distant past are “more common knowledge” than events in the recent past. Not only has enough time elapsed for the agents to ascertain the facts in the distant past, but more importantly, enough time has elapsed for each agent to be more confident that other agents have ascertained the facts. When common knowledge is important (as in coordination problems, for example) events in the distant past take on significance. Paradoxically, the farther the agents peer into the future, the farther they must look into the past to establish the informational platform for their actions. To an outside observer, the aggregate action betrays all the outward signs of adaptive expectations. In order to demonstrate this principle in a transparent way, we employ other drastic simplifications but do not assume that realizations are revealed after a delay of one period. We thereby preserve the nontrivial nature of dynamic, higher-order beliefs and show how persistence arises as a natural consequence of the original Lucas and Phelps insight.

Since World War II, integration with the world economy has arguably been the chief route from poverty to wealth. Japan initially exported cheap goods and later moved on to more technologically sophisticated products. When Japan became rich, Korea, Taiwan Province of China, Hong Kong SAR, and Singapore replaced Japan as low-wage exporters, and when these countries moved on to more sophisticated products, Thailand and Malaysia filled their niche. More recently, China has become an important exporter of manufactured goods and India is increasingly moving into services exports. No mainland sub-Saharan African country has experienced this type of transformation. Even countries that have undergone major economic reforms seem far from takeoff. Forecasts for Africa, based on extrapolation of its historical experience, tend to be bleak. We consider whether it is possible to construct a model, consistent with the data, which supports a more optimistic view. Motivated by the Asian experience, the model assumes countries can potentially undergo rapid economic transformation only if they integrate into the world economy by producing nontraditional exports. For the purposes of constructing a long-run model of the world economy, we are agnostic on whether exports matter due to technological learning by doing spillovers, political economy considerations, or other factors. As each developing country transforms and becomes advanced, it further improves trade opportunities for the remaining developing countries. For example, if China becomes rich, a billion more people will live in countries that import toys and a billion fewer will live in countries that export them. Our approach is similar to that of Robert E. Lucas (2000) in that we assume growth prospects improve with the state of the world economy, potentially generating accelerating world growth. Unlike Lucas (2000), however, we allow for differential population growth between rich and poor countries. The steady-state proportion of the world population living in advanced countries depends on the rate at which developing countries transform into advanced ones, and on the magnitude of population growth differentials between these two groups of countries. The economic transformation process will overcome the demographic trend, leading to a prosperous steady state, only if the initial share of world population in advanced countries is above a threshold. A simple calibration using historical data suggests that the longrun prospects for lagging developing regions may hinge on a race between economic growth in China and India and population growth in the lagging regions, particularly Africa. If the former “wins,” we may eventually observe accelerating global growth. This suggests some caution should be used when interpreting empirical studies on growth determinants, as these results may not be stable over time. Country characteristics that lead to poor performances today may well allow for rapid growth in the future if, and when, the world economy reaches a sufficiently advanced stage. Our model also suggests a queuing effect, where the order in which countries are absorbed into the world economy is determined by the quality of their policies. Economic reforms in one country may potentially have a large impact on growth if they move the country to the front of the queue. But similar reforms in all countries may have a much smaller impact on world growth.

A wide range of costly government policies are designed to extend citizens ’ lives and to reduce the risk of premature death. Using economic reasoning, one can evaluate such policies on the basis of efficiency. Life-saving policies pass a cost-benefit test if and only if their costs fall below the beneficiaries ’ willingness-to-pay for the reduced fatality risk (W. Kip Viscusi, 1993). Some government agencies have now adopted this standard for evaluating the cost-effectiveness of various life-saving policies (Viscusi, 1993; Jim Holt, 2004). One important case of government tradeoffs between dollars and fatalities is military procurement of armored vehicles. Troop-intensive units, while relatively inexpensive, place large numbers of soldiers ’ lives at risk. By replacing some troop-intensive units with tank-intensive units, an army can achieve the same level of mission accomplishment as it did before, but with fewer fatalities. Doing so, however, requires that the government make costly capital purchases. Military policymakers have known about the usefulness of armored vehicles in reducing fatalities since their initial use in World War I (J.F.C. Fuller, 1928; B.H. Liddell Hart, 1925). This issue also motivates contemporary discussions regarding vehicle procurement in Iraq (Lisa

Fifteen years after reunification, the economy of the former East Germany is on the mend. Industrial production excluding construction has expanded by more than 60 percent since 1995 and by 28 percent since 2000, compared with only about 4 percent in West Germany, for the latter period. Real GDP has grown 3.5 percent per year since 1991 and 8.2 percent annually in the manufacturing industry alone. More than half of the measured labor productivity gap and more than a third of the GDP per capita gap between East and West have been closed, in considerably less time than predicted by Robert J. Barro (1991). As Table 1 shows, convergence has been impressive on a wide array of indicators, although it has slowed in recent years and remains most difficult in the labor market. Despite this positive news, net migration continues from East to West—about 70,000, or 0.5 percent of the population, per annum since 2000, especially concentrated among 18to 25year-olds. At the same time, new physical capital continues to flow into the East—80 to 90 billion euros, or about 20 percent of GDP each year. The reallocation of production factors is one of the most impressive aspects of German unification. Since 1991, more than 1.2 trillion euros of new investment (in 1995 prices) was spent in the East, yet the workforce of East Germany shrank by roughly 1.2 million, or 15 percent, over the same period; employment rose in the West by 4.1 percent. As Figure 1 shows, the intensity of factor movement was not constant, but rather high at first, and declining into the 1990s. Migration was greatest in the early 1990s, falling until mid-decade, rising again until 2001, and declining since. In addition, a large fraction (two-thirds) of the cumulated investment flow in Eastern Germany was dedicated to residential and business structures, compared with about one-third in business equipment. The large runup in investment spending on structures is often blamed on distorted investment incentives, with possible longer-run consequences for the structure of output and factor demands (Hans-Werner Sinn and Gerlinde Sinn, 1992). This intensive movement of production factors in opposite directions is difficult to explain as a reaction to disturbances in technology, preferences, or demand. To use Horst Siebert’s (1992) terminology, Germany was hit by a massive integration shock. I offer the following definition of economic integration: the achievement of the efficient production pattern by two or more geographic regions made possible by their union, measured at world market prices. The German integration episode presents a unique opportunity to study this form of economic integration and the roles of the relative importance of adjustment costs in determin† Discussants: Hans-Werner Sinn, CES-ifo and University of Munich; Nicola Fuchs-Schundeln, Harvard University; Claudia Buch, University of Tubingen.

We analyze the effect of economic conditions early in life on individual mortality rate later in life, using business cycle conditions early in life as an exogenous indicator. Individual records from Dutch registers of birth, marriage, and death, covering a window of unprecedented size (1912–2000) are merged with historical data on macroeconomic and health indicators. We correct for secular changes over time and other mortality determinants. We nonparametrically compare those born in a recession to those born in the preceding boom, and we estimate duration models where the individual's mortality rate depends on current conditions, conditions early in life, age individual characteristics, including individual socioeconomic indicators, and interaction terms. The results indicate a significant negative effect of economic conditions early in life on individual mortality rates at all ages.

Empirical evidence suggests that most advertisements contain little direct information. Many do not mention prices. We analyze a monopoly firm's choice of advertising content and the information disclosed to consumers. The firm advertises only product information, price information, or both, and prefers to convey only limited product information if possible. It is socially harmful to force it to provide full information if it has sufficient ability to parse the information imparted, nor does it help to restrict the information voluntarily provided.