Knowledge that Transforms

This paper presents a novel interpretation of the fact that high nominal interest rates accompany low levels of real GNP. It constructs a model in which money and bonds are both held as a result of legal restrictions on the banking system. Open market operations may increase the equilibrium rate of interest and raise the cost of credit. This increase in the cost of credit causes firms to write labour contracts in which layoffs occur more frequently. The nature of optimal labour contracts is derived explicitly from assumptions about the information that is available to firms and to workers.

As a consequence of aggregation over markets, the observed quantity may be less than the quantity demanded and less than the quantity supplied. To deal with such situations, a new technique is proposed for estimating demand and supply curves and the extent of shortage and slack. The technique is applied to the consumption goods markets of Czechoslovakia, the German Democratic Republic, Hungary, Poland, and Yugoslavia. It is found that shortage, even corrected for a discouraged consumer effect, is seldom as great as slack.

This paper is concerned with the axiomatic foundation of the theory of choice. Describing a choice procedure which one often observes in real life, the author shows that the requirement of path independence of such a procedure is a necessary and sufficient condition for transitive or full rationalization of a choice function. It is shown that the result holds when rationality is identified with different interpretations of the binary relations of preference revealed by a choice function. It is also shown that a weaker version of our path independence condition is both necessary and sufficient for a rational choice. Copyright 1988 by The Review of Economic Studies Limited.

This paper develops a model for interdependent demand for health insurance and health care under uncertainty to throw light on the issue of insurance-induced distortions in the demand for health care services. The model is used to empirically analyse the determinants of the choice of health insurance type and seven types of health care services using micro-level data from the 1977–78 Australian Health Survey. Econometric implementation of the model involves, simultaneously, issues of discreteness of choice, selectivity and stochastic dependence between health insurance and utilization. Health status appears to be more important in determining health care service use than health insurance choice, while income appears to be more important in determining health insurance choice than in determining health care service use. For a broad range of health care services both moral hazard and self selection are found to be important determinants of utilization of health care services.

A theory of price and quantity adjustments in response to stochastic changes in demand is developed for competitive markets. The level of demand is observable but product quality is not. It is shown that the higher the serial correlation of demand, the more rigid are prices and the greater the change in ouputs. If the correlation is low, prices are less rigid than when quality is observable; if it is high, they can be more rigid. Even with downward sloping demand and upward sloping supply curves, prices can be completely rigid.

The model features a dynamic market in steady state in which prices ar e determined in first-price auctions. It combines competition over ti me, familiar from the pairwise meeting models, with instantaneous bid ding competition. It inquires how different properties of the model d etermine the relative importance of these two aspects of the competit ion and, in particular, how the non-market-clearing price result of t he matching and bargaining models is affected by the introduction of instantaneous bidding competition. If there is some heterogeneity in buyers' valuations of the traded goods, then, when the market is fric tionless enough, the instantaneous bidding competition effectively di sappears and the non-market-clearing price result can obtain. Copyright 1988 by The Review of Economic Studies Limited.

Often the timing of certain activities has a strong periodic element.Due to circumstanc es, an activity is sometimes made outside the regular cycle, but it d oes not break the cycle. Thus, the timing of future activities is hig hly predict-able. The author provides a stochastic model where the da ta are not seasonal, yet the optimal behavior has a strong periodic e lement. Copyright 1988 by The Review of Economic Studies Limited.

Consider a long-term relationship between a seller and a buyer whose valuation (for a per-period service or a durable good) is private. As trade progresses, the valuation will be partially revealed, and it may be impossible for the parties to commit ex-ante not to take advantage of this. We analyse this situation first by supposing that the parties can sign a sequence of short-term contracts; and secondly by supposing that they can sign a long-term contract, but cannot commit not to renegotiate it later. We find a close relationship in the second case between the optimal long-term contract and the non-commitment outcome in the standard Coasian durable good model. Our results also have implications for hidden-information principal-agent models.

We study different solutions to a simple one-dimensional linear quadratic game with a large number of private agents and a government. A “time-consistent” solution is defined as a solution to the Hamilton-Jacobi-Bellman equation, i.e. as a policy for which the government has noprecommitment capability. This solution is compared to a policy where the government has an “instantaneous” pre-commitment, i.e. an equilibrium in which the government has a period by period leadership. In both cases, we show how control theory should be applied to calculate the equilibrium and how to relate these equilibria to the differential game literature.