Knowledge that Transforms

Thinking about contingencies, designing covenants, and seeing through their implications is costly. Parties to a contract accordingly use heuristics and leave it incomplete. The paper develops a model of limited cognition and examines its consequences for contractual design.

Using two strategies, we show that consumers underreact to taxes that are not salient. First, using a field experiment in a grocery store, we find that posting tax-inclusive price tags reduces demand by 8 percent. Second, increases in taxes included in posted prices reduce alcohol consumption more than increases in taxes applied at the register. We develop a theoretical framework for applied welfare analysis that accommodates salience effects and other optimization failures. The simple formulas we derive imply that the economic incidence of a tax depends on its statutory incidence, and that even policies that induce no change in behavior can create efficiency losses.

Among the many unusual aspects of the ongoing financial crisis is the unprecedented provision of backstop liquidity by central banks around the world. The Federal Reserve alone had committed $4,400 billion by mid-Novem ber 2008. The Fed funds rate is almost equal to zero. These are extraordinary numbers. This paper establishes a formal relationship between the recent monetary developments and the trends in private leverage and its structure. Over the last few years, some traditional insti tutions, for example broker-dealers, have relied more and more on markets (securitization, money market ) for their funding. Some banks have also increased their dependence on mar kets; the standard illustration is Northern Rock, a UK mortgage bank, which prior to its bailout relied on short-term wholesale markets for 75 percent of its funding. A second factor contributing to the reliance on wholesale markets is the overall shift from a bank-based system to a market-based one. The expanding so-called “shadow banking system” (conduits, hedge funds, investment banks, monolines ) has engaged in substantial transfor mation and, unlike commercial banks, could not avail itself of stable insured deposits. Mutual funds are under the threat of redemptions and may well face liquidity shortages as well. Adding subprime borrowers, who are heavily dependent on high housing prices and, for those with adjustable-rate mortgages (ARMs), on low short-term interest rates, and highly lever

This paper presents a theory of the maturity of international sovereign debt, and derives its implications for the reform of the international financial architecture. The analysis is based on a model in which the need to roll over external debt disciplines the policies of debtor countries, but makes them vulnerable to unwarranted debt crises due to bad shocks. The paper presents a welfare analysis of several measures that have been discussed in recent debates, such as international lending-in-last-resort or the establishment of a mechanism for suspending payments on the external debt of crisis countries.

Choice problems in the spirit of Ellsberg (1961) suggest that rank-dependent (“Choquet expected utility”) preferences over subjective gambles might be subject to the same difficulties that Ellsberg's earlier examples posed for subjective expected utility. These difficulties stem from event-separability properties that rank-dependent preferences partially retain from expected utility, and suggest that nonseparable models of preferences might be better at capturing features of behavior that lead to these paradoxes.

Our goal is to evaluate variations in rice yields for likely climate changes for Southeast Asia. To do so we integrate economic modeling with soil science crop growth simulation model, weather simulation model and global climate change models. We estimate impacts of climate change under two different climate scenarios, one assuming high future global anthropogenic pollution emissions,

Payday Loans and Credit Cards: New Liquidity and Credit Scoring Puzzles? by Sumit Agarwal, Paige Marta Skiba and Jeremy Tobacman. Published in volume 99, issue 2, pages 412-17 of American Economic Review, May 2009

Principal-agent models usually invoke the strong assumption that the parties know for sure ex ante whether a variable is verifiable or not. This paper assumes that only the probability of verification is known, and that this probability is endogenously determined. We analyze a principal-agent relationship where the verifiability of the agent's output is determined by the principal's investment in drafting an explicit contract. The model is well suited for analyzing the relationship between explicit contracting, legal courts, trust, and relational contracting. In particular, we show how trust—established through repeated interaction—and legal courts may induce contractual incompleteness.

Child health in the United States improved dramatically over the twentieth century. Data from the National Center for Health Statistics indicate the infant mortality rate was 23 times greater in 1900 than in 2004. The mortality rate of one-to four-year-old children, although lower in absolute terms, had a larger proportionate decline: the value in 1900 was 66 times that in 2004. The proximate cause of the mortality decline was a reduction in infectious disease. Between 1900 and 1998, the percentage of deaths of children age 1 to 19 due to infectious disease is estimated to have declined from 61.6 percent to 2 percent (Bernard Guyer et al. 2000). Major causes of child death included diarrhea, pneumonia and other respiratory infections, diphtheria, typhoid, measles, scarlet fever, whooping cough, and tuberculosis (Guyer et al. 2000). The mortality decline was accompanied by reductions in morbidity among surviving children. There were also declines in the prevalence of a host of illnesses, such as hookworm and trachoma, which were not deadly but which impaired children’s quality of life (C. Hoyt Bleakley 2007; Shannen K. Allen and Richard D. Semba 2002). Early life exposures to infectious disease may also have adverse effects on health and well-being into old age. If true, then the benefits of the twentieth century decline in infectious disease in the United States are still being realized. We examine whether the disease environments experienced by American children in the first half of the twentieth century are associated with their cognitive abilities at older ages. We match region-level historical data on mortality from a variety of infectious diseases, as well as total infant mortality, with information on the cognitive function of older Americans followed by the Health and Retirement Study (HRS). We find evidence that the burden of disease in early life—measured using either mortality rates by cause or the overall infant mortality rate—is significantly associated with performance on cognitive tests in old age.