Knowledge that Transforms

Abstract A firm's productivity depends on how production is organized. To understand this relationship we develop a theory of an economy where firms with heterogeneous demands use labor and knowledge to produce. Entrepreneurs decide the number of layers of management and the knowledge and span of control of each agent. As a result, in the theory, heterogeneity in demand leads to heterogeneity in productivity and other firms' outcomes. We use the theory to analyze the impact of international trade on organization and calibrate the model to the U.S. economy. Our results indicate that, as a result of a bilateral trade liberalization, firms that export will increase the number of layers of management. The new organization of the average exporter results in higher productivity, although the responses of productivity are heterogeneous across these firms. Liberalizing trade from autarky to the level of openness in 2002 results in a 1% increase in productivity for the marginal exporter and a 1.8% increase in its revenue productivity. Endogenous organization increases the gains from trade by 41% relative to standard models.

This paper analyzes the response of earnings to payroll tax rates using a cohort-based reform in Greece. All individuals who started working on or after 1993 face permanently a much higher earnings cap for payroll taxes, creating a large and permanent discontinuity in marginal payroll tax rates by date of entry in the labor force for upper earnings workers. Using full population administrative Social Security data and a Regression Discontinuity Design, we estimate the long-term incidence and effects of marginal payroll tax rates on earnings. Standard theory predicts that, in the long run, new regime workers should bear the entire burden of the payroll tax increase (relative to old regime workers). In contrast, we find that employers compensate new regime workers for the extra employer payroll taxes but not for the extra employee payroll taxes. We do not find any evidence of labor supply responses around the discontinuity, suggesting low efficiency costs of payroll taxes. The non-standard incidence results are the same across firms of different sizes. Tax incidence, however, is standard for older workers in the new regime as they bear both the employee and employer tax. Those results, combined with a direct small survey of employers, can be explained by social norms regarding seniority-based pay which create a growing wedge between pay and productivity as workers age.

Abstract We consider the robustness of extensive form mechanisms to deviations from common knowledge about the state of nature, which we refer to as information perturbations . First, we show that even under arbitrarily small information perturbations the Moore-Repullo mechanism does not yield (even approximately) truthful revelation and that in addition the mechanism has sequential equilibria with undesirable outcomes. More generally, we prove that any extensive form mechanism is fragile in the sense that if a non-Maskin monotonic social objective can be implemented with this mechanism, then there are arbitrarily small information perturbations under which an undesirable sequential equilibrium also exists. Finally, we argue that outside options can help improve efficiency in asymmetric information environments, and that these options can be thought of as reflecting ownership of an asset.

This article studies market competition when firms can influence consumers' ability to compare market alternatives through their choice of price “formats.” In our model, the ability of a consumer to make a comparison depends on the firms' format choices. Our main results concern the interaction between firms' equilibrium price and format decisions and its implications for industry profits and consumer switching rates. In particular, market forces drive down the firms' profits to a “constrained competitive” benchmark if and only if the comparability structure satisfies a property that we interpret as a form of “frame neutrality.” The same property is necessary for equilibrium behavior to display statistical independence between price and format decisions. We also show that narrow regulatory interventions that aim to facilitate comparisons may have an anticompetitive effect.

Abstract We develop a framework for the analysis of dynamic oligopolies with persistant sources of asymmetric information that enables applied analysis of situations of empirical importance that have been difficult to deal with. The framework generates policies that are “relatively” easy for agents to use while still being optimal in a meaningful sense, and is amenable to empirical research in that its equilibrium conditions can be tested and equilibrium policies are relatively easy to compute. We conclude with an example that endogenizes the maintenance decisions of electricity generators when the costs states of the generators are private information.

Abstract What is the best way to reward innovation? While prizes avoid deadweight loss, intellectual property (IP) selects high social surplus projects. Optimal innovation policy thus trades off the ex ante screening benefit and the ex post distortion. It solves a multidimensional screening problem in the private information held by the innovator: research cost, quality, and market size of the innovation. The appropriate degree of market power is never full monopoly pricing and is determined by measurable market characteristics, the inequality and elasticity of innovation supply, making the analysis open to empirical calibration. The framework has applications beyond IP policy to the optimal pricing of platforms or the optimal procurement of public infrastructure.

Abstract How persistent are cultural traits? Using data on anti-Semitism in Germany, we find local continuity over 600 years. Jews were often blamed when the Black Death killed at least a third of Europe’s population during 1348–50. We use plague-era pogroms as an indicator for medieval anti-Semitism. They reliably predict violence against Jews in the 1920s, votes for the Nazi Party, deportations after 1933, attacks on synagogues, and letters to Der Stürmer . We also identify areas where persistence was lower: cities with high levels of trade or immigration. Finally, we show that our results are not driven by political extremism or by different attitudes toward violence.

Why are episodes of sovereign default accompanied by deep recessions? The existing literature cannot answer this question. On one hand, sovereign default models treat income fluctuations as an exogenous endowment process with ad hoc default costs. On the other hand, emerging markets business cycle models abstract from modeling default and treat default risk as part of an exogenous interest rate on working capital. We propose instead a general equilibrium model of both sovereign default and business cycles. In the model, some imported inputs require working capital financing, and default triggers an efficiency loss as these inputs are replaced by imperfect substitutes, because both firms and the government are excluded from credit markets. Default is an optimal decision of a benevolent planner for whom, even after internalizing the adverse effects of default on economic activity, financial autarky has a higher payoff than debt repayment. The model explains the main features of observed cyclical dynamics around defaults, countercyclical spreads, high debt ratios, and key long-run business cycle moments.

Abstract In this article we present a simple new Keynesian–style model of debt-driven slumps—that is, situations in which an overhang of debt on the part of some agents, who are forced into rapid deleveraging, is depressing aggregate demand. Making some agents debt-constrained is a surprisingly powerful assumption. Fisherian debt deflation, the possibility of a liquidity trap, the paradox of thrift and toil, a Keynesian-type multiplier, and a rationale for expansionary fiscal policy all emerge naturally from the model. We argue that this approach sheds considerable light both on current economic difficulties and on historical episodes, including Japan’s lost decade (now in its 18th year) and the Great Depression itself.

Abstract We analyze a rational-expectations model of price formation in an intermediate-good market under uncertainty. There is a continuum of firms, each consisting of a party who can reduce production cost and a party who can discover information about demand. Both parties can make specific investments at private cost, and there is a machine that either party can control. As in incomplete-contracting models, different governance structures (i.e., different allocations of control of the machine) create different incentives for the parties’ investments. As in rational-expectations models, some parties may invest in acquiring information, which is then incorporated into the market-clearing price of the intermediate good by these parties’ production decisions. The informativeness of the price mechanism affects the returns to specific investments and hence the optimal governance structure for individual firms; meanwhile, the governance choices by individual firms affect the informativeness of the price mechanism. In equilibrium, the informativeness of the price mechanism can induce ex ante homogeneous firms to choose heterogeneous governance structures.