Knowledge that Transforms

This paper derives observable properties of economies with optimal income distribution rules that specify consumers' incomes as functions of aggregate income and prices. Optimality implies that the aggregate demand function is generated by a single “representative” consumer, cf. Samuelson (1956). We derive an additional implication which, when consumers receive fixed shares of aggregate income, requires that the consumers' demands become more dispersed when aggregate income rises. This last condition has empirical support. The results relate the representative consumer's preferences to a version of Kaldor's compensation criterion and show when both can be used for normative analysis without internal inconsistency.

In this paper we investigate the sensitivity of investment to the availability of internal funds using the hierarchy of finance approach to corporate finance. We characterize the empirical implications of this approach for dynamic investment models and test these implications using firm-level data. The model we estimate is based on the Euler equation for optimal capital accumulation in the presence of convex adjustment costs. The theoretical model explicitly allows for debt finance and financial assets. The empirical investigation uses U.K. company panel data to estimate dynamic investment models using GMM and tests the derived implications.

This paper presents an incentive-based theory of the dynamics of the distribution of consumption in the presence of aggregate shocks. The paper builds on the models concerning the distribution of income or consumption and incentive problems of Green (1987), Thomas and Worrall (1991), Phelan and Townsend (1991), and Atkeson and Lucas (1992). By incorporating aggregate production shocks, the model allows an examination of the interactions between individual and aggregate consumption series given incomplete insurance. Further, the methodology outlined allows the incorporation of incentive considerations to macroeconomic environments similar to Rogerson (1988) and Hansen (1985).

In the model of monopolistic competition on the circle, a product is identified by a single locational characteristic representing its brand or variety. The ability of a variety to compete with other varieties a given distance away (its specialization as quantified by transportation losses) is exogenously given in the standard model. Here, specialization is a choice variable selected by the firm. An equilibrium is derived, where the degree of specialization is endogenously determined. The effect of endogenizing specialization makes the Hotelling-Lancaster-Chamberlin model of monopolistic competition isomorphic to the Dixit-Stiglitz-Ethier formulation, without sacrificing the appealing concept of product 'distance.'

The paper examines the effects of the composition of unemployment on wage determination. It explores the implication of one central assumption: when firms receive multiple acceptable applications, they hire the worker who has been unemployed for the least amount of time. This assumption (“ranking”) is contrasted with the assumption of random hiring (“no-ranking”). By embodying this assumption in a model of the labour market with job creation/destruction and matching, the joint behaviour of unemployment, the distribution of unemployment durations, and wages are characterized. The implication that the re-employment prospects of employed workers, were they to become unemployed, are better than those of the currently unemployed appears to have been an important feature of European unemployment experience in the 1980's.

The paper considers the repeated prisoner's dilemma in a large-population random-matching setting where players are unable to recognize their opponents. Despite the informational restrictions cooperation is still a sequential equilibrium supported by "contagious" punishments. The equilibrium does not require excessive patience, and contrary to previous thought, need not be extraordinarily fragile. It is robust to the introduction of small amounts of noise and remains nearly efficient. Extensions are discussed to models with heterogeneous rates of time preference and without public randomizations.

This paper considers the optimal approach to reducing inflation when the cost of inflation is its conditional variability. Inflation is stochastically related to money growth, with unobservable time-varying autonomous and induced components. A sharp reduction in money growth provides information about the responsiveness of inflation to money, but also induces variability as the economy heads into unknown territory. Gradual policy is always optimal and the model explains why moderate-inflation countries adopt a much more gradual money growth reduction than high-inflation countries. Additionally, the analysis sheds light on the more general problem of learning with two unobservable parameters.

In this paper, the authors model a job-specific shock process in the matching model of unemployment with noncooperative wage behavior. They obtain endogenous job creation and job destruction processes and study their properties. The authors show that an aggregate shock induces negative correlation between job creation and job destruction, whereas a dispersion shock induces positive correlation. The job destruction process is shown to have more volatile dynamics than the job creation process. In simulations, the authors show that an aggregate shock process proxies reasonably well the cyclical behavior of job creation and job destruction in the United States.

In this paper, the authors argue that modeling the trend component in real GNP as a random walk is inconsistent with its interpretation as productivity growth. As an alternative, they specify the trend as an ARIMA whose impulse response function follows an S-shaped pattern reflecting the process of diffusion of technical change. Such an ARIMA is employed to build and estimate an UCARIMA using U.S. postwar quarterly data. The authors find that their model, although more parsimonious, fits the data equally as well as the standard random walk plus AR(2) cycle. Moreover, their model has a very low cycle/trend variance ratio.

This paper analyses the effects of growth on long-run unemployment using a search model of equilibrium unemployment where growth arises explicitly from the introduction of new technologies that require labour reallocation for their implementation. The analysis uncovers and compares between two competing effects of growth on unemployment. The first is a capitalisation effect, whereby an increase in growth raises the capitalised returns from creating jobs and consequently reduces the equilibrium rate of unemployment. The second is a creative destruction effect whereby an increase in growth reduces the duration of a job match, thereby raising the equilibrium level of unemployment both directly, by raising the job separation rate, and indirectly, by discouraging the creation of job vacancies.