Knowledge that Transforms

The expansion of variety in consumer and intermediate goods plays a central role in many theoretical models of growth. Examples include Paul M. Romer (1990), Gene M. Grossman and Elhanan Helpman (1991 Ch. 3), and Robert J. Barro and Xavier Sala-i-Martin (1995 Ch. 6). In contrast, evidence on variety growth is very sparse. Jerry A. Hausman (1997) and Amil Petrin (1999) estimate the consumer gains to the introduction of specific brands of specific products (Apple-Cinnamon Cheerios and minivans, respectively). Similarly, Manuel Trajtenberg (1989) and Hausman (1999) estimate the gains from computed tomography (CT) scanners and cellular phones, respectively. However, quantifying the aggregate importance of new products on a good-by-good basis is probably not feasible. In particular, it is not possible to obtain data to estimate consumer surplus from the myriad of new models and features that are continually introduced. Reflecting these problems, the Boskin Commission (1996) offers only a few, often speculative, calculations in addressing the issue of variety gains. We take an indirect approach. We exploit how new varieties alter spending patterns, drawing expenditures away from comparatively dormant categories. Table 1 illustrates for a few cases of dramatic product innovations. As the table shows, rapid growth in spending on cable television since 1980 has fueled a broad increase in spending on television, despite a relative decline in spending on television sets. Similarly, VCR’s and movie rentals have spurred an increase in overall spending on movies at home and theaters, personal computers have brought about increased spending on home audio and video equipment, and cell phone services have been responsible for the increased spending on all telephone services. In the 20 years prior to the ascendance of these major new items, all of their categories were stagnant or in relative decline. More generally, we find that consumers have been rapidly shifting away from “static” categories (i.e., those in which there has been little variety or quality gain). This shift far exceeds what can be explained by the impact of relative Engel curves or relative price changes. Our results suggest that variety has increased by perhaps 1 percent per year over the past 40 years. More striking is that most of this growth occurs in just the past 20 years—explaining our title. Looking across 106 more detailed categories, we relate share changes to U.S. Bureau of Labor Statistics (BLS) item-substitution rates. Itemsubstitution rates measure how often the BLS replaces an item in the pricing basket with another model because the former has disappeared from a sample outlet. Frequent BLS item substitutions predict increased spending on a category, even after controlling for Engel-curve, price, and demographic effects. This suggests that new varieties do increase spending on a category, as well as drive out or replace incumbent varieties. Compared to Engel curves, we find that item-substitution rates are a more reliable predictor of shifts in spending shares across goods. Related to this, we question Bruce W. Hamilton (1998) and Dora Costa’s (2000) reliance on food’s share and food’s Engel curve to measure the true rate of U.S. economic growth.

This paper reports laboratory data for games that are played only once. These games span the standard categories: static and dynamic games with complete and incomplete information. For each game, the treasure is a treatment in which behavior conforms nicely to predictions of the Nash equilibrium or relevant refinement. In each case, however, a change in the payoff structure produces a large inconsistency between theoretical predictions and observed behavior. These contradictions are generally consistent with simple intuition based on the interaction of payoff asymmetries and noisy introspection about others' decisions.

Price and Quality of Desktop and Mobile Personal Computers: A Quarter-Century Historical Overview by Ernst R. Berndt and Neal J. Rappaport. Published in volume 91, issue 2, pages 268-273 of American Economic Review, May 2001

Reconciling Conflicting Evidence on the Performance of Propensity-Score Matching Methods by Jeffrey A. Smith and Petra E. Todd. Published in volume 91, issue 2, pages 112-118 of American Economic Review, May 2001

Committees improve decisions by pooling members' independent information, but promote manipulation, obfuscation, and exaggeration of private information when members have conflicting preferences. Committee decision procedures transform continuous data into ordered ranks through voting. This coarsens the transmission of information, but controls strategic manipulations and allows some degree of information sharing. Each member becomes more cautious in casting the crucial vote than when he alone makes the decision based on own information. Increased quality of one member's information results in his casting the crucial vote more often. Committees make better decisions for members than does delegation.

The Market Evaluation of Criminality: Evidence from the Auction of British Convict Labor in America, 1767-1775 by Farley Grubb. Published in volume 91, issue 1, pages 295-304 of American Economic Review, March 2001

By incorporating the probability distribution directly into the analysis, this paper proposes a new theoretical approach to resolving the perennial dilemma of being uncertain about what discount rate to use in cost-benefit analysis. A numerical example is constructed from the results of a survey based on the opinions of 2,160 economists. The main finding is that even if every individual believes in a constant discount rate, the wide spread of opinion on what it should be makes the effective social discount rate decline significantly over time. Implications and ramifications of this proposed “gamma-discounting” approach are discussed.

Much of the existing theory of incentives describes a static relationship that lasts for just one transaction. This static assumption is not only unrealistic, but the resulting predictions appear to be at odds with many work organizations. The current paper introduces possible long-term interaction among agents, and studies how the design of explicit incentives and work organizations can exploit, and interact with, the implicit incentives generated by the repeated interaction of the agents. The optimal incentive scheme is shown to display observed features of the increasingly popular “teams,” such as the use of low-powered, group incentives.

The two key questions which motivate our work are: do bubbles exist (in the sense that stock market prices do not always correspond to the present value of expected future profitability) and, if bubbles exist, do they have an effect on business fixed investment? The case of Japan is particularly interesting because of the dramatic movements in the Japanese stock market and the wide perception that these were associated with a bubble. We use a variety of techniques to analyze these questions. Fist, we examine financing and investment patterns to gauge firms' reactions to the 1980s stock market run-up. Second, we test subsets of the orthogonality conditions associated with the empirical first-order conditions for fixed investment. Third, we use a linear projection to decompose stock market prices into fundamental and bubble components, allowing us to carry out parametric estimates of the effect of the bubble component on fixed investment. The data strongly suggest that there was a bubble that had an economically important statistically significant effect on business fixed investment in Japan.;

In recent decades, asset booms and busts have been important factors in macroeconomic fluctuations in both industrial and developing countries. In light of this experience, how, if at all, should central bankers respond to asset price volatility? We have addressed this issue in previous work (Bernanke and Gertler, 1999). The context of our earlier study was the relatively new, but increasingly popular, monetary-policy framework known as inflation-targeting (see e.g., Bernanke and Frederic Mishkin, 1997). In an inflation-targeting framework, publicly announced medium-term inflation targets provide a nominal anchor for monetary policy, while allowing the central bank some flexibility to help stabilize the real economy in the short run. The inflation-targeting approach gives a specific answer to the question of how central bankers should respond to asset prices: Changes in asset prices should affect monetary policy only to the extent that they affect the central bank’s forecast of inflation. To a first approximation, once the predictive content of asset prices for inflation has been accounted for, there should be no additional response of monetary policy to assetprice fluctuations. In use now for about a decade, inflationtargeting has generally performed well in practice. However, so far this approach has not often been stress-tested by large swings in asset prices. Our earlier research employed simulations of a small, calibrated macroeconomic model to examine how an inflation-targeting policy (defined as one in which the central bank’s instrument interest rate responds primarily to changes in expected inflation) might fare in the face of a boom-and-bust cycle in asset prices. We found that an aggressive inflationtargeting policy rule (in our simulations, one in which the coefficient relating the instrument interest rate to expected inflation is 2.0) substantially stabilizes both output and inflation in scenarios in which a bubble in stock prices develops and then collapses, as well as in scenarios in which technology shocks drive stock prices. Intuitively, inflation-targeting central banks automatically accommodate productivity gains that lift stock prices, while offsetting purely speculative increases or decreases in stock values whose primary effects are through aggregate demand. Conditional on a strong policy response to expected inflation, we found little if any additional gains from allowing an independent response of central-bank policy to the level of asset prices. In our view, there are good reasons, outside of our formal model, to worry about attempts by central banks to influence asset prices, including the fact that (as history has shown) the effects of such attempts on market psychology are dangerously unpredictable. Hence, we concluded that inflationtargeting central banks need not respond to asset prices, except insofar as they affect the inflation forecast. In the spirit of recent work on robust control, the exercises in our earlier paper analyzed the performance of policy rules in worst-case † Discussants: Robert Shiller, Yale University; Glenn Rudebusch, Federal Reserve Bank of San Francisco; Kenneth Rogoff, Harvard University.