Knowledge that Transforms

In his recent paper in the American Economic Review, Jensen (1997) argues that delegation of monetary policy to an independent central bank, which acts as an agent for the government, does not mitigate the problem of time-inconsistency, but merely relocates it. ∗We acknowledge with thanks support for this work provided through ESRC research grant L138251003 “Imperfect Financial Markets, Business Cycles, and Growth”, which forms part of the programme on Understanding the Evolving Macroeconomy (UEM). We are grateful to participants at the Money, Macro and Finance (MMF), and UEM Conference 2002 for their helpful comments. We thank also the editors and referees of this journal for their advice and suggestions. An Appendix containing details of algebraic derivations in Section 4 of this paper can be found on the AER web site and on the authors’ site at www.econ.bbk.ac.uk/faculty/driffill 1 He examines a government that delegates monetary policy to an in-dependent central bank, and that faces costs if it interferes in the policy decisions of the bank by appointing a new central banker to obtain a preferred result. He shows that delegation makes it more dif-ficult to sustain the credibility of optimal monetary policy. We show here that this result emerges because Jensen examines a restricted range of policy actions for the government. When this restriction is lifted, the result is reversed. By means of suitable announcements of contracts for the central bank, combined with appropriate actually implemented contracts, delegated policy enables zero inflation to pre-vail in economies in which it could not do so without delegated policy. These economies are ones that have relatively low discount factors.

Just describing how the Federal Reserve made possible the expansion of commercial banks’ powers to permit them to engage in investment banking could occupy this entire essay. That change occurred in several stages, beginning with the Fed’s decision in 1987 to allow small inroads by banks into investment banking. Those changes created a favorable track record, which laid the groundwork for the Administration’s and Congress’s willingness to eliminate restrictions entirely in 1999. Can one identify a “philosophy of regulation” that underlies the regulatory advocacy of the Fed under Chairman Greenspan? Although the Fed’s advocacy on various matters may appear somewhat contradictory or, at least, philosophically heterodox, the Fed has behaved in a manner that is remarkably predictable, once one takes account of the political arena in which both regulatory and monetary policy as made.

We study how financial incentives can be used to overcome a history of coordination failure using controlled laboratory experiments. Subjects' payoffs depend on coordinating at high effort levels. In an initial phase, the benefits of coordination are low, and play typically converges to an inefficient outcome. We then explore varying financial incentives to coordinate at a higher effort level. An increase in the benefits of coordination leads to improved coordination, but large increases have no more impact than small increases. Once subjects have coordinated on a higher effort level, reductions in the incentives to coordinate have little effect on behavior.

The modern economic role of women emerged in four phases. The first three were evolutionary; the last was revolutionary. Phase I occurred from the late nineteenth century to the 1920s; Phase II was from 1930 to 1950; Phase III extended from 1950 to the late 1970s; and Phase IV, the "quiet revolution," began in the late 1970s and is still ongoing. Three aspects of women's choices distinguish the evolutionary from the revolutionary phases: horizon, identity, and decision-making.

The article focuses on spending caps, and compares those used in politics with many examples in sports economics. In 1999, the party of Israeli Prime Minister Ehud Barak was fined $3.2 million for exceeding Israel's campaign finance caps. Financing caps by the National Collegiate Athletics Association did not prevent The University of Oregon from spending $3 million on their football locker room. Mathematical models are provided in order to prove that spending caps will not necessarily have their intended effect, as they increase the total expended amount by increasing the risk of being fined.

The change to the minimum school-leaving age in the United Kingdom from 14 to 15 had a powerful and immediate effect that redirected almost half the population of 14-year-olds in the mid-twentieth century to stay in school for one more year. The magnitude of this impact provides a rare opportunity to (a) estimate local average treatment effects (LATE) of high school that come close to population average treatment effects (ATE); and (b) estimate returns to education using a regression discontinuity design instead of previous estimates that rely on difference-in-differences methodology or relatively weak instruments. Comparing LATE estimates for the United States and Canada, where very few students were affected by compulsory school laws, to the United Kingdom estimates provides a test as to whether instrumental variables (IV) returns to schooling often exceed ordinary least squares (OLS) because gains are high only for small and peculiar groups among the more general population. I find, instead, that the benefits from compulsory schooling are very large whether these laws have an impact on a majority or minority of those exposed.

We examine the “technology sourcing” hypothesis that foreign research labs located in the U.S. tap into U.S. R&D spillovers and improve home country productivity. We show that U.K. firms that established a high proportion of inventors based in the U.S. by 1990 benefited disproportionately from the growth of U.S. R&D stock over the next ten years. We estimate that U.S. R&D during the 1990s was associated with 5 percent higher Total Factor Productivity for U.K. manufacturing firms in 2000 (about $13 billion), with the majority of benefits accruing to firms with an innovative presence in the U.S.

We decompose the beauty premium in an experimental labor market where “employers” determine wages of “workers” who perform a maze-solving task. This task requires a true skill which we show to be unaffected by physical attractiveness. We find a sizable beauty premium and can identify three transmission channels: (a) physically attractive workers are more confident and higher confidence increases wages; (b) for a given level of confidence, physically attractive workers are (wrongly) considered more able by employers; (c) controlling for worker confidence, physically attractive workers have oral skills (such as communication and social skills) that raise their wages when they interact with employers. Our methodology can be adopted to study the sources of discriminatory pay differentials in other settings.

This paper is part of a research program analyzing how competition affects aggregate innovative activity through its effects on firms’ organization. In previous work (Aghion et al., 2005a), we found an inverted-U shaped relationship between competition and innovation. Our explanation emphasized the “composition effect” of competition on the steady-state distribution of technological gaps across industries. Our focus here is on firms’ decisions whether or not to integrate vertically with their suppliers. We provide evidence of a U-shaped relationship between competition and vertical integration. Our explanation is based on the following idea: a moderate increase in product market competition will reduce a producer’s incentive to integrate by improving the outside options of her nonintegrated suppliers and hence raising their incentive to innovate. Too much competition will raise the producer’s incentive to integrate, however, by allowing nonintegrated suppliers to capture most of the innovation surplus. Finding a U-shaped relationship between competition and vertical integration sheds light on the debate over the “Transaction Cost Economics” (TCE) approach to vertical integration pioneered by Oliver Williamson (1975, 1985) versus the “Property Right Theory” (PRT) approach developed by Sanford Grossman and Oliver Hart (1986) and by Hart and John Moore (1990). According to the TCE approach, vertical integration is a way for contracting parties involved in a specific relationship to limit ex post bargaining inefficiencies due to holdup and thereby minimize the loss in ex ante investment that would result from it. This approach thus predicts a positive correlation between vertical integration and the degree of relation specificity. According to the PRT approach, the ownership structure will affect not so much the ex post bargaining efficiency as the relative bargaining powers of the (two) contracting parties, and therefore their relative ex ante investment incentives. Thus, while vertical integration should enhance both parties’ investments positively in the TCE approach by reducing the extent of ex post inefficiency, in the PRT approach ownership by one party, say the buyer, will enhance the buyer’s ex ante incentives at the expense of the seller’s, as it enhances the buyer’s bargaining power ex post at the expense of the seller’s. Thus, the TCE approach predicts that increased competition on the producer’s (or supplier’s) market, which reduces the overall degree of asset specificity, should therefore reduce the need for vertical integration in order to preserve ex ante investment incentives by either party. On the other hand, as we show below, the PRT approach allows the U-shaped relationship between vertical integration and competition that we find empirically. † Discussants: Sam Kortum, University of Minnesota; Mark Duggan, University of Maryland; Joel Waldfogel, University of Pennsylvania; Shane Greenstein, Northwestern University.

The canonical inflation specification in sticky-price rational expectations models (the new-Keynesian Phillips curve) is often criticized for failing to account for the dependence of inflation on its own lags. In response, many studies employ a “hybrid” specification in which inflation depends on its lagged and expected future values, together with a driving variable such as the output gap. We consider some simple tests of the hybrid model that are derived from its closed form. We find that the hybrid model describes inflation dynamics poorly, and find little empirical evidence for the type of rational, forward-looking behavior that the model implies.