Knowledge that Transforms

This paper develops an analytical framework for assessing the second-best optimal level of gasoline taxation taking into account unpriced pollution, congestion, and accident externalities, and interactions with the broader fiscal system. We provide calculations of the optimal taxes for the US and the UK under a wide variety of parameter scenarios. Under our central parameter values, and with the gasoline tax substituting for a distorting tax on labor income, the second-best optimal gasoline tax is $0.95/gal for the US and $1.29/gal for the UK. These values are moderately sensitive to alternative plausible parameter assumptions. The congestion externality is the largest component in both nations, and the higher optimal tax for the UK is due almost entirely to a higher assumed value for marginal congestion cost. Revenue-raising needs, incorporated in a “Ramsey" component, also play a significant role, as do accident externalities and local air pollution. However, we also find that a shift in taxation off gasoline and onto vehicle miles can produce much larger welfare gains than those from implementing second-best optimal gasoline taxes.

A Framework for Exploring the Macroeconomic Determinants of Systematic Risk by Torben G. Andersen, Tim Bollerslev, Francis X. Diebold and Jin Wu. Published in volume 95, issue 2, pages 398-404 of American Economic Review, May 2005

The conventional wisdom views high levels of education as a prerequisite for democracy. This paper shows that existing evidence for this view is based on crosssectional correlations, which disappear once we look at within-country variation. In other words, there is no evidence that countries that increase their education are more likely to become democratic.

This paper examines hospital responses to changes in diagnosis-specific prices by exploiting a 1988 policy reform that generated large price changes for 43 percent of Medicare admissions. I find hospitals responded primarily by "upcoding" patients to diagnosis codes with the largest price increases. This response was particularly strong among for-profit hospitals. I find little evidence hospitals increased the volume of admissions differentially for diagnoses subject to the largest price increases, despite the financial incentive to do so. Neither did they increase intensity or quality of care in these diagnoses, suggesting hospitals do not compete for patients at the diagnosis level.

Health and wealth are the two most important components of well-being. Rankings of well-being based on income will differ from more comprehensive rankings depending on the way that income and health are related. There are strong bidirectional causal links between income and health so that we cannot understand either without understanding both. What we call the ?wealthier is healthier? hypothesis asserts both that income is the main determinant of health, and that the international correlation between income and health is sufficiently tight for income rankings to indicate well-being more broadly.

The 1918 Influenza Pandemic and Subsequent Health Outcomes: An Analysis of SIPP Data by Douglas Almond and Bhashkar Mazumder. Published in volume 95, issue 2, pages 258-262 of American Economic Review, May 2005

This paper demonstrates that input prices need not reflect the costs of an efficient incumbent supplier in order to induce entrants to implement efficient make-or-buy decisions. Because of strategic downstream considerations, entrants may always undertake efficient make-or-buy decisions, regardless of the prices at which they are authorized to buy key inputs from incumbent suppliers.

We integrate a widely accepted version of the separation of ownership and control—Michael Jensen's (1986) free cash flow theory—into a dynamic equilibrium model, and study the effect of imperfect corporate control on asset prices and investment. Aggregate free cash flow of the corporate sector is an important state variable in explaining asset prices, investment, and the cyclical behavior of interest rates and the yield curve. The financial friction causes cash-flow shocks to affect investment, and causes otherwise i.i.d. shocks to be transmitted from period to period. The shocks propagate through large firms and during booms.

We provide a formal analysis of the notion that conglomerates are more ‘entrenched’ as they have ‘deeper pockets’. Using the financial contracting model of Bolton and Scharfstein (1990), we can isolate two effects that confirm this conjecture: the pooling of cash flows, which allows to smooth out repayments, and the ability to obtain better credit terms. For less profitable business segments, the internal capital market operated in a conglomerate may, however, work in the opposite direction, increasing the sensitivity of operations to own cash flows and increasing the likelihood of exit.

We show that extrinsic or nonfundamental uncertainty influences markets in a controlled environment. This work provides the first direct evidence of sunspot equilibria. These equilibria require a common understanding of the semantics of the sunspot variable, and they appear to be sensitive to the flow of information. Sunspots always occur in a closed-book call market, but they happen only occasionally in a double auction, where inframarginal bids and offers are observable.