Knowledge that Transforms

Neuroeconomic Foundations of Trust and Social Preferences: Initial Evidence by Ernst Fehr, Urs Fischbacher and Michael Kosfeld. Published in volume 95, issue 2, pages 346-351 of American Economic Review, May 2005

This paper examines the empirical relationship between relative educational unemployment rates and monetary policy. Such an examination is warranted because policymakers’ attempts to understand the distributional effects of monetary policy may be confounded by vintages of the theoretical literature that offer contrasting views of how skill-based relative unemployment (with unemployment of the less skilled in the numerator) might behave over the business cycle. A traditional view emphasizes characteristics of labor markets that could induce countercyclical movements in skill-based relative unemployment. For example, Arthur Okun (1973) argues that an important benefit of high levels of aggregate economic activity is that opportunities for employment in the high-quality jobs sector open up to the relatively unskilled. A mechanism for the relative improvement of the employment prospects of the unskilled is changes in hiring standards of high-quality job providers that occur over the cycle. Changes that occur during expansion and boom periods mentioned by Okun include accepting younger and less experienced workers or workers without diplomas and more intensive screening of applicants. A forceful statement of this highpressure economy view is contained in Rebecca Blank (2000). A more recent view of the impact of technological adoption could have quite different implications for movements in skill-based relative unemployment over the cycle. For example, Dale Mortensen and Christopher Pissarides (1999) show that, in their equilibrium search and matching framework, the relationship between skill and unemployment is convex in the presence of labor-market policies such as unemployment compensation. In this environment, skill-biased technology shocks increase overall unemployment rates with a disproportionate share of the unemployment falling on the unskilled. In his popular account of the matter, Krueger (2002) ties cyclical investment in new technologies to the conduct of monetary policy, thereby linking relative educational unemployment to monetary policy. My answer to the title question emerges from quantitative results designed to assess the dynamic effect on relative educational unemployment of a monetary policy surprise, controlling for supply shocks and the introduction of new technical ideas. These findings appear to resolve some of the tension between alternative views on relative unemployment dynamics in favor of the high-pressure economy hypothesis. † Discussants: Seth B. Carpenter, Federal Reserve Board; Jonah B. Gelbach, University of Maryland; Bridget Terry Long, Harvard University.

I develop and estimate a monetary business cycle model with nominal loans and collateral constraints tied to housing values. Demand shocks move housing and nominal prices in the same direction, and are amplified and propagated over time. The financial accelerator is not uniform: nominal debt dampens supply shocks, stabilizing the economy under interest rate control. Structural estimation supports two key model features: collateral effects dramatically improve the response of aggregate demand to housing price shocks; and nominal debt improves the sluggish response of output to inflation surprises. Finally, policy evaluation considers the role of house prices and debt indexation in affecting monetary policy trade-offs.

In the mid-1990s, measured productivity growth for the semiconductor industry showed a pickup that coincided with an economy-wide acceleration in labor productivity growth. This pickup in semiconductor markets stems from an increase in the growth of real output that was, in turn, generated by what Dale Jorgenson (2001) called an “inflection point ” in the price indexes for the semiconductor industry. Jorgenson further hypothesized that the inflection point reflected increases in the rate of product innovation made possible by an increase in Moore’s Law, a stylized description of technology that currently states that the number of electrical components on a chip will double every eighteen months. Within semiconductors, microprocessors (MPUs) produced by Intel— the world’s largest producer of the chips that serve as a computer’s central processing unit—were the primary contributor to both the trend and inflection point in this price index in the 1990s. Pricing and product cycles for Intel’s chips also changed in the mid-1990s. As shown in the top panel of figure 1, price contours for Intel’s chips became steeper around 1995. Because most price index formulae boil down to functions of weighted averages of

Lack of access to finance is often cited as a key reason for why poor people remain poor. This paper uses data on the Indian rural branch expansion program to provide empirical evidence on this issue. Between 1977 and 1990, the Indian central bank mandated that a commercial bank can open a branch in a location with one or more bank branches only if it opens four locations with no bank branches. We show that, between 1977 and 1990, this rule caused banks to open relatively more rural branches in Indian states with lower initial financial development. The reverse was true outside this period. We exploit this fact to identify the impact of opening a rural bank on poverty and output. Our estimates suggest that the Indian rural branch expansion program significantly lowered rural poverty, and increased non-agricultural output.

After the publication of “School Choice: A Mechanism Design Approach” by Abdulkadiroglu and Sonmez (2003), a Boston Globe reporter contacted us about the Boston Public Schools (BPS) system for assigning students to schools. The Globe article highlighted the difficulties that Boston’s system may give parents in strategizing about applying to schools. Briefly, Boston tries to give students their firstchoice school. But a student who fails to get her first choice may find her later choices filled by students who chose them first. So there is a risk in ranking a school first if there is a chance of not being admitted; other schools that would have been possible had they been listed first may also be filled. Valerie Edwards, then Strategic Planning Manager at BPS, and her colleague Carleton Jones invited us to a meeting in October 2003. BPS agreed to a study of their assignment system and provided us with micro-level data sets on choices and characteristics of students in the grades at which school choices are made (K, 1, 6, and 9), and school characteristics. Based on the pending results of this study, the Superintendent has asked for our advice on the design of a new assignment mechanism. This paper describes some of the difficulties with the current mechanism and some elements of the design and evaluation of possible replacement mechanisms. School choice in Boston has been partly shaped by desegregation. In 1974, Judge W. Arthur Garrity ordered busing for racial balance. In 1987, the U.S. Court of Appeals freed BPS to adopt a new, choice-based assignment plan. In 1999 BPS eliminated racial preferences in assignment and adopted the current mechanism.

This paper develops a model where reductions in mortality are the main force behind economic development. The model generates a pattern of changes similar to the demographic transition, where gains in life expectancy at birth are followed by reductions in fertility and increases in the rate of human capital accumulation. The onset of the transition is characterized by a critical level of life expectancy at birth, which marks the movement of the economy from a Malthusian equilibrium to an equilibrium with investments in human capital and the possibility of long-run growth.

Forward-looking agents care about expected future utility flows, and hence have higher current felicity if they are optimistic. This paper studies utility-based biases in beliefs by supposing that beliefs maximize average felicity, optimally balancing this benefit of optimism against the costs of worse decision making. A small optimistic bias in beliefs typically leads to first-order gains in anticipatory utility and only second-order costs in realized outcomes. In a portfolio choice example, investors overestimate their return and exhibit a preference for skewness; in general equilibrium, investors' prior beliefs are endogenously heterogeneous. In a consumption-saving example, consumers are both overconfident and overoptimistic.

The market for developing country sovereign debt has become increasingly competitive. Is this necessarily good for welfare? Or, is there scope for benefi-cial government intervention to reduce competition, and promote coordination, among creditors? This paper reviews recent theoretical work on the market for developing country sovereign debt that shows that competition can reduce welfare. Further, it argues that while private sector creditor organizations have been successful at coordinating existing creditors in history, government inter-vention to discourage entry by new creditors may be welfare improving today. In the past three decades, the market for developing economy sovereign lending has grown increasingly competitive. Advances in telecommunications and the removal of capital market regulations have reduced the costs of doing business. At the same

Risk Aversion and Incentive Effects: Comment by Glenn W. Harrison, Eric Johnson, Melayne M. McInnes and E. Elisabet Rutström. Published in volume 95, issue 3, pages 897-901 of American Economic Review, June 2005