Knowledge that Transforms

A general equilibrium model is presented wherein wage labor requires monitoring in order to extract effort. Landlords may also elect to adopt sharetenancy contracts in which workers have an incentive to supply unsupervised effort. Two "distortions" exist: monitoring costs in one sector and a share "tax" in the other. Efficiency statements require second-best comparisons adopting more specific functional forms. This mixed wage-sharetenancy economy is technically efficient and provides greater Benthamite social welfare than a wage-only economy, when private incentives lead to mixing. The incidence of sharetenancy is hypothesized to increase with monitoring costs, density of tenants per landlord, and labor intensity of production.

Two alternative theories, each generating a "national defense argument" for protectionism, are developed and tested. The theory surviving the tests states that wartime price controls imply an undervaluation of peacetime stocks of capital which produce the war-controlled outputs. Optimal policy responses to these undervaluations are derived. For example: Nonimported, undervalued capital goods should receive domestic subsidies; undervalued capital goods, imported in peacetime but not in wartime, should receive import protection; and undervalued capital goods which are imported in wartime should be granted cartel status. An application to the United States indicates that the theoretical optimum is approximated by observed policy.

From 1921 to 1938 unemployment in Britain averaged 14 percent and never fell below 9.5 percent. Three largely independent sets of evidence indicate that the prolonged high unemployment was due to the operation of an unemployment insurance scheme that paid benefits that were high relative to wages and available subject to few restrictions. We estimate that the insurance system raised the unemployment rate by five to eight percentage points on average and that in the absence of the system unemployment would have been at normal levels through much of the period. Although a few interwar observers saw clearly the effects of unemployment insurance, Keynes and his followers did not.

This paper examines the rules governing the optimal distribution of educational resources originally developed by Arrow, in the context of a model in which some attempt is made to provide a rationale for government expenditure. Thus while there is a private market providing a perfect substitute for government education, if the government cannot adopt the lump-sum taxation which would make exclusive reliance on the private market optimal, but has to rely on an income tax for redistribution, then an optimally chosen scheme of educational provision by the government will powerfully reinforce the redistributive effect of income tax.

The relationship between spot and forward exchange rates and domestic and foreign interest rates is examined with transactions costs in all markets. Market participants choose the least-cost method of exchanging currencies in these markets, thus engaging in one-way arbitrage if that is preferable to a direct transaction. One-way arbitrage consists of using one exchange market and the two securities markets to replace a direct transaction in the other exchange market. It is shown that one-way arbitrage should prevent rates from ever departing enough from interest parity for conventional covered interest arbitrage to break even.

This paper reviews a number of recent studies of the income schooling-ability nexus using sibling data and discusses the problem of identification in such studies. Special emphasis is placed on the role of errors in variables, concluding that modest error levels can account for much of the observed difference between total and within-family estimates of returns to schooling. It also suggests that the family may not contribute as much to the transmission of inequality as is commonly thought, since it is a force for equality within (among siblings).

[The primary purpose of this paper is to compare the predictive accuracy of four models: (1) Sargent's classical macroeconometric model, (2) Sim's six-equation unconstrained vector autoregression model, (3) a "naive" eighth-order autoregressive model, and (4) my model. A recent method that I have proposed for estimating the predictive accuracy of a model, which takes account of the four main sources of uncertainty of a forecast, is used for the comparisons. The results indicate that Sargent's and Sims's models are the same as or less accurate than the naive model, depending on the variable, and that my model is more accurate for real GNP, the GNP deflator, and the unemployment rate and less accurate for the money supply and the wage rate than the naive model. A secondary purpose of the paper is to point out some econometric mistakes that Sargent made in his empirical work and to propose an alternative technique that can be used to estimate a rational expectations model like his.]

The prevalence in Japan of flexible wages in the form of bonus payments is explained by a high profitability of investment in specific human capital together with the low costs of transactions facing the employer and the worker in assessing fluctuations in productivities. A model of on-the-job training is developed to analyze the determination of the amounts and the sharing of investment in specific human capital. The model predicts that increased profitability of investment leads to an increased bonus-earnings ratio. Evidence indicates that education and firm size, which are often said to be positively associated with the profitability of on-the-job training in Japan, as well as years of experience in the current firm, have significant positive associations with the bonus-earnings ratio. An observed positive association between the cyclical sensitivities in a production index and in the bonus-earnings ratio also supports the theory.