Knowledge that Transforms

This paper shows that price rigidity evolves in an economy populated by imperfectly rational agents who experiment with alternative rules of thumb. In the model, firms must set their prices in face of aggregate demand shocks. Their payoff depends on the level of aggregate demand, as well as on their own price and their “neighbor's” price. The latter assumption captures local interactions. Despite the fact that the rational expectations equilibrium (REE) is characterized by a simple pricing rule that firms can easily adopt, the economy does not converge to the REE for all parameter values. When the volatility of monetary innovations is low and interactions among firms are high, the aggregate price level exhibits rigidity, in that it does not fully react to contemporaneous aggregate demand shocks. We discuss the role of the nature of experimentation, and of path dependence driven by interactions, in explaining these results.

In this paper we evaluate the impact of a major school reform, that took place in the 1950s in Sweden, on educational attainment and earnings. The reform, which has many common elements with reforms in other European countries including the UK, consisted of increasing compulsor schooling, imposing a national curriculum and abolishing selectionby ability into Academic and non-academic streams at the age of 12 (comprehensive school reform). Our data combines survey data with administrative sources. We find that the reform increased both the educational attainment and the earnings of children whose fathers had just complusory education. However the earnings of those with educated parents declined - possibly because of a dilution of quality at the top end of the education levels. The overall effect of the reform was however positive. In this paper we evaluate the impact of a major school reform, that took place in the 1950s in Sweden, on educational attainment and earnings. The reform, which has many common elements with reforms in other European countries including the UK, consisted of increasing compulsor schooling, imposing a national curriculum and abolishing selectionby ability into Academic and non-academic streams at the age of 12 (comprehensive school reform). Our data combines survey data with administrative sources. We find that the reform increased both the educational attainment and the earnings of children whose fathers had just complusory education. However the earnings of those with educated parents declined - possibly because of a dilution of quality at the top end of the education levels. The overall effect of the reform was however positive.

This paper introduces methods to compute impulse responses without specification and estimation of the underlying multivariate dynamic system. The central idea consists in estimating local projections at each period of interest rather than extrapolating into increasingly distant horizons from a given model, as it is done with vector autoregressions (VAR). The advantages of local projections are numerous: (1) they can be estimated by simple regression techniques with standard regression packages; (2) they are more robust to misspecification; (3) joint or point-wise analytic inference is simple; and (4) they easily accommodate experimentation with highly nonlinear and flexible specifications that may be impractical in a multivariate context. Therefore, these methods are a natural alternative to estimating impulse responses from VARs. Monte Carlo evidence and an application to a simple, closed-economy, new-Keynesian model clarify these numerous advantages.

Implications of Intellectual Property Rights for Dynamic Gains from Trade by Michelle Connolly and Diego Valderrama. Published in volume 95, issue 2, pages 318-322 of American Economic Review, May 2005

From a macroeconomic perspective, the shortterm interest rate is a policy instrument under the direct control of the central bank, which adjusts the rate to achieve its economic stabilization goals. From a finance perspective, the short rate is a fundamental building block for yields of other maturities, which are just riskadjusted averages of expected future short rates. Thus, as illustrated by much recent research, a joint macro-finance modeling strategy will provide the most comprehensive understanding of the term structure of interest rates. In this paper, we discuss some salient questions that arise in this research, and we also present a new examination of the relationship between two prominent dynamic, latent factor models in this literature: the Nelson-Siegel and affine no-arbitrage term-structure models. I. Questions about Modeling Yields 1. Why Use Factor Models for Bond Yields?—The first problem faced in term-structure modeling is how to summarize the price information at any point in time for the large number of nominal bonds that are traded. In fact, since only a small number of sources of systematic risk appear to underlie the pricing of the myriad of tradable financial assets, nearly all bond price information can be summarized with just a few constructed variables or factors. Therefore, yield-curve models almost invariably employ a structure that consists of a small set of factors and the associated factor loadings

I present a model in which the incomplete nature of contracts governing international transactions limits the extent to which the production process can be fragmented across borders. Because of contractual frictions, goods are initially manufactured in the same country where product development takes place. Only when the good becomes sufficiently standardized is the manufacturing stage of production shifted to a low-wage foreign location. Solving for the optimal organizational structure, I develop a new version of the product cycle hypothesis in which manufacturing is shifted abroad first within firm boundaries, and only at a later stage to independent foreign firms.

Patent Citations and the Geography of Knowledge Spillovers: A Reassessment by Peter Thompson and Melanie Fox-Kean. Published in volume 95, issue 1, pages 450-460 of American Economic Review, March 2005

We provide a model showing that the use of confidential settlement as a strategy for a firm facing tort litigation leads to lower average safety of products sold than would occur if the firm were committed to openness. A rational risk-neutral consumer's response in a market, wherein a firm engages in confidential settlements, may be to reduce demand. A firm committed to openness incurs higher liability and R&D costs, though product demand is not diminished. We identify conditions such that, if the cost of credible auditing (to verify openness) is low enough, a firm prefers to eschew confidentiality.

We analyze race discrimination in labor markets in which wage offers are posted. If employers with job vacancies receive multiple applicants, they choose the most qualified but may choose arbitrarily among equally qualified applicants. In the model, firms post wages, workers choose where to apply, and firms decide which workers to hire. Labor-market frictions greatly amplify racial disparities, so mild discriminatory tastes or small productivity differences can produce large wage differentials between the races. Compared with the nondiscriminatory equilibrium, the discriminatory equilibrium features lower net output, lower wages for both white and black workers and greater profits for firms.(This abstract was borrowed from another version of this item.)