Knowledge that Transforms

The current literature offers two views on the nature of the labor income process. According to the first view, individuals are subject to very persistent income shocks while facing similar life-cycle income profiles (the RIP process, Thomas MaCurdy 1982). According to the alternative, individuals are subject to shocks with modest persistence while facing individual-specific profiles (the HIP process, Lee A. Lillard and Yoram A. Weiss 1979). In this paper we study the restrictions imposed by these two processes on consumption data—in the context of a life-cycle model—to distinguish between the two views. We find that the life-cycle model with a HIP process, which has not been studied in the previous literature, is consistent with several features of consumption data, whereas the model with a RIP process is consistent with some, but not with others. We conclude that the HIP model could be a credible contender to—and along some dimensions, a more coherent alternative than—the RIP model. (JEL D83, D91, E21, J31)

We develop a tractable framework for the analysis of the relationship between contractual incompleteness, technological complementarities, and technology adoption. In our model, a firm chooses its technology and investment levels in contractible activities by suppliers of intermediate inputs. Suppliers then choose investments in noncontractible activities, anticipating payoffs from an ex post bargaining game. We show that greater contractual incompleteness leads to the adoption of less advanced technologies, and that the impact of contractual incompleteness is more pronounced when there is greater complementary among the intermediate inputs. We study a number of applications of the main framework and show that the mechanism proposed in the paper can generate sizable productivity differences across countries with different contracting institutions, and that differences in contracting institutions lead to endogenous comparative advantage differences. (JEL D86, O33)

We conducted a natural field experiment to further our understanding of the economics of charity. Using direct mail solicitations to over 50,000 prior donors of a nonprofit organization, we tested the effectiveness of a matching grant on charitable giving. We find that the match offer increases both the revenue per solicitation and the response rate. Larger match ratios (i.e., 3:1 and 2:1) relative to a smaller match ratio (1:1) had no additional impact, however. The results provide avenues for future empirical and theoretical work on charitable giving, cost-benefit analysis, and the private provision of public goods. (JEL D64, L31)

Identification and Estimation of Bidders' Risk Aversion in First-Price Auctions by Isabelle Perrigne and Quang Vuong. Published in volume 97, issue 2, pages 444-448 of American Economic Review, May 2007

Central bank money is the foundation of modern monetary and payment systems. Central bank money defines a unit of account; the price at which this money trades determines “monetary policy”; and most payment systems require the transfer of central bank funds before a transaction is legally final, or “settled.” Despite its current ubiquity, the origins of central bank money have remained obscure, and the present-day system involves a remarkable conceptual leap from earlier coin-based systems. In this paper we recount how the critical innovation—the creation of a unit of account that could be maintained solely through open market operations—took place in the seventeenth-century Dutch Republic (for a more detailed examination see Stephen Quinn and William Roberds 2005, Quinn and Roberds 2006). The villain in our story is the incremental debasement that unsettled the quality of new coins and price of old coins. The protagonists are the Dutch authorities who contended with debasement by regulating the price of coins and by creating “exchange banks, ” the Bank of Amsterdam in particular, to assure the quality of coins. The plot is propelled forward because well-intentioned regulatory changes exacerbated the debasement

We study alternate approaches to implement congestion pricing at US airports. Conventional formulations toll all aircraft without determining whether a plane operated by a given airline delays other planes that it operates or planes operated by other airlines. Recent work points out optimal pricing calls for carriers to be charged only for the delay they impose on other airlines. We find a small difference between the net benefits generated by the two congestion-pricing policies because the bulk of airport delays are not internalized and because the efficiency loss from pricing internalized congestion is small. (JEL L11, L93, R41)

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Normative analysis asks how we (as a society) should make trade-offs between individuals. Behavioral welfare economics extends the scope of this analysis to a single individual, asking how the individual should trade off potential motives. We argue that any faith in economists’ (behavioral or otherwise) abilities to resolve such problems in moral philosophy cannot be based on past accomplishments of welfare economics, and that the best way to understand welfare economics is to view it as a part of positive economics with no normative content. We distinguish three types of welfare analysis. We refer to them as welfare I, II, and III. Welfare I identifies Pareto efficient outcomes within a particular model and relates those to equilibrium outcomes. Welfare I includes results such as the first theorem of welfare economics or the Myerson and Satterthwaite theorem on two-sided bargaining—results that show when an efficient outcome must, or cannot, be attained in equilibrium. Such results are used to explain the persistence of certain economic institutions (such as competitive markets) or derive limitations on what can be achieved within any institutional framework (such as bargaining or auctions). Welfare II posits an objective function for a policymaker and evaluates different policies or institutions according to that objective function. In other words, welfare II analyzes the implications of a policymaker’s preferences. Policymakers often pursue sophisticated objectives that cannot be captured by the standard functional forms used to describe simple, selfinterested economic agents. Moreover, evidence regarding policymakers’ preferences is typically limited. Hence, discussions of policymaker

Inward Foreign Direct Investment and Racial Employment Patterns in US Manufacturing by Abera Gelan, Kaye Husbands Fealing and James Peoples. Published in volume 97, issue 2, pages 378-382 of American Economic Review, May 2007