Knowledge that Transforms

We study the purchasing power parity (PPP) puzzle in a multi-sector, two-country, sticky-price model. Across sectors, firms differ in the extent of price stickiness, in accordance with recent microeconomic evidence on price setting in various countries. Combined with local currency pricing, this leads sectoral real exchange rates to have heterogeneous dynamics. We show analytically that in this economy, deviations of the real exchange rate from PPP are more volatile and persistent than in a counterfactual one-sector world economy that features the same average frequency of price changes, and is otherwise identical to the multi-sector world economy. When simulated with a sectoral distribution of price stickiness that matches the microeconomic evidence for the U.S. economy, the model produces a half-life of deviations from PPP of 39 months. In contrast, the half-life of such deviations in the counterfactual one-sector economy is only slightly above one year. As a by-product, our model provides a decomposition of this difference in persistence that allows a structural interpretation of the different approaches found in the empirical literature on aggregation and the real exchange rate. In particular, we reconcile the apparently conflicting findings that gave rise to the "PPP Strikes Back debate" (Imbs et al. 2005a,b and Chen and Engel 2005).

I study a dynamic model of trial-and-error search in which agents do not have complete knowledge of how choices are mapped into outcomes. Agents learn about the mapping by observing the choices of earlier agents and the outcomes that are realized. The key novelty is that the mapping is represented as the realized path of a Brownian motion. I characterize for this environment the optimal behavior each period as well as the trajectory of experimentation and learning through time. Applied to new product development, the model shares features of the data with the well-known Product Life Cycle. (JEL D81, D83, D92, L26)

Is lifetime inequality mainly due to differences across people established early in life or to differences in luck experienced over the working lifetime? We answer this question within a model that features idiosyncratic shocks to human capital, estimated directly from data, as well as heterogeneity in ability to learn, initial human capital, and initial wealth. We find that, as of age 23, differences in initial conditions account for more of the variation in lifetime earnings, lifetime wealth, and lifetime utility than do differences in shocks received over the working lifetime. (JEL D31, D91, J24, J31)

Do women perform worse than equally able men in stressful competitive settings? We ask this question for competitions with a high payoff—admissions to tuition-free selective universities. With data on an entire cohort of Czech students graduating from secondary schools and applying to universities, we show that, compared to men of similar general skills and subject-of-study preferences, women perform similarly well when competition is less intense, but perform substantially worse (are less likely to be admitted) when applying to very selective universities.

We present empirical evidence that, among a variety of cultural dimensions, the individualism-collectivism dimension, based on Hofstede's (2001) data, is the most important and robustly significant effect of culture on long run growth. Other dimensions that have a significant effect, albeit less robust, are generally strongly correlated with individualism and convey similar information. We found no significant or robust effect on growth from cultural dimensions that are independent from the individualism-collectivism cleavage.

Machina (2009) introduced two examples that falsify Choquet expected utility, presently one of the most popular models of ambiguity. This article shows that Machina's examples falsify not only the model mentioned, but also four other popular models for ambiguity of the literature, namely maxmin expected utility, variational preferences, α-maxmin, and the smooth model of ambiguity aversion. Thus, Machina's examples pose a challenge to most of the present field of ambiguity. Finally, the paper discusses how an alternative representation of ambiguity-averse preferences works to accommodate the Machina paradoxes and what drives the results. (JEL D81)

Economic models that do not incorporate financial frictions only explain about 70 to 80 percent of the decline in world trade that occurred in the 2008–2009 crisis. We review evidence that shows financial factors also contributed to the great trade collapse and uncover two new stylized facts in support of it. First, we show that the prices of manufactured exports rose relative to domestic prices during the crisis. Second, we show that US seaborne exports and imports, which are likely to be more sensitive to trade finance problems, saw their prices rise relative to goods shipped by air or land.

We construct a family model of labor supply that features adjustment along both the intensive and extensive margin. Intensive margin adjsutment is restricted to two values: full-time work and part-time work. Using simulated data from the steady state of the calibrated model, we examine whether standard labor supply regressions can uncover the true value of the intertemporal elasticity of labor supply parameter. We find positive estimated elasticities that are larger for women and that are highly significant, but they bear virtually no relationship to the underlying preference parameters.

This study presents a framework to include environmental externalities into a system of national accounts. The paper estimates the air pollution damages for each industry in the United States. An integrated-assessment model quantifies the marginal damages of air pollution emissions for the US which are multiplied times the quantity of emissions by industry to compute gross damages. Solid waste combustion, sewage treatment, stone quarrying, marinas, and oil and coal-fired power plants have air pollution damages larger than their value added. The largest industrial contributor to external costs is coal-fired electric generation, whose damages range from 0.8 to 5.6 times value added. (JEL E01, L94, Q53, Q56)

We study an infinite horizon game in which pairs of players connected in a network are randomly matched to bargain. Players who reach agreement are replaced by new players at the same positions in the network. We show that all equilibria are payoff equivalent. The payoffs and the set of agreement links converge as players become patient. Several new concepts—mutually estranged sets, partners, and shortage ratios—provide insights into the relative strengths of the positions in the network. We develop a procedure to determine the limit equilibrium payoffs for all players. Characterizations of equitable and nondiscriminatory networks are also obtained. (JEL C78, D85)