PDFSlow Information Diffusion and the Inertial Behavior of Durable Consumption
By Yulei Luo, Jun Nie, and Eric R. Young
RWP 12-11, March 2013; updated March 2014
This paper studies the aggregate dynamics of durable and nondurable consumption under sticky information diffusion (SID) due to noisy observations and slow learning within the permanent income framework. We show that SID can significantly improve the model's predictions on the joint behavior of income, durable, and nondurable consumption at the aggregate level. Specifically, we find that SID can help generate (i) realistic smoothness in durable and nondurable consumption, (ii) the autocorrelation of durable consumption, and (iii) the contemporaneous correlation between durable and nondurable consumption. Furthermore, we show that incorporating a fixed cost into our SID model does a better job of reproducing the infrequent adjustments of durable consumption at the individual level and the slow adjustments at the aggregate level.
PDFDrifting Inflation Targets and Stagflation
By Edward S. Knotek II and Shujaat Khan
RWP 12-10, November 2012
This paper revisits the phenomenon of stagflation. Using a standard New Keynesian dynamic, stochastic general equilibrium model, we show that stagflation from monetary policy alone is a very common occurrence when the economy is subject to both deviations from the policy rule and a drifting inflation target. Once the inflation target is fixed, the incidence of stagflation in the baseline model is essentially eliminated. In contrast with several other recent papers that have focused on the connection between monetary policy and stagflation, we show that while high uncertainty about monetary policy actions can be conducive to the occurrence of stagflation, imperfect information more generally is not a requisite channel to generate stagflation.
PDFTrend Inflation and Equilibrium Stability: Firm-Specific versus Homogeneous Labor
By Takushi Kurozumi and Willem Van Zandweghe
RWP 12-09, December 2012; updated August 2015
In sticky price models based on micro evidence that each period a fraction of prices is kept unchanged, recent studies reach the qualitatively same conclusion that higher trend inﬂation is a more serious source of indeterminacy of rational expectations equilibrium, regardless of whether labor is ﬁrm-speciﬁc or homogeneous. This paper shows that the model with ﬁrm-speciﬁc labor is more susceptible to indeterminacy induced by high trend inﬂation than the model with homogeneous labor, because these two different speciﬁcations of labor lead to distinct representations of inﬂation dynamics. In addition, the model with ﬁrm-speciﬁc labor is more susceptible to expectational instability of the equilibrium caused by high trend inﬂation.
Evidence from the National Longitudinal Survey of Youth (NLSY) suggests the cyclicality of job duration depends on the worker's prior and future employment status. For example, among matches formed with previously nonemployed workers, those that end with the worker returning to nonemployment have pro-cyclical duration. In contrast, matches that end because the worker switches to another job have counter-cyclical duration. Moreover, dierences in starting wages do not account for these observed patterns.
PDFLabor Market Dynamics with Endogenous Labor Force Participation and On-the-Job Search
By Didem Tuzemen
RWP 12-07, October 2012
Studies that incorporate endogenous labor force participation, and search and matching frictions in a real business cycle model find that this three-state model generates counterfactual results: labor force participation is very volatile, unemployment is acyclical and highly positively correlated with vacancies. Based on the evidence that job-to-job flows are large in the U.S. labor market, this paper enriches the three-state model with an on-the-job search mechanism which leads to job-to-job flows. The modified model successfully generates countercyclical unemployment and the Beveridge Curve relationship. Quantitatively, business cycle statistics reproduced by the modified model are more in line with their empirical counterparts.
We study the eﬀects of ﬁnancial market incompleteness on occupational mobility. Incomplete insurance reduces occupational mobility and, as a result, the correlation of labor supply with occupational productivity is lower than under complete markets. Low-asset workers remain in low-productivity occupations even when the expected value of switching is positive. Negative occupational productivity shocks therefore have larger eﬀects on such workers' future earnings than they would for better insured workers. In a model calibrated to match observations from the Survey of Income and Program Participation (SIPP), we ﬁnd welfare costs of market in-completeness averaging 2.4 percent of lifetime consumption. We examine policies to increase occupational mobility. A subsidy to retraining costs increases mobility signiﬁcantly and is welfare improving for agents stuck in low-productivity occupations. Meanwhile, a proportional tax on labor income decreases mobility, but naturally improves welfare through redistribution.
PDFStudent Loans: Overview and Issues (Update)
By Kelly Edmiston, Lara Brooks, and Steven Shepelwich
RWP 12-05, August 2012; updated April 2013
This paper provides a detailed overview of the student loan market, presents new statistics that highlight student loan debt burdens and delinquency rates, and discusses current concerns among many Americans about student loans, including their fiscal impact. The report is intended to enhance awareness of the state of student loan debt and delinquency and highlight issues facing borrowers, creditors, the federal government, and society at large. The clear message is that student loans present problems for some borrowers that are well worth addressing. At the same time, the analysis suggests that student loans do not yet impose a significant burden on society from their fiscal impact.
PDFThe State Space Representation and Estimation of a Time-Varying Parameter VAR with Stochastic...
By Taeyoung Doh and Michael Connolly
RWP 12-04, July 2012
To capture the evolving relationship between multiple economic variables, time variation in either coefficients or volatility is often incorporated into vector autoregressions (VARs). The state space representation that links the transition of possibly unobserved state variables with observed variables is a useful tool to estimate VARs with time-varying coefficients or stochastic volatility. In this paper, we discuss how to estimate VARs with time-varying coefficients or stochastic volatility using the state space representation. We focus on Bayesian estimation methods which have become popular in the literature. As an illustration of the estimation methodology, we estimate a time-varying parameter VAR with stochastic volatility with the three U.S. macroeconomic variables including inflation, unemployment, and the long-term interest rate. Our empirical analysis suggests that the recession of 2007-2009 was driven by a particularly bad shock to the unemployment rate which increased its trend and volatility substantially. In contrast, the impacts of the recession on the trend and volatility of nominal variables such as the core PCE inflation rate and the ten-year Treasury bond yield are less noticeable.
PDFEffects of Credit Scores on Consumer Payment Choice
By Fumiko Hayashi and Joanna Stavins
RWP 12-03, February 2012
This paper investigates the effects of credit scores on consumer payment behavior, especially on debit and credit card use. Anecdotally, a negative relationship between debit card use and credit score has been reported; however, it is not clear whether that relationship is related to other factors, such as education or income, or whether it is a mere correlation. We use a new consumer survey dataset to examine whether this negative relationship holds after controlling for various consumer characteristics, including demographic and financial characteristics, consumers' perceptions toward payment methods, and card reward status. The results based on a single-year survey as well as on panel data suggest that there is a significant negative relationship between debit card use and credit score even after controlling for various characteristics. We supplement the analysis with evidence from Equifax data. The results indicate that an increase in consumers' cost of debit cards—in response to regulatory changes, for example—would have an adverse effect on low-credit-score consumers (typically those with lower incomes and less education).
We then investigate what credit score implies. If credit score significantly influences consumer access to credit cards, credit limits, or the cost of credit cards, then the negative relationship likely results from supply-side constraints. If a lower credit score is associated with differences in underlying preferences, then the negative relationship is likely due to demand-side effects. Preliminary evidence strongly suggests that supply-side factors play an important role in the cost of credit and in access to credit.
PDFModel Uncertainty, State Uncertainty, and State-space Models
By Yulei Luo, Jun Nie and Eric R. Young
RWP 12-02, January 2012; updated February 2012
State-space models have been increasingly used to study macroeconomic and financial problems. A state space representation consists of two equations, a measurement equation which links the observed variables to unobserved state variables and a transition equation describing the dynamics of the state variables. In this paper, we show that a classic linear-quadratic macroeconomic framework which incorporates two new assumptions can be analytically solved and explicitly mapped to a state-space representation. The two assumptions we consider are the model uncertainty due to concerns for model misspecification (robustness) and the state uncertainty due to limited information constraints (rational inattention). We show that the state-space representation of the observable and unobservable can be used to quantify the key parameters on the degree of model uncertainty. We provide examples on how this framework can be used to study a range of interesting questions in macroeconomics and international economics.
PDFModel Uncertainty and Intertemporal Tax Smoothing
By Yulei Luo, Jun Nie and Eric R. Young
RWP 12-01, January 2012; updated June 2014
In this paper we examine how model uncertainty due to the preference for robustness (RB) affects optimal taxation and the evolution of debt in the Barro tax-smoothing model (1979). We first study how the government spending shocks are absorbed in the short run by varying taxes or through debt under RB. Furthermore, we show that introducing RB improves the model’s predictions by generating (i) the observed relative volatility of the changes in tax rates to government spending, (ii) the observed comovement between government deficits and spending, and (iii) more consistent behavior of government budget deficits in the US economy.