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The authors prove that the standard quasi-geometric discounting model used in dynamic consumer theory and political economics does not possess continuous Markov perfect equilibria (MPE) if there is a strictly positive lower bound on wealth. The authors also show that, at points of discontinuity, the decision maker strictly prefers lotteries over the next period’s assets. The authors then extend the standard model to have lotteries and establish the existence of an MPE with continuous decision rules. The models with and without lotteries are numerically compared, and it is shown that the model with lotteries behaves more in accord with economic intuition.
(637 KB, 53 pages)
The authors replicate the main results of Rudebusch and Williams (2009), who show that the use of the yield spread in a probit model can predict recessions better than the Survey of Professional Forecasters. Croushore and Marsten investigate the robustness of their results in several ways: extending the sample to include the 2007-09 recession, changing the starting date of the sample, changing the ending date of the sample, using rolling windows of data instead of just an expanding sample, and using alternative measures of the "actual" value of real output. The results show that the Rudebusch-Williams findings are robust in all dimensions.
(1.9 MB, 23 pages)
In high-dimensional factor models, both the factor loadings and the number of factors may change over time. This paper proposes a shrinkage estimator that detects and disentangles these instabilities. The new method simultaneously and consistently estimates the number of pre- and post-break factors, which liberates researchers from sequential testing and achieves uniform control of the family-wise model selection errors over an increasing number of variables. The shrinkage estimator only requires the calculation of principal components and the solution of a convex optimization problem, which makes its computation efficient and accurate. The finite sample performance of the new method is investigated in Monte Carlo simulations. In an empirical application, the authors study the change in factor loadings and emergence of new factors during the Great Recession.
(815 KB, 85 pages)
Using data from the Survey of Income and Program Participation (SIPP) covering 1990-2011, the authors document that a surprisingly large number of workers return to their previous employer after a jobless spell and experience more favorable labor market outcomes than job switchers. Over 40% of all workers separating into unemployment regain employment at their previous employer; over a fifth of them are permanently separated workers who did not have any expectation of recall, unlike those on temporary layoff. Recalls are associated with much shorter unemployment duration and better wage changes. Negative duration dependence of unemployment nearly disappears once recalls are excluded. The authors also find that the probability of finding a new job is more procyclical and volatile than the probability of a recall. Incorporating this fact into an empirical matching function significantly alters its estimated elasticity and the time-series behavior of matching efficiency, especially during the Great Recession. The authors develop a canonical search-and-matching model with a recall option where new matches are mediated by a matching function, while recalls are free and triggered by both aggregate and job-specific shocks. The recall option is lost when the unemployed worker accepts a new job. A quantitative version of the model captures well the authors’ cross-sectional and cyclical facts through selection of recalled matches.
(683 KB, 56 pages)
A monetary authority can be committed to pursuing an inflation, price-level, or nominal output target yet systematically fail to achieve the specified goal. Constrained by the zero lower bound on the policy rate, the monetary authority is unable to implement its objectives when private-sector expectations stray from the target in the first place. Low-inflation expectations become self-fulfilling, resulting in an additional Markov equilibrium in which both nominal and real variables are typically below target. Introducing a stabilization goal for long-term nominal rates anchors private-sector expectations on a unique Markov equilibrium without fully compromising the policy responses to shocks.
(551 KB, 37 pages)
The author constructs the life-cycle model with equilibrium default and preferences featuring temptation and self-control. The model provides quantitatively similar answers to positive questions such as the causes of the observed rise in debt and bankruptcies and macroeconomic implications of the 2005 bankruptcy reform, as the standard model without temptation. However, the temptation model provides contrasting welfare implications, because of overborrowing when the borrowing constraint is relaxed. Specifically, the 2005 bankruptcy reform has an overall negative welfare effect, according to the temptation model, while the effect is positive in the no-temptation model. As for the optimal default punishment, welfare of the agents without temptation is maximized when defaulting results in severe punishment, which provides a strong commitment to repaying and thus a lower default premium. On the other hand, welfare of agents with temptation is maximized when weak punishment leads to a tight borrowing constraint, which provides a commitment against overborrowing.
(612 KB, 40 pages)