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Business Review

Fourth Quarter 2009

Job losses may involve not only lost earnings during unemployment but also declines in earnings at subsequent jobs. After a time-consuming job search, workers may need to restart their careers from scratch, accepting a lower wage. Workers may also need time to acquire new skills, and total earnings lost during such a period of re-adjustment can be considerable. But experiences may vary widely. In "Earnings Losses of Job Losers During the 2001 Economic Downturn," using a novel data set, Shigeru Fujita and Vilas Rao provide evidence on earnings losses after unemployment. Although the usefulness of the evidence is limited by the short sample period, the data set allows us to ask some important questions, the answers to which may help inform us about important macroeconomic issues such as the cost of business-cycle fluctuations and the benefits of policies intended to avoid such fluctuations. PDF (447 KB, 9 pages)

China's emergence as a manufacturing juggernaut selling so many goods to so many countries has attracted enormous attention from academics, policymakers, and the media. In "China's Emergence as a Manufacturing Juggernaut: Is It Overstated?" Behzad Kianian and Kei-Mu Yi put China's manufacturing performance into a broader context. They emphasize two key themes: the wages of China's manufacturing workers are rising rapidly; and China's production of export goods relies heavily on imported inputs and the final exported goods face large mark-ups in their destination markets. The first theme implies that China will lose global market share in some categories of goods. The second implies that China's trading relationship with many countries is complementary, not competitive, and that the omnipresence of China's goods exaggerates the extent of its manufacturing performance. The authors conclude that China's emergence as a global manufacturing power should not be overstated, and concerns that China will "take over" all manufacturing markets are unfounded. PDF (389 KB, 12 pages)

In the late 1990s, as tech-stock prices were surging, we often heard discussion about an impending "new economy" in which advanced communications technologies would lead to higher future productivity growth and greater economic efficiency. But the boom times largely came to a halt after August 2000, and in March 2001, the economy entered a recession that lasted eight months. Economist A.C. Pigou argued that news about the future or changes in expectations are important drivers of the business cycle. His theory seems to offer a plausible explanation of what happens in boom-bust cycles. But is Pigou's theory consistent with how modern macroeconomic models account for business cycles? In "News About the Future and Economic Fluctuations," Keith Sill investigates some of the empirical evidence for the economic importance of news shocks, discusses the failings of the standard macroeconomic model in accounting for the role of news in business cycles, and touches on what the news view of business cycles means for the conduct of monetary policy. PDF (375 KB, 12 pages)

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Third Quarter 2009

Large movements in the exchange rate are quite common, and they substantially alter one's purchasing power when traveling abroad. Yet these exchange rate movements tend to have a smaller impact on the price of foreign goods that are imported. Following an appreciation of the euro against the dollar, European firms selling products to American firms for import do not raise their prices by nearly as much as the prices they charge consumers in the European market. Similarly, American firms sell their products at higher prices in Europe than at home. This incomplete, or partial, pass-through of exchange rate movements to domestic import prices is important for inflation, American purchasing power, and the pattern of trade between countries. In "The Exchange Rate: What's in It for Prices?," George Alessandria and Jarcy Zee discuss some of the reasons why changes in the exchange rate may not be fully passed through to import prices. PDF (363 KB, 9 pages)

Proponents of the City Beautiful movement advocated for sizable public investments in monumental spaces, street beautification, and classical architecture. Today, economists and policymakers see the provision of consumer leisure amenities as a way to attract people and jobs to cities. But past studies have provided only indirect evidence of the importance of leisure amenities for urban growth and development. In "Beautiful City," Jerry Carlino uses a new data set on the number of leisure tourist visits to metropolitan areas to examine the correlation between leisure consumption opportunities and population and employment growth in metropolitan areas during the 1990s. His study suggests that leisure amenities are important for an area's growth, even after controlling for other characteristics, such as climate or proximity to a coast. PDF (392 KB, 8 pages)

Venture capital financing relies heavily on convertible securities; the most common type is convertible preferred stock. Venture capital contracts also specify control rights that describe who gets to make the firm's decisions. The recent literature has provided some theoretical explanations for the use of these two features. Underlying these explanations is the idea that individuals can take actions that affect the firm's performance but that these actions cannot be specified in a contract. In "Convertible Securities and Venture Capital Finance," Yaron Leitner focuses on venture capital contracts, but the ideas presented can be applied to other contracting problems in which individuals must be given incentives to take appropriate actions. PDF (314 KB, 10 pages)

In "Changes in the Use of Electronic Means of Payment: 1995-2007," Loretta Mester updates the tables originally published in an article she wrote in the March/April 2000 Business Review and subsequently updated in the Second Quarter 2006 issue. PDF
(276 KB, 9 pages)

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Second Quarter 2009

Banks' lending standards at times seem too stringent and at other times too lax. The pattern seems to indicate that banks lend more easily in good times but tighten credit standards in lean times. But such a lending pattern may also be attributable to changes in borrowers' default risk over the business cycle or changes in the demand for loans, which rises and falls with GDP. Is there a systematic reason why banks might be too lax or too stringent in their lending? Economists have proposed a number of models to explain a bank lending cycle, including changes in bank capital, competition, or herding behavior. In "Bank Credit Standards," Mitchell Berlin discusses these models and the empirical evidence for each. PDF (293 KB, 10 pages)

Short-selling, the practice of selling a security the seller does not own, is done in an attempt to profit from an expected decline in the price of the security. During the recent financial turmoil, many press accounts blamed short-selling for declines in stock prices and even for the collapse of some firms. In "Regulating Short-Sales," Ronel Elul discusses the issue of short-selling. He notes that research has shown that short-selling plays a valuable role in setting accurate prices for securities but that it can also be used to facilitate market manipulation. This latter consideration may provide justification for restricting short-sales under certain circumstances. PDF (361 KB, 8 pages)

Bankruptcy filings are on the rise, and millions of households have either lost their homes to foreclosure or are on the verge of losing them. One subject of debate amid this rising number of bankruptcies is how personal bankruptcy laws deal with residential housing. This subject centers on two main issues: First, how do personal bankruptcy laws affect the availability of mortgages and the terms on which borrowers obtain mortgages? Second, how do personal bankruptcy filings affect the outcome of mortgage foreclosures? In "Residential Housing and Personal Bankruptcy," Wenli Li discusses these questions and examines the economic literature to shed some light on the legislative and policy debates that are likely to recur after the current crisis is over. PDF (278 KB, 11 pages)

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First Quarter 2009

Since the 1950s economists have been building a theory of aggregate consumer spending, seeking to understand how individual households choose to spend and how their choices change when interest rates, the unemployment rate, and other economic indicators change. Before that time, economists looked for "economic laws" that would explain the connection between one set of economic aggregates and another, without considering the decisions of individual households. Although the process of connecting macroeconomic aggregates to individuals' behavior is far from complete, predictions of aggregate consumer spending are now rooted in predictions of individual behavior. In "The Peopling of Macroeconomics: Microeconomics of Aggregate Consumer Expenditures," Satyajit Chatterjee takes readers through a brief historical survey from the early work on the consumption function to the theory of aggregate consumer spending in modern macroeconomic models. PDF (220 KB, 10 pages)

Living standards, as measured by average income per person, vary widely across countries. Differences in income result in large disparities in spending on goods and services by people living in different economies. What makes some countries rich and others poor? Furthermore, what determines income per person in a country, and why are these factors unevenly allocated across the world? In "Accounting for Cross-Country Differences in Income Per Capita," Aubhik Khan outlines a framework for growth accounting to account for cross-country differences in income. The current consensus is that differences in per capita income across countries don't arise primarily from differences in the quantities of capital or labor, but rather from differences in the efficiency with which these factors are used. PDF (215 KB, 8 pages)

Over the past several decades, economists have devoted ever-growing effort to developing economic models to help us understand how changes in interest rates brought about by monetary policy actions affect the production and provision of goods and services in the economy. Although New Keynesian models have broad appeal in explaining how changes in the money stock can affect business activity, these models generate results that are inconsistent with what we know about how interest rates move with policy-induced changes in the money stock. In "Rethinking the Implications of Monetary Policy: How a Transactions Role for Money Transforms the Predictions of Our Leading Models," Julia Thomas argues that by extending the New Keynesian model to reintroduce money's liquidity role, we can resolve some of the remaining divorce between economic theory and the patterns observed in the workings of actual economies. PDF (223 KB, 10 pages)

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