SOVEREIGN DEBT CRISIS IN A MONETARY UNION: ACCOUNTING FOR EXCESSIVE DEBT,HOUSING BUBBLES,AND THE TRANSMISSION OF CRISES

Despite vast empirical documentation of the recent sovereign debt crisis in southern Europe, there is little research accounting for the following stylized facts in a single coherent framework: continuous borrowing, high growth, housing bubbles, and current account deficits since the beginning of the European Monetary Union ending with a sudden crisis and subsequent contagion of crisis. We fill this gap by proposing a model and fitting it to the data. Using a growth model with collateral constraints of small peripheral economies in the institution of a monetary union, we analyze the multilayer moral hazards underlying excessive borrowing. Since housing bubbles can support a constant loan‐to‐value (LTV) ratio lower than LTV limits, peripheral economies can lock into a steady‐state Ponzi growth equilibrium with high growth and current account deficits, but these economies become vulnerable to crises. We identify the “self‐fulfilling crisis region” (SFCR), in which the economy grows fast with a seemingly safe LTV ratio, but with a vulnerability to crises. Moreover, a crisis in one sector propagates to other sectors by endogenously expanding their SFCRs. We derive some policy implications on LTV regulations and market psychology. Finally, our calibration exercise presents how bubbles develop and burst along with contagion across sectors, accounting for the data. (JEL E44, F34, O16)     

SMALL‐ AND MEDIUM‐SIZED ENTERPRISE FINANCING AND SECURITIZATION: FIRM‐LEVEL EVIDENCE FROM THE EURO AREA

This paper analyzes the impact of securitization on access to finance for small and medium‐sized enterprises (SMEs) in the euro area. Using firm‐level survey data on SME financing conditions, we show that an increase in securitization issuance reduces the probability of SMEs facing credit constraints and decreases the costs of bank financing for nonconstrained firms. Our results reveal that in addition to the volume of securitization, its type and quality matter for credit extension to SMEs. The paper thus provides empirical support for recent initiatives to revive securitization in Europe and for effective monetary policy transmission in the euro area. (JEL D22, E44, E51, E58, G21)     

MINIMUM WAGES,IMPORT STATUS,AND FIRMS' INNOVATION: THEORY AND EVIDENCE FROM CHINA

This study explores the heterogeneous effects of minimum wage on innovation of different types of firms. We develop an open‐economy R&D‐based growth model and obtain the following result: raising the minimum wage reduces innovation of firms that use domestic inputs but increases innovation of firms that import foreign inputs. We test this result using city‐level data on minimum wages and firm‐level patent data in China. In accordance with our theory, we find that raising the minimum wage is associated with more innovation by importing firms and less by non‐importing firms. This result survives a battery of robustness checks. (JEL E24, F43, O31)     

BETWEEN SCYLLA AND CHARYBDIS: INCOME DISTRIBUTION,CONSUMER CREDIT,AND BUSINESS CYCLES

We introduce a macroeconomic model with heterogeneous households and an aggregate banking sector in order to analyze the impact of rising income inequality under different credit scenarios. Growing inequality produces debt‐led consumption boom dynamics when the banking sector is characterized by a lower capital requirement and a higher willingness to lend. Instead, when inequality rises but the banking sector is highly regulated, aggregate demand and output fall. Our results also yield new insights on the appropriate fiscal policy reaction to stabilize the economy: acting on the progressivity of the tax system seems more effective than a proactive countercyclical fiscal policy. (JEL C63, D31, E62, G01)     

R&D AND CREDIT RATIONING IN SMEs

We study the effects of credit rationing on research and development (R&D) investment using survey and accounting data on a large representative sample of manufacturing small‐ and medium‐sized enterprises (SMEs). Our econometric model accounts for the endogeneity of our credit rationing indicator and employs an innovative theory‐based identification strategy. We find that credit rationing has a significantly negative effect on both the probability to set up R&D activities and on the level of R&D spending (conditioned on the R&D decision), but the overall estimated reduction in R&D spending is largely to be associated with the first effect. (JEL G21, D82, O32, C35)     

THE CYCLICALITY OF PRICE‐COST MARGINS IN BANKING: AN EMPIRICAL ANALYSIS OF ITS DETERMINANTS

We study the determinants of the cyclical behavior of banks' price‐cost margins in the United States banking sector, using time series quarterly data for the period 1979–2005. We contribute to the literature by building an empirical model of the countercyclical behavior of these margins first documented by Aliaga‐Díaz and Olivero (2010a) . Doing so we are able to explore potential explanations for this behavior, and to show that margins are consistently countercyclical, even after controlling for the effects of credit risk and monetary policy. As a mechanism for the propagation of aggregate shocks, the countercyclical nature of margins in banking can provide additional support to stabilization policy. (JEL E32, E44, G21)     

LEANING AGAINST WINDY BANK LENDING

Using an estimated dynamic stochastic general equilibrium model with banking, this paper first provides evidence that monetary policy reacted to bank loan growth in the United States during the Great Moderation. It then shows that the optimized simple interest‐rate rule features no response to the growth of bank credit. However, the welfare loss associated to the empirical responsiveness is small. The sources of business cycle fluctuations are crucial in determining whether a “leaning‐against‐the‐wind” policy is optimal or not. In fact, the predominant role of supply shocks in the model gives rise to a trade‐off between inflation and financial stabilization. (JEL E32, E44, E52)     

THE CREDIT‐CHANNEL TRANSMISSION MECHANISM AND THE NONLINEAR GROWTH AND WELFARE EFFECTS OF INFLATION AND TAXES

With the credit‐channel effect driven by the central bank's open market operations, this paper's model easily gives rise to the nonlinear inflation‐growth nexus, which is evidenced by a number of cross‐country empirical studies. The threshold level of the inflation rate is found to be lower when tax rates are higher. The presence of the credit‐channel effect also provides the rationale for setting positive (and smaller than 1) tax rates on consumption, labor income, and capital income. The optimal tax rates rise as the inflation target declines. Under a fiscal policy rule where labor and capital income taxes move proportionally to each other, the optimal capital income tax rate could be higher than the optimal labor income tax rate. Under a sufficiently large central bank balance sheet, the credit‐channel effect will be so weak that inflation and all kinds of taxes are growth and welfare repressing. This provides a rationale for central banks that have implemented quantitative easing policies to shrink their balance sheets. (JEL E58, E62, O42)     

OPTIMAL MONETARY POLICY AND IMPERFECT FINANCIAL MARKETS: A CASE FOR NEGATIVE NOMINAL INTEREST RATES?

This article studies optimal monetary policy in a model with credit frictions and money demand. We show that augmenting a standard New Keynesian model with money demand and financial frictions generates a mechanism that, in equilibrium, gives rise to optimal negative nominal interest rates. In addition, we find that the tighter credit markets are, the lower the optimal nominal policy interest rate and the more likely it is to be negative. Quantitatively, when credit constraints are binding, a standard calibration of the model generates an optimal nominal policy interest rate that is roughly ?4% annually. (JEL E31, E41, E43, E44, E52, E58)     

FINANCIAL FRICTIONS AND THE CHOICE OF EXCHANGE RATE REGIMES

This article provides a quantitative assessment of the role of financial frictions in the choice of exchange rate regimes. I use a two‐country model with sticky prices to compare different exchange rate arrangements. I simulate the model without and with borrowing constraints on investment, under monetary policy and technology shocks. I find that the stabilization properties of floating exchange rate regimes in face of foreign shocks are enhanced relative to fixed exchange rate in presence of credit frictions. In presence of symmetric and correlated shock, fixed exchange rates regimes can perform better than floating. This analysis can have important policy implications for accession countries joining the European Exchange Rate Mechanism II system and with high degrees of credit frictions. (JEL E3, E42, E44, E52, F41)     

U.S. CREDIT UNIONS: SURVIVAL,CONSOLIDATION, AND GROWTH

This study uses hazard function estimations and time‐series and cross‐sectional growth regressions to examine the impact of exit through merger and acquisition (M&A) or failure, and internally generated growth, on the firm‐size distribution within the U.S. credit union sector. Consolidation through M&A was the principal cause of a reduction in the number of credit unions, but impact on concentration was small. Divergence between the average internally generated growth of smaller and larger credit unions was the principal driver of the rise in concentration. (JEL G21)     

MONETARY POLICY AND ANTI‐CYCLICAL BANK CAPITAL REGULATION

The financial crisis of 2008–2009 revived attention given to booms and busts in bank credit, and their effects on real activity. This interest sparked two different strands of research in macro. The first one focuses on monetary policy in the context of financial frictions. The second studies capital regulation in banking. To the best of our knowledge, so far these two topics have mostly been studied in isolation from each other. Thus, we still lack an understanding of how monetary policy and bank capital regulation interact in the presence of financial fragility. This paper aims to contribute to furthering this understanding. Specifically, we ask how the monetary policy rule should look like in the presence of cyclical capital requirements. We extend the dynamic stochastic general equilibrium model with bank capital in Aliaga‐Díaz and Olivero by introducing price rigidities in the spirit of the New‐Keynesian literature. We find that: First, anti‐cyclical requirements have important stabilization properties relative to the case of constant requirements. This is true for all types of fluctuations that we study, which include those caused by productivity, preference, fiscal, monetary, and financial shocks. Second, output and consumption volatilities present in the no regulation economy can be recovered with anti‐cyclical requirements as long as the policy rate responds only slightly to credit spreads. Third, monetary policy rules that respond to credit conditions also perform better in terms of welfare. (JEL E32, E44)     

MONETARY AND FISCAL POLICY DESIGN AT THE ZERO LOWER BOUND: EVIDENCE FROM THE LAB

The global economic crisis of 2007–2008 has pushed many advanced economies into a liquidity trap. We design a laboratory experiment on the effectiveness of policy measures to avoid expectation‐driven liquidity traps. Monetary policy alone is not sufficient to avoid liquidity traps, even if it preventively cuts the interest rate when inflation falls below a threshold. However, monetary policy augmented with a fiscal switching rule succeeds in escaping liquidity trap episodes. We measure the effect of fiscal policy on expectations, and report larger‐than‐unity fiscal multipliers at the zero lower bound. Experimental results in different treatments are well explained by adaptive learning. (JEL E70, C92, D83, D84, E52, E62)     

VOTING FOR INCOME‐IMMISERIZING REDISTRIBUTION IN THE MELTZER–RICHARD MODEL

This paper argues that income received via redistributive transfers, unlike labor income, requires no direct sacrifice of leisure; this makes it attractive to many voters even if it leaves them poorer. This point is made within the classic Meltzer and Richard (1981) model wherein heterogeneous voters evaluate an income‐redistribution program that finances a lump‐sum transfer to all via a distorting income tax. The political‐equilibrium policy under majority rule is the tax most preferred, utility‐wise, by the median voter. Ironically, this voter, and many poorer voters, may support a redistribution policy that leaves them poorer in income terms but with higher utility. (JEL H2, E6, D72)     

MANAGING R&D IN VERTICAL RELATIONSHIPS

We study the optimal strategy for research and development (R&D) in a buyer‐supplier relationship. The buyer chooses whether to (1) insource a cost‐reducing R&D to its own research‐subunit or to (2) outsource it to its manufacturing supplier. The buyer cannot observe the R&D effort in either case, but can better observe the R&D result when the R&D is conducted internally. According to our analysis, the buyer prefers insourcing R&D to mitigate information asymmetry when the R&D cost is either small or large. When the R&D cost is intermediate, however, the buyer prefers outsourcing R&D, and can achieve the full information outcome (first‐best outcome) despite the information asymmetry associated with outsourcing R&D. Moreover, the buyer's preference for outsourcing high‐cost R&D increases when the R&D is more likely to succeed or to generate significant cost reductions, or the R&D result is more difficult to predict. Our analysis provides a theoretical explanation for the increasing trend of outsourcing innovation to manufacturing suppliers. (JEL D82, L22, L23)     

GROWTH OPPORTUNITIES,STRATEGIC SAVINGS,AND THE DOT‐COM BOOM AND BUST

Data from the dot‐com boom‐bust episode suggest that growth opportunities played an important role in explaining firms' financing strategy during this understudied episode. The low leverage of this sector was mainly driven by high growth firms which increased their leverage following the crash despite suffering a much larger fall in their market value. We present a parsimonious dynamic firm financing model where growth opportunities alone can generate the heterogeneous patterns in the financing and performance between high and low growth information technology firms prior to and following the market crash. The calibrated model also sheds light on the role played by monetary policy during that episode. (JEL G32, E22, E5)     

IS PHYSICAL INVESTMENT THE KEY TO CHINA'S GROWTH MIRACLE?

This paper applies Jones' test for the empirical validity of AK‐type models to the Chinese economy over the period 1952–2006 (Jones C. I., Quarterly Journal of Economics, 110, 1995a, 495–525). We aim to establish whether large permanent movements in the physical investment rate cause permanent movements in output growth. The evidence indicates that the one‐sector AK model cannot be rejected. We also find that augmenting the model to allow for transitional dynamics—via imbalances in factor endowments, structural transformation, and R&D‐based technology transfer—does a better job in describing China's growth dynamics than the basic AK model. (JEL C22, O41, O47)     

HEALTH CARE INFLATION AND ITS IMPLICATIONS FOR MONETARY POLICY

Motivated by recent findings on the cyclical movement of both health and health spending, we construct a general equilibrium model that distinguishes health care demand from the demand for other goods. Using this model, we are able to generate inflation dynamics and cyclicality of health that match the US data. When the model is subjected to an expansionary monetary policy shock, it yields different output and inflation responses compared with a two‐sector model with homogeneous demand. We show that the trade‐off between leisure and health spending plays an important role in model dynamics. The model further predicts different degrees of inflation stabilization across sectors when a shift in the monetary policy occurs. (JEL E52, E31, E32, I10)     

MONETARY POLICY AND ENDOWMENT RISK IN A LIMITED PARTICIPATION MODEL

A limited participation model is constructed to study the risk‐sharing role of monetary policy. A fraction of households exchange money for interest‐bearing government nominal bonds in the asset market and the government injects money through open market operations. In equilibrium, money is nonneutral and monetary policy redistributes consumption across households. Without idiosyncratic endowment risk, monetary policy becomes a perfect risk‐sharing tool, but with idiosyncratic endowment risk, it is not. The Friedman rule is not optimal in general. (JEL E4, E5)     

POLITICAL BUSINESS CYCLES IN THE NEW KEYNESIAN MODEL

This paper tests various political business cycle theories in a New Keynesian model with a monetary and fiscal policy mix. All the policy coefficients, the target levels of inflation and the budget deficit, the firms' frequency of price setting, and the standard deviations of the structural shocks are allowed to depend on “political” regimes: a preelection versus postelection regime, a regime that depends on whether the president (or the Fed chairman) is a Democrat or a Republican, and a regime under which the president and the Fed chairman share party affiliation in preelection quarters or not. The results provide evidence that several coefficients are influenced by political variables. The best‐fitting specification, in fact, is one that allows coefficients to vary according to a regime that depends on whether the economy is in the few quarters before a presidential election or not. Monetary policy becomes considerably more inertial before elections and fiscal policy deviations from a simple rule are more common. There is some evidence that policies become more expansionary before elections, but this evidence disappears for monetary policy in the post‐1985 sample. (JEL C11, D72, E32, E52, E58, E63)