Debt-Constraints or Incomplete Markets? A Decomposition of the Wealth and Consumption Inequality in the U.S

The large wealth and consumption inequality in the U.S. is usually attributed to two market frictions: debt constraints and incomplete markets. Recent literature has argued that debt constraints are the critical friction while market incompleteness plays only a secondary role. We evaluate the independent role of debt constraints versus market incompleteness to explain U.S. inequality. We introduce full insurance opportunities in a standard model of inequality along the lines of Aiyagari (1994). Debt constraints are the only friction in such model. We find that for a quite standard calibration of the income process, that of Heaton and Lucas (1996), debt constraints alone can explain none of the observed inequality. The reason is that the U.S. capital stock would be enough to secure all required contingent debts if markets were completed. Using various non-standard calibrations, we find that debt constraints can play an important role to explain inequality but still market incompleteness remains as the main friction. In particular, debt-constrained models cannot account for the large wealth dispersion and wealth concentration in the top tail of the distribution in the U.S.Idiosyncratic Risk, Incomplete Markets, Wealth Distribution

On the Distribution of City Sizes

The city size distribution of many countries is remarkably well approximated by a Pareto distribution. We study what constraints this regularity imposes on standard urban models. We find that under general conditions urban models must have (i) a balanced growth path and (ii) a Pareto distribution for the underlying source of randomness. In particular, one of the following combinations can induce a Pareto distribution of city sizes: (i) preferences for different goods follow reflected random walks, and the elasticity of substitution between goods is 1; or (ii) total factor productivities in the production of different goods follow reflected random walks, and increasing returns are equal across goods.City Size Distribution, Zipf's Law, Rank-Size Rule, Pareto Distribution, Urban Growth, Multisectorial Models, Balanced Growth, Cities

Debt-Constraints or Incomplete Markets? A Decomposition of the Wealth and Consumption Inequality in the U.S.

The large wealth and consumption inequality in the U.S. is usually attributed to two market frictions: debt constraints and incomplete markets. Recent literature has argued that debt constraints are the critical friction while market incompleteness plays only a secondary role. We evaluate the independent role of debt constraints versus market incompleteness to explain U.S. inequality. We introduce full insurance opportunities in a standard model of inequality along the lines of Aiyagari (1994). Debt constraints are the only friction in such model. We find that for a quite standard calibration of the income process, that of Heaton and Lucas (1996), debt constraints alone can explain none of the observed inequality. The reason is that the U.S. capital stock would be enough to secure all required contingent debts if markets were completed. Using various non-standard calibrations, we find that debt constraints can play an important role to explain inequality but still market incompleteness remains as the main friction. In particular, debt- constrained models cannot account for the large wealth dispersion and wealth concentration in the top tail of the distribution in the U.S.Idiosyncratic Risk, Incomplete Markets, Borrowing Constraints, Wealth Distribution

What Explains Schooling Differences Across Countries?

This paper provides a theory that explains the cross-country distribution of average years of schooling, as well as the so called human capital premium puzzle. In our theory, credit frictions as well as differences in access to public education, fertility and mortality turn out to be the key reasons why schooling differs across countries. Differences in growth rates and in wages are second order.human capital, per capita income differences, life expectancy, public education spending, life cycle model

Collateral Constraints in a Monetary Economy

This paper studies the role of collateral constraints in transforming small monetary shocks into large persistent output fluctuations. We do this by introducing money in the heterogeneous-agent real economy of Kiyotaki and Moore (1997). Money enters in a cash-in-advance constraint and is injected via open-market operations. We find that a one-time exogenous monetary shock generates persistent movements in aggregate output, whose amplitude depends on whether or not debt contracts are contingent. If contingent contracts cannot be written, money shocks can trigger large output fluctuations. In this case a one time money expansion triggers a boom, while money contractions generate recessions. In contrast, if contracts are contingent amplification is not only smaller, but it can generate the reverse results. When the possibility of default and renegociation is considered, the model can generate asymmetric business cycles with recessions milder than booms. Finally, one-time shocks monetary shocks generate a highly persistent dampening cycle rather than a smoothly declining deviation.collateral constraints, liquidity constraints, monetary policy , business cycles, open market operations

Life, Death and World Inequality

Life expectancy around the world has increased substantially since 1970. In contrast, consump-tion per capita has fallen in some countries, remained stagnant, or sharply increased in others.What are the welfare gains of the systematic increase in life expectancy around the world? Howdoes a "full measure" of per capita income, one that adjusts for life expectancy, compare tostandard measures of world inequality that only consider income? This paper documents howstandard models used to answer these questions give rise to a number of predictions that areinconsistent with well-documented evidence, particularly on the value of statistical life. It thenproposes a generalized model with non-separable preferences that exhibits a low elasticity ofintertemporal substitution and a low degree of mortality aversion. The non-separable modelreverts the counterfactual predictions of the standard model, and it also provides plausiblemeasures of changes in welfare and inequality around the world.Welfare; life expectancy; value of statistical life; mortality risk aversion; Epstein-Zin-Weil pref- erences; AIDS.

Lucas vs. Lucas: On Inequality and Growth

Lucas (2004) asserts that 'Of the tendencies that are harmful to sound economics, the most seductive, and in my opinion, the most poisonous, is to focus on questions of distribution...The potential for improving the lives of poor people by finding different ways of distributing current production is nothing [Italics in the original] compared to the apparently limitless potential of increasing production.' In this article we evaluate this claim using an extended version of Lucas' (1987) welfare evaluation framework. We construct a social welfare function following Lucas' (2004) own suggestion of weighing everyone's welfare equally, and compute welfare measures in the same way as Lucas (1987). The result is surprising and robust. The potential welfare gains of redistribution are substantial and likely exceed the welfare gains of economic growth. Moreover, our calculations suggest that US inequality is above its optimal level.Welfare costs, business cycles, economic growth, inequality

Development Accounting with Endogenous TFP

development accounting, endogenous TFP, technology diffusion, factors of production

Endogenous TFP and Cross-Country Income Differences

This paper explores the quantitative implications of a class of endogenous growth models for cross-country income differences. These models exhibit international spillovers, no scale effects and conditional convergence, and thus they overcome some difficulties faced by the early generation of endogenous growth models. Cross-country income differences arise in the model as the result of different distortions in the accumulation of rival factors of production, the objects, and in the accumulation of nonrival factor of production, the ideas. We show that object gaps play a much larger role to explain income gaps in models with endogenous TFP than in models with exogenous TFP. We also show, using a carefully calibrated version of the model, that most of the cross-country differences in output per worker are explained by barriers to the accumulation of rival factors (physical and human capital) rather than by barriers to the accumulation of knowledge.endogenous growth, technology diffusion

Children and the wealth of nations

This paper uses calibrated versions of the Barro-Becker model to compute measures of well-being for 142 countries between 1970 and 2005. In the model, individuals are altruistic toward their descendants: they enjoy the well-being of their children. We derive a model based measure of effective quantity of life, the effective life span of an individual. It depends positively on life expectancy, degree of altruism and number of children, and negatively on the rate of time discounting. Our calculations suggest a major quantity-quantity trade-off: for the period 1970-2005 the gains in quantity of life due to longevity improvements were mostly offset or overcome by the losses due to fertility reductions. Depending on the precise calibration, the effective quantity of life either remained roughly constant or fell substantially around the world. For many countries the effective growth rate of well-being, one that takes into account the quantity and quality of life, is significantly below the growth rate of per-capita GDP. Our findings challenge the wide-spread belief that development through fertility reductions is a free lunch