Temporary shocks and unavoidable transitions to a high-unemployment regime

This paper develops a model with multiple steady states (low tax and unemployment rate versus high tax and unemployment rate) in which equilibrium selection is not conditioned on a sunspot variable. Instead, large enough shocks initiate unavoidable transitions from one regime to the other. The predictions of this paper are consistent with the persistent increase of European unemployment rates observed during the seventies. The explanation given is that even if the unemployment rate would decrease it can only do so gradually because of matching frictions which in turn implies that the tax burden remains high and job creation remains low making the return to a low unemployment rate impossible. The paper shows that in some cases transition to the low-unemployment regime is not possible when tax rates are adjusted each period to balance the budget even though this would be possible under an alternative policy with lower tax rates and (temporary) budget deficits. JEL Classification: D50, C62, E24, E62, J64Fiscal Policy, Matching Model, Multiple Equilibria, Tax burden, Unemployment Benefits

The Comovements between Real Activity and Prices in the G7

In this paper, we study the short-run and long-run comovement between prices and real activity in the G7 countries during the postwar period using VAR forecast errors and frequency domain filters. We find that there are several patterns of the correlation coefficients that are the same in all countries. In particular, the correlation at the 'long-run' horizon is virtually always negative and the correlation at the 'short-run' horizon is typically substantially higher. Although there is evidence of positive 'short-run' correlations for some countries it is not very robust to the choice of the price and output variables. In addition, we propose a more efficient method to calculate the covariances of VAR forecast errors and - in contrast to claims made in the literature - we show that band-pass filters isolate the desired set of frequencies not only when the series are stationary but also when they are first or second-order integrated processes.

Cyclical Behavior of Debt and Equity Using a Panel of Canadian Firms

We document the cyclical behavior of debt, equity, and retained earnings for different firm categories using firm-level Canadian data. There is evidence of both procyclical equity and debt issuance for all firm categories but the timing differs. In particular, there is strong evidence that equity issuance increases in anticipation of an expansion. During this phase, some substitution between debt and equity takes place. After the expansion has reached its peak, equity issuance starts to decrease and during this phase there is strong evidence of procyclical debt issuance and some substitution out of equity seems to take place. Retained earnings is procyclical except for small firms.Business fluctuations and cycles

The Role of Debt and Equity Finance over the Business Cycle

The authors show that debt and equity issuance are procyclical for most listed U.S. firms. The procyclicality of equity issuance decreases monotonically with firm size. At the aggregate level, however, the authors' results are not conclusive: issuance is countercyclical for very large firms that, although few in number, have a large effect on the aggregate because of their enormous size. If firms use the standard one-period contract, then the shadow price of external funds is procyclical and the cyclicality decreases with firm size. This property generates equity to be procyclical and--as in the data--the procyclicality decreases with firm size. Other factors that cause equity to be procyclical in the model are a countercyclical price of risk and a countercyclical cost of equity issuance. The model (i) generates a countercyclical default rate, (ii) magnifies shocks, and (iii) generates a stronger cyclical response for small firms, whereas the model without equity does the exact opposite.Financial stability; Business fluctuations and cycles

Robust Covariance Matrix Estimation with Data-Dependent VAR Prewhitening Order

This paper analyzes the performance of heteroskedasticity-and-autocorrelation-consistent (HAC) covariance matrix estimators in which the residuals are prewhitened using a vector autoregressive (VAR) filter. We highlight the pitfalls of using an arbitrarily fixed lag order for the VAR filter, and we demonstrate the benefits of using a model selection criterion (either AIC or BIC) to determine its lag structure. Furthermore, once data-dependent VAR prewhitening has been utilized, we find negligible or even counter-productive effects of applying standard kernel-based methods to the prewhitened residuals; that is, the performance of the prewhitened kernel estimator is virtually indistinguishable from that of the VARHAC estimator.

Turbulence and unemployment in a job matching model

According to Ljungqvist and Sargent (1998), high European unemployment since the 1980s can be explained by a rise in economic turbulence, leading to greater numbers of unemployed workers with obsolete skills. These workers refuse new jobs due to high unemployment benefits. In this paper we reassess the turbulence-unemployment relationship using a matching model with endogenous job destruction. In our model, higher turbulence reduces the incentives of employed workers to leave their jobs. If turbulence has only a tiny effect on the skills of workers experiencing endogenous separation, then the results of Lungqvist and Sargent (1998, 2004) are reversed, and higher turbulence leads to a reduction in unemployment. Thus, changes in turbulence cannot provide an explanation for European unemployment that reconciles the incentives of both unemployed and employed workers.Skill loss, European unemployment puzzle

Contract-Theoretic Approaches to Wages and Displacement

This paper develops a theoretical framework for analyzing contracting imperfections in long-term employment relationships. We focus chiefly on limited enforceability and limited worker liquidity. Inefficient severance of employment relationships, payment of efficiency wages, the relative responses of wages and employment to business cycle shocks, and the propagation of these shocks are linked to the nature of contracting imperfections.

Solving heterogeneous-agent models with parameterized cross-sectional distributions

A new algorithm is developed to solve models with heterogeneous agents and aggregate uncertainty that avoids some disadvantages of the prevailing algorithm that strongly relies on simulation techniques and is easier to implement than existing algorithms. A key aspect of the algorithm is a new procedure that parameterizes the cross-sectional distribution, which makes it possible to avoid Monte Carlo integration. The paper also develops a new simulation procedure that not only avoids cross-sectional sampling variation but is also more than ten times faster than the standard procedure of simulating an economy with a large but finite number of agents. This procedure can help to improve the efficiency of the most popular algorithm in which simulation procedures play a key role.incomplete markets ; numerical solutions ; projection methods ; simulations

Contract-theoretic approaches to wages and displacement

Wages

Agnostic structural disturbances (ASDs): detecting and reducing misspecification in empirical macroeconomic models

Constructing empirical specifications for structural economic models is difficult, if not impossible. As shown in this paper, even minor misspecifications may lead to large distortions for parameter estimates and implied model properties. We propose a novel concept, namely an agnostic structural disturbance (ASD), that can be used to both detect and correct for misspecification of structural disturbances and is easy to implement. While agnostic in nature, the estimated coefficients and associated impulse response functions of the ASDs allow us to give them an economic interpretation. We adopt the methodology to the Smets–Wouters model and formulate an improved risk-premium and an improved investment-specific productivity disturbance