Familial Love and Intertemporal Optimality

This paper analyzes the intertemporal efficiency and optimality of steady states within overlapping-generations models in which the utility of individual working couples , depends on the consumption of their parents and children as well as their own consumption. The analysis considers both a basic model in which altruistic behavior can take only the form of gifts of consumption goods from working couples to their retired parents and an extended model in which altruistic behavior also can take the form of bequests from parents to their surviving children. In the basic model, saving only involves storing consumption goods, whereas the extended model includes capital and neoclassical production. The following conclusions from the analysis apply to both models: An altruistic utility function promotes inter-temporal efficiency. However, altruism creates an externality that implies that satisfying the conditions for efficiency does not insure intertemporal optimality. Nevertheless, if the utility of working couples is appropriately sensitive at the margin to their own consumption, their parents consumption, and their children's consumption, the steady state that is consistent with individual behavior is both efficient and optimal.

The Political Economy of War Debts and Inflation

This paper argues that before World War II the desire to maintain a trustworthy reputation for honoring war debts was an important factor in inducing deflationary postwar monetary policies in both the United Kingdom and the United States. The paper then asks why this policy objective did not serve to induce either a deflationary monetary policy or the honoring in full of war debts following World War II. The discussion focuses on differences in economic and political conditions after World War II, especially the extension of the voting franchise, the increased economic and political power of organized labor, and, perhaps most importantly, the large postwar demands on national resources with which the servicing of World-War-II debts had to compete. The analysis also argues that, because these postwar developments were unforeseeable, but verifiable, contingencies, the partial default on World-War-II debts was excusable and, accordingly, did not cause either the United Kingdom or the United States to lose its trustworthy reputation.

Peace and War in Territorial Disputes

Why do sovereign states sometimes fail to settle territorial disputes peacefully? Also, why do even peaceful settlements of territorial disputes rarely call for the resulting border to be unfortified? This paper explores a class of answers to these questions that is based on the following premise: States can settle a territorial dispute peacefully only if (1) their payoffs from a peaceful settlement are larger than their expected payoffs from a default to war, and (2) their promises not to attack are credible. This premise directs the analysis to such factors as the advantage of attacking over both defending and counterattacking, the divisibility of the contested territory, the possibility of recurring war, the depreciation or obsolescence of fortifications, and inequality in the effectiveness of mobilized resources.

The Natural-Rate Hypothesis, the Rational-Expectations Hypothesis, and the Remarkable Survival of Non-Market-Clearing Assumptions

Non-market-clearing models continue to dominate analysis of macroeconomic fluctuations and discussions of macroeconomic policy. This situation is remarkable because non-market-clearing assumptions seem to be inconsistent with the essential presumption of neoclassical economic analysis that market outcomes exhaust opportunities for mutually advantageous exchange. Non-market-clearing models apparently have survived because they have evolved to incorporate both the natural-rate hypothesis and the rational-expectations hypothesis and because the alternative "equilibrium" approach has failed empirically.This paper expands on these ideas and briefly discusses some of the problems that we face in attempting to evaluate empirically the recent vintage of non-market-clearing models. The main difficulties seem to involve accounting for shifts in the natural levels of real aggregates and specifying the timing of the past anticipations that determine the effects of current monetary policy.

Constitution or Conflict?

A self-enforcing constitution creates a political process that provides an alternative to civil conflict for resolving disputes among the constituent groups of the polity. This paper is concerned with discovering the conditions under which it is possible to design such a self-enforcing constitution. The paper is also concerned with discovering generic features of a self-enforcing constitution. The analysis yields the following theoretical propositions: If and only if (1) none of the parties to a dispute regards the dispute to be too important relative to the expected incremental cost of civil conflict and (2) no party has too big of an advantage in civil conflict, then the parties are able to resolve a dispute constitutionally. Also, under a constitution that is self enforcing the outcomes of constitutional contests for political power do not matter too much. The paper illustrates the relevance of the theoretical analysis by applying these propositions to two dramatic historical examples of constitutional failure: the secession of eleven Southern states from the Union in 1861 and the National Socialist revolution in Germany in 1933.

Incomplete Information, Risk Shifting, and Employment Fluctuations

This paper explores one of the ways in which acceptance of the hypothesis that labor market transactions involve arrangements for shifting risk from workers to employers strengthens the case for accepting the hypothesis that incomplete information is the critical factor in producing the positive effect of aggregate demand for output on aggregate employment. The analysis shows that the introduction of risk-shifting arrangements into models of incomplete information eliminates the dependence of the relation between aggregate demand and aggregate employment on the relative strengths of the usual substitution and income effects on labor supply of perceived real wage rates or perceived real interest rates. In addition, the analysis shows that the apparent fact that workers choose an amount of risk shifting that gives them constant nominal wage rates implies that incomplete information would produce a positive effect of aggregate demand on aggregate employment. The key to these results is that risk shifting allows workers to use the value of product associated with high levels of demand to supplement the income associated with low levels of demand. Consequently, they can choose high employment instates of high demand without causing a corresponding reduction in their expected marginal utility of consumption.

A Generic Model of Monetary Policy, Inflation, and Reputation

This paper analyzes a reputational equilibrium for inflation under the generic assumption that monetary policy reflects proximate preferences for low expected inflation and positive unexpected inflation. The paper stresses the qualitative implication that in a reputational equilibrium the policymaker behaves as if it is concerned about controlling inflation, even though it does not have a direct preference for a low actual inflation rate. The analysis also shows how the sovereign's prospects for survival and the private agents' memory process play critical roles in determining whether the reputational equilibrium approximates a hypothetical equilibrium with binding commitments.

". . . and six hundred thousand men were dead."

The dispute that resulted in the secession of eleven Southern states from the Union and the ensuing Civil War proximately concerned the geographical expansion of slavery, but ultimately bore on the existence of the institution of slavery itself. This paper asks why in 1861 after seventy years of artful compromises over slavery civil conflict became unavoidable. The paper seeks an answer that goes beyond a description of the breakdown of compromises based on existing constitutional arrangements and that explains why attempts to negotiate a new constitutional compromise failed. Combining theoretical and historical analysis the paper concludes that in the years leading up to 1861 the outcome of the dispute over slavery had become too important to both Northern and Southern interests, relative to the expected costs of civil conflict, to be settled peacefully.

Lending to an Insecure Sovereign

This paper analyzes a reputational equilibrium for sovereign debt in a model in which the sovereign borrows to finance spending for defense against threats to its survival in power. In this model, the amount of sovereign debt and defense spending, the resulting survival probability, and the sovereign's implied discount rate for future consumption are determined simultaneously. The optimal amount of debt and defense spending equates the marginal cost of defense spending in reducing the level of consumption to the marginal benefit of defense spending in increasing the probability of surviving to enjoy future consumption. In the reputational equilibrium, however, the amount of debt and the associated discount rate must be small enough that the short-run gains from debt repudiation are not larger than the long-run costs from the loss of a trustworthy reputation. The analysis shows that the interest rate on the sovereign's debt and the discount rate for the sovereign that results from optimal borrowing and defense spending can be small enough that optimal borrowing and defense spending satisfy the condition for a reputational equilibrium. In this case, the sovereign's inability to make an irrevocable commitment not to repudiate its debts does not hinder its ability to finance its defense against threats to its survival. This result is more likely to obtain the smaller is the expected rate of return that lenders require, the larger is the amount of servicing that a potential successor sovereign would rationally provide for debts incurred by the current sovereign, and the closer is the relation between the current sovereign's discount rate and its probability of surviving in power.