Monetary Economics Program Meeting

November 5, 2010 -
NBER Research Associates Christopher House and Matthew D. Shapiro, University of Michigan, Organizers

Alessandro Barattieri and Peter Gottschalk, Boston College, and Susanto Basu, Boston College and NBER

Some Evidence on the Importance of Sticky Wages (NBER Working Paper No. 16130)

Nominal wage stickiness is an important component of recent medium-scale structural macroeconomic models, but there has been little microeconomic evidence to date supporting the assumption of sluggish nominal wage adjustment. Barattieri, Basu, and Gottschalk present evidence on the frequency of nominal wage adjustment using data from the Survey of Income and Program Participation (SIPP) for the period 1996-99. The SIPP provides high-frequency information on wages, employment, and demographic characteristics for a large and representative sample of the U.S. population. The main results of the analysis are as follow:. 1) After correcting for measurement error, wages appear to be very sticky. In the average quarter, the probability that an individual will experience a nominal wage change is between 5 and 18 percent, depending on the samples and assumptions used. 2) The frequency of wage adjustment does not display significant seasonal patterns. 3) There is little heterogeneity in the frequency of wage adjustment across industries and occupations. 4) The hazard of a nominal wage change first increases and then decreases, with a peak at 12 months. 5) The probability of a wage change is positively correlated with the unemployment rate and with the consumer price inflation rate.

Virgiliu Midrigan, New York University and NBER, and Oleksiy Kryvtsov, Bank of Canada

Inventories, Markups and Real Rigidities in Menu Cost Models (NBER Working Paper No. 14651)

A growing consensus in New Keynesian macroeconomics is that nominal cost rigidities, rather than counter-cyclical markups, account for the bulk of the real effects of monetary policy shocks. Midrigan and Kryvtsov revisit these conclusions using theory and direct evidence on quantities. They study an economy with nominal rigidities in which goods can be stored. Theory predicts that if costs of production are sticky and markups do not vary much in response to, say, expansionary monetary policy, then firms react by excessively accumulating inventories in anticipation of future cost increases. In contrast, in the data, inventories are fairly constant over the cycle and in response to changes in monetary policy. The researchers show that markups must decline sufficiently in times of a monetary expansion in order to reduce firms' incentive to hold inventories and thus bring the model's inventory predictions in line with the data. Versions of the model consistent with the dynamics of inventories in the data imply that counter-cyclical markups account for a sizable (50-80 percent) fraction of the response of real variables to monetary shocks.

Atif R. Mian, University of California, Berkeley and NBER, and Amir Sufi, University of Chicago and NBER

The Effects of Fiscal Stimulus: Evidence from the 2009 "Cash for Clunkers" Program (NBER Working Paper No. 16351)

A key rationale for fiscal stimulus is to boost consumption when aggregate demand is perceived to be inefficiently low. Mian and Sufi examine the ability of the government to increase consumption by evaluating the impact of the 2009 "Cash for Clunkers" program on short- and medium -run auto purchases. The empirical strategy exploits variation across U.S. cities in ex-ante exposure to the program as measured by the number of a clunkers in the city as of the summer of 2008. The researcheres find that the program induced the purchase of an additional 360,000 cars in July and August of 2009. However, almost all of the additional purchases under the program were pulled forward from the very near future; the effect of the program on auto purchases is almost completely reversed by as early as March 2010, only seven months after the program ended. The effect of the program on auto purchases was significantly more short-lived than previously suggested. They also find no evidence of an effect on employment, house prices, or household default rates in cities with higher exposure to the program.

Jaime Guajardo, Daniel Leigh, and Andrea Pescatori, International Monetary Fund
Will It Hurt? Macroeconomics Effects of Fiscal Consolidation

A number of influential studies present evidence that fiscal consolidation can have expansionary effects on economic activity in the short run. Guajardo, Leigh, and Pescatori question this view. They show that the statistical criteria used to identifying fiscal consolidation in the literature bias the analysis toward downplaying contractionary effects and overstating expansionary ones. Focusing instead on historical accounts and records of tax hikes and spending cuts motivated by deficit reduction in 17 OECD countries during 1980-2009, the researchers find little evidence of expansionary effects. A fiscal consolidation of 1 percent of GDP reduces GDP by 0.43 percent and raises the unemployment rate by 0.28 percentage point within two years. The results are strongly significant and robust. Reductions in interest rates, a fall in the value of the currency, and an expansion in net exports usually soften the negative effects of fiscal consolidation. The contractionary effects are larger when the exchange rate is pegged and when the perceived sovereign default risk is low. When consolidation relies on tax hikes, monetary policy typically tightens, and this largely explains why tax-based consolidations are more contractionary than spending-based ones.

Nicola Gennaioli, CREI; Andrei Shleifer, Harvard University and NBER; and Robert W. Vishny, University of Chicago and NBER

Neglected Risks, Financial Innovation, and Financial Fragility (NBER Working Paper No. 16068)

Gennaioli, Shleifer, and Vishny present a standard model of financial innovation, in which intermediaries engineer securities with cash flows that investors seek, but modify two assumptions. First, investors (and possibly intermediaries) neglect certain unlikely risks. Second, investors demand securities with safe cash flows. Financial intermediaries cater to these preferences and beliefs by engineering securities perceived to be safe but exposed to neglected risks. Because the risks are neglected, security issuance is excessive. As investors eventually recognize these risks, they fly back to safety of traditional securities and markets become fragile, even without leverage, precisely because the volume of new claims is excessive.

Robert E. Hall, Stanford University and NBER
Macroeconomics of the Prolonged Slump

In a market-clearing economy, declines in demand from one sector do not cause large declines in aggregate output because other sectors expand. The key price mediating the response is the interest rate. A decline in the rate stimulates all categories of spending. But in a low-inflation economy, the room for a decline in the rate is small, because of the notorious lower bound of zero. Hall builds a general-equilibrium model that focuses on the behavior of an economy when the nominal interest rate is pinned at zero. Equally important is that the real rate is pinned at a rate above the market-clearing rate because inflation responds only weakly to the presence of slack. Hall concentrates on two closely related sources of declines in demand: the buildup of excess stocks of housing and consumer durables; and the corresponding expansion of debt that financed the buildup. The model introduces a new analysis of the rationing of customers in the output market when the interest rate is pinned at zero and connects the rationing to the labor market. It provides a coherent rationale for the common-sense notion that the reason that employers don't hire all available workers during a slump is that they don't have enough customers.