Economic Fluctuations and Growth

Pablo Kurlat, Stanford University and NBER

Asset Markets with Heterogeneous Information

In this paper, Kurlat studies competitive equilibria of economies where assets are heterogeneous and traders have heterogeneous information about them. Markets are defined by a price and a procedure for clearing trades and any asset can in principle be traded in any market. Buyers can use their information to impose acceptance rules which specify which assets they are willing to trade in each market. The set of markets where trade takes place is derived endogenously. The model can be applied to find conditions under which these economies feature fire-sales, contagion and flights to quality.

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Johannes Stroebel, New York University, and Joseph S. Vavra, University of Chicago and NBER

House Prices, Local Demand, and Retail Prices (NBER Working Paper 20710)

Stroebel and Vavra use detailed micro data to document a causal response of local retail prices to changes in house prices, with elasticities of 15%-20% across housing booms and busts. The researchers provide evidence that their results are driven by changes in markups rather than by changes in local costs. They argue that this markup variation arises when increases in housing wealth reduce households' demand elasticity, and firms raise markups in response. Consistent with this channel, price effects are larger in zip codes with many homeowners, and non-existent in zip codes with mostly renters. Shopping data confirms that house price changes have opposite effects on the price sensitivity of homeowners and renters. Their evidence has implications for monetary, labor and urban economics, and suggests a new source of markup variation in business cycle models.

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Thomas Philippon, New York University and NBER, and Philippe Martin, Sciences Po

Inspecting the Mechanism: Leverage and the Great Recession in the Eurozone (NBER Working Paper 20068)

Martin and Philippon provide a first comprehensive account of the dynamics of Eurozone countries from the creation of the Euro to the Great Recession. They model each country as an open economy within a monetary union and analyze the dynamics of private leverage, fiscal policy and spreads. A parsimonious model can replicate the time-series of nominal GDP, employment, and net exports of Eurozone countries between 2000 and 2012. The researchers then ask how periphery countries would have fared with: (i) more conservative fiscal policies; (ii) macro-prudential tools to control private leverage; (iii) a central bank acting earlier to limit financial segmentation; and (iv) effective fiscal devaluation. To perform these counterfactual experiments, they use U.S. states as a control group that did not suffer from a sudden stop. The authors find that periphery countries could have stabilized their employment if they had followed more conservative fiscal policies during the boom. This is especially true in Greece. For Ireland, however, given the size of the private leverage boom, such a policy would have required buying back almost all of the public debt. Macro-prudential policy would have been especially helpful in Ireland and Spain. However, in presence of a spending bias in fiscal rules, macro-prudential policies would have led to less prudent fiscal policies in the boom. If spreads had not spiked, employment would have been stabilized in all countries because they would not have been constrained into fiscal austerity. Finally, a fall in export prices - through a fiscal devaluation - would have enabled countries to attenuate the employment bust and to reduce their public debt.

Fatih Guvenen, University of Minnesota and NBER; Fatih Karahan, Federal Reserve Bank of New York; Serdar Ozkan, University of Toronto; and Jae Song, Social Security Administration

What Do Data on Millions of US Workers Reveal About Lifecycle Earnings Risk?

Guvenen, Karahan, Ozkan, and Song study the evolution of individual labor earnings over the life cycle using a large panel data set of earnings histories drawn from U.S. administrative records. Using fully nonparametric methods, their analysis reaches two broad conclusions. First, earnings shocks display substantial deviations from lognormality - the standard assumption in the incomplete markets literature. In particular, earnings shocks display strong negative skewness and extremely high kurtosis—as high as 30 compared with 3 for a Gaussian distribution. The high kurtosis implies that in a given year, most individuals experience very small earnings shocks, and a small but non-negligible number experience very large shocks. Second, these statistical properties vary significantly both over the life cycle and with the earnings level of individuals. The researchers also estimate impulse response functions of earnings shocks and find important asymmetries: positive shocks to high-income individuals are quite transitory, whereas negative shocks are very persistent; the opposite is true for low-income individuals. Finally, the authors use these rich sets of moments to estimate econometric processes with increasing generality to capture these salient features of earnings dynamics.

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Rabah Arezki, International Monetary Fund; Valerie A. Ramey, University of California, San Diego and NBER; and Liugang Sheng, Chinese University of Hong Kong

News Shocks in Open Economies: Evidence from Giant Oil Discoveries

This paper explores the effect of news shocks on the current account and other macroeconomic variables using worldwide giant oil discoveries as a directly observable measure of news shocks about future output–the delay between a discovery and production is on average four to six years. Arezki, Ramey, and Sheng first present a two-sector small open economy model in order to predict the responses of macroeconomic aggregates to news of an oil discovery. They then estimate the effects of giant oil discoveries on a large panel of countries. Their empirical estimates are consistent with the predictions of the model. After an oil discovery, the current account and saving rate declines for the first five years and then rises sharply during the ensuing years. Investment rises robustly soon after the news arrives, while GDP does not increase until after five years. Employment rates fall slightly for a sustained period of time.

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Daniel Greenwald, New York University; Martin Lettau, University of California, Berkeley and NBER; and Sydney Ludvigson, New York University and NBER

Origins of Stock Market Fluctuations(NBER Working Paper 19818)

Three mutually uncorrelated economic disturbances measured empirically by explain 85% of the quarterly variation in real stock market wealth since 1952. A model is employed to interpret these disturbances in terms of three latent primitive shocks. In the short run, shocks that affect the willingness to bear risk independently of macroeconomic fundamentals explain most of the variation in the market. In the long run, the market is profoundly affected by shocks that reallocate the rewards of a given level of production between workers and shareholders. Productivity shocks play a small role in historical stock market fluctuations at all horizons.