OCTOBER 28 2011

Linda Goldberg, NY Fed. The International Role of the Dollar: Does It Matter if This Changes? Whether the rise of other currencies presents more negative or positive consequences for the United States is closely linked to conditions within the United States. If the United States maintains the strong economic fundamentals and the types of institutional strengths that have supported the dollars international roles, the consequences of a reduced dollar role may not be a large concern. Indeed, the emergence of plausible alternatives to the dollar could signal strength in other economies and serve as a positive source of discipline on U.S. decisions. A decline of dollars international primacy in such an environment is not to be regarded as a significant threat to U.S. economic well-being when this decline arises in the context of strong U.S. growth and institutional fundamentals. However, if poor U.S. policy decisions undermine U.S. economic fundamentals and institutional strengths, the reduced international role of the dollar could be one component of a broader decline. The changes described below could have more adverse effects if the reduced dollar role is associated with less auspicious U.S. policy and institutions.

Martin S. Feldstein, NBER:  The Tax Reform Act of 1986: Comment on the 25^th Anniversary. The Tax Reform Act of 1986 was a powerful pro-growth force for the American economy.  Equally important, as we look back on it after 25 years, we also see that it taught us two important lessons.  First, it showed that politicians with very different political philosophies on the right and on the left could agree on a major program of tax rate reduction and tax reform. Second, it showed that the amount of taxable income is very sensitive to marginal tax rates. More specifically, the evidence based on the 1986 tax rate reductions shows that the response of taxpayers to reductions in marginal tax rates offsets a substantial portion of the revenue that would otherwise be lost.  This implies that combining a broadening of the tax base that raises revenue equal to 10 percent of existing personal income tax revenue with a 10 percent across the board cut in all marginal tax rates would raise revenue equal to about four percent of existing tax revenue.  With personal income tax revenue in 2011 of about $1 trillion, that four percent increase in net revenue would be $40 billion at the current level of taxable income or more than $500 billion over the next ten years.

Joshua Aizenman, Yothin Jinjarak, Donghyun Park, VoxEU: Capital flows and economic growth in the era of financial integration and crisis, 1990–2010. The relationship between financial openness and economic growth remains the subject of heated controversy. This column examines the links between economic growth and FDI, portfolio investment, equity investment, and short-term debt in the last 20 years. It finds a large and robust relationship between growth and FDI but not with other types of financial flows.

Ricardo Hausmann, Harvard Univeristy, César Hidalgo, the Massachusetts Institute of Technology et al: Atlas of Economic Complexity. The fundamental proposition of the book is that the wealth of nations is driven by productive knowledge. Individuals are limited in the things they can effectively know and use in production so the only way a society can hold more knowledge is by distributing different chunks of knowledge to different people. To use the knowledge, these chunks need to be re-aggregated by connecting people through organizations and markets. The complex web of products and markets is the other side of the coin of the accumulating productive knowledge.

  

Vikesh Amin, Petter Lundborg, Dan-Olof Rooth, IZA: Following in Your Father's Footsteps: A Note on the Intergenerational Transmission of Income between Twin Fathers and their Sons. We provide the first twin-based estimates of the intergenerational transmission of income between fathers and sons. Using Swedish register data on the income of monozygotic twin fathers and their sons, we are able to control for unobserved endowments at the twin-pair level when estimating the intergenerational relationship. We find a cross-sectional intergenerational income elasticity of 0.276, while our twin-based intergenerational income elasticity is 0.12. This is close to the estimate of 0.10 found by Björklund et al. (2006) using an adoption design. This suggests that at most half of the income transmission can be given a causal interpretation.

Jagdish Bhagwati, Project Syndicate: Does Redistributing Income Reduce Poverty? Many on the left are suspicious of the idea that economic growth helps to reduce poverty in developing countries. They argue that growth-oriented policies seek to increase gross national product, not to ameliorate poverty, and that redistribution is the key to poverty reduction. These assertions, however, are not borne out by the evidence.

Kuhn, Peter J.,  Villeval, Marie Claire, UCLA: Do Women Prefer a Co-operative Work Environment? Are women disproportionately attracted to work environments where cooperation rather than competition is rewarded? This paper reports the results of a real-effort experiment in which participants choose between an individual compensation scheme and a team-based payment scheme. We find that women are more likely than men to select team-based compensation in our baseline treatment, but women and men join teams with equal frequency when we add an efficiency advantage to team production. Using a simple structural discrete choice framework to reconcile these facts, we show that three elements can explain the observed patterns in the team-entry gender gap: (1) a gender gap in confidence in others (i.e. women are less pessimistic about their prospective teammates' relative ability), (2) a greater responsiveness among men to instrumental reasons for joining teams, and (3) a greater "pure" preference for working in a team environment among women.

Libertad Gonzalez, IZA: The Effects of a Universal Child Benefit. I study the impact of a universal child benefit on fertility and family well-being. I exploit the unanticipated introduction of a new, sizeable, unconditional child benefit in Spain in 2007, granted to all mothers giving birth on or after July 1, 2007. The regression discontinuity-type design allows for a credible identification of the causal effects. I find that the benefit did lead to a significant increase in fertility, as intended, part of it coming from an immediate reduction in abortions. On the unintended side, I find that families who received the benefit did not increase their overall expenditure or their consumption of directly child-related goods and services. Instead, eligible mothers stayed out of the labor force significantly longer after giving birth, which in turn led to their children spending less time in formal child care and more time with their mother during their first year of life.

Kauffman Foundation survey top economics bloggers: Vote on the best blogger haiku on the economy. Are they any good? 

OCTOBER 21 2011

Kash, The Street Light Blog: Where Exactly Are Those Lazy Southern Europeans, Anyway? Putting it all together, it's hard to see much empirical support in this data for the notion that southern Europeans are a bunch of lazy free-loaders. That's not to say that there aren't obvious cases of gross inefficiencies in southern European countries -- of course there are. Maybe there really isn't a systematic difference in how hard-working, responsible, or self-reliant southern and northern Europeans are. After all, it is also possible to find plenty of examples of opaque government bureaucracies, entrenched unions, and extremely generous state assistance in the northern eurozone countries. So the next time someone asserts that southern European irresponsibility is what lead to this crisis, I would simply ask to see the data they have to support that claim

Menzie D. Chinn, Barry Eichengreen, Hiro Ito, University of Wisconsin-Madison: A Forensic Analysis of Global Imbalances. Changes in the budget balance appear to be an important factor affecting current account balances for advanced current account deficit countries such as the United States and the United Kingdom. The effect of the “saving glut variables” on current account balances has been relatively stable for emerging market countries, suggesting the prominence of those factors is not a particularly recent phenomenon. We also find the 2006-08 period to be the structural break for emerging market countries, and to a lesser extent, for industrialized countries. When we investigate what can explain the purportedly anomalous behavior in the current account balances during the 2006-08 period, we find that stock market performance and real housing appreciation explain the unusual current account balances in the pre-crisis period; fiscal procyclicality and monetary policy stance do not seem to matter as much. However, we also identify components of current account balances that can be only explained by country-specific factors. Extrapolating to the future, we find that for the U.S., fiscal consolidation alone cannot induce significant current account deficit reduction. For China, financial development may help shrink its current account surplus, but only when it is coupled with financial liberalization. These findings suggest that unless countries implement substantial policy changes, the global imbalances are unlikely to disappear.

Ryan Avent, Economist Blog, Why not blame Germany? The crisis is not all Germany's fault, but Germany deserves its fair share of the blame. That's mostly beside the point right now. Germany has a unique ability to bring the crisis to an end, and it is not accepting the responsibility that falls to it given its role, economically and politically, in the euro zone.

Dagmar Hartwig Lojsch, Marta Rodríguez-Vives, Michal Slavík, ECB: The Size and Composition of Government Debt in the Euro Area. This paper explains the various concepts of government debt in the euro area with particular emphasis on its size and composition. In terms of size, the paper focuses on different definitions that are in use, in particular the concept of gross general government debt used in the surveillance of the euro area countries, the total liabilities from the government balance sheet approach, and the net debt concept which subtracts government financial assets from the liability side. In addition, it discusses “hidden debt” in the form of implicit and contingent liabilities. In terms of composition, the paper provides information about euro area government debt broken down by maturity, holder or the currency of issue. All these indicators illustrate a sharp increase in government debt in most euro area countries as a result of the crisis. This in turn has several policy implications: (i) the growing government debt ratios need to be stabilised and put on a downward path which improves market confidence; (ii) fiscal surveillance needs to put more emphasis on government debt indicators than in the past; (iii) government financial assets could play a role when analysing solvency issues; (iv) implicit and other off-balance-sheet government liabilities need to be carefully monitored and reported; (v) the gross debt concept should remain the key basis for fiscal surveillance in the EU and for the Excessive Deficit Procedure in particular; (vi) beyond the size of government debt its composition is also a key factor behind public finance vulnerabilities.

Juan J. Cruces, Christoph Trebesch, CESifo: Sovereign Defaults: The Price of Haircuts. A main puzzle in the sovereign debt literature is that defaults have only minor effects on subsequent borrowing costs and access to credit. This paper comes to a different conclusion. We construct the first complete database of investor losses ('haircuts') in all restructurings with foreign banks and bondholders from 1970 until 2010, covering 180 cases in 68 countries. We then show that restructurings involving higher haircuts are associated with significantly higher subsequent bond yield spreads and longer periods of capital market exclusion. The results cast doubt on the widespread belief that credit markets 'forgive and forget.'

Eric A. Hanushek, Ludger Woessmann, Lei Zhang, NBER: General Education, Vocational Education, and Labor-Market Outcomes over the Life-Cycle. Policy debates about the balance of vocational and general education programs focus on the school-to-work transition. But with rapid technological change, gains in youth employment from vocational education may be offset by less adaptability and thus diminished employment later in life. To test our main hypothesis that any relative labor-market advantage of vocational education decreases with age, we employ a difference-in-differences approach that compares employment rates across different ages for people with general and vocational education. Using micro data for 18 countries from the International Adult Literacy Survey, we find strong support for the existence of such a trade-off, which is most pronounced in countries emphasizing apprenticeship programs. Results are robust to accounting for ability patterns and to propensity-score matching.

Susan Dynarski, Joshua Hyman, Diane Whitmore Schanzenbach, NBER: Experimental Evidence on the Effect of Childhood Investments on Postsecondary Attainment and Degree Completion. We use the random assignment in the Project STAR experiment to estimate the effect of smaller classes in primary school on college entry, college choice, and degree completion. We improve on existing work in this area with unusually detailed data on college enrollment spells and the previously unexplored outcome of college degree completion. We find that assignment to a small class increases the probability of attending college by 2.7 percentage points, with effects more than twice as large among blacks. Among those whose predicted probability of attending college is in the bottom quintile, smaller classes increase the college attendance rate by 11 percentage points. Smaller classes increase the likelihood of earning a college degree by 1.6 percentage points and shift students towards high-earning fields such as STEM (science, technology, engineering and medicine), business and economics. We confirm the standard finding that test score effects fade out by middle school, but show that test score effects at the time of the experiment are an excellent predictor of long-term improvements in postsecondary outcomes. We compare the costs and impacts of this intervention with other tools for increasing postsecondary attainment, such as Head Start and financial aid, and conclude that early investments are no more cost effective than later investments in boosting adult educational attainment.

Colm P. Harmon, IZA: Economic Returns to Education: What We Know, What We Don't Know, and Where We Are Going – Some Brief Pointers. The estimation of the economic return to education has perhaps been one of the predominant areas of analysis in applied economics for over 50 years. In this short note we consider some of the recent directions taken by the literature, and also some of the blockages faced by both science and policymakers in pushing forward some key issues. This serves by way of introduction to a set of papers for a special issue of the Economics of Education Review.

David Hummels, Rasmus Jørgensen, Jakob R. Munch, Chong Xiang, NBER: The Wage Effects of Offshoring: Evidence from Danish Matched Worker-Firm Data. We estimate how offshoring and exporting affect wages by skill type. Our data match the population of Danish workers to the universe of private-sector Danish firms, whose trade flows are broken down by product and origin and destination countries. Our data reveal new stylized facts about offshoring activities at the firm level, and allow us to both condition our identification on within-job-spell changes and construct instruments for offshoring and exporting that are time varying and uncorrelated with the wage setting of the firm. We find that within job spells, (1) offshoring tends to increase the high-skilled wage and decrease the low-skilled wage; (2) exporting tends to increase the wages of all skill types; (3) the net wage effect of trade varies substantially across workers of the same skill type; and (4) conditional on skill, the wage effect of offshoring exhibits additional variation depending on task characteristics. We then track the outcomes for workers after a job spell and find that those displaced from offshoring firms suffer greater earnings losses than other displaced workers, and that low-skilled workers suffer greater and more persistent earnings losses than high-skilled workers

Jialan Wang, Studies in Everyday Life: Benford's Law and the Decreasing Reliability of Accounting Data for US Firms. An earth-shattering fact is that there are more numbers in the universe that begin with the digit 1 than 2, or 3, or 4, or 5, or 6, or 7, or 8, or 9. This relationship holds for the lengths of rivers, the populations of cities, molecular weights of chemicals, and any number of other categories.  What a blow to any of us who purport to have mastered the basic facts of the world around us!  This numerical regularity is known as Benford's Law. Benford's law has been used in legal cases to detect corporate fraud, because deviations from the law can indicate that a company's books have been manipulated.  Naturally, I was keen to see whether it applies to the large public firms that we commonly study in finance. According to Benford's law, accounting statements are getting less and less representative of what's really going on inside of companies.The major reform that was passed after Enron and other major accounting standards barely made a dent.

M.A. Sumour, M.A. Radwan, M.M. Shabat, Ali H. El-Astal, Al-Aqsa University: Statistical physics applied to stone-age civilization. About 45,000 years ago, symbolic and technological complexity of human arte facts increased drastically. Computer simulations of Powell, Shennan and Thomas (2009) explained it through an increase of the population density, facilitating the spread of information about useful innovations. We simplify this demographic model and make it more similar to standard physics models. For this purpose, we assume that bands (extended families) of stone-age humans were distributed randomly on a square lattice such that each lattice site is randomly occupied with probability p and empty with probability 1 − p. Information spreads randomly from an occupied site to one of its occupied neighbours. If we wait long enough, information spreads from one side of the lattice to the opposite site if and only if p is larger than the percolation threshold; this process was called ”ant in the labyrinth” by de Gennes 1976. We modify it by giving the diffusing information a finite lifetime, which shifts the threshold upwards.

OCTOBER 14 2011

Juan José Cruces, Christoph Trebesch, VoxEU: What are the financial costs of a sovereign default? This column presents new data on investor losses – haircuts – in all sovereign debt restructurings between 1970 and 2010. Countries imposing high haircuts take significantly longer to reaccess capital markets after the event and subsequently pay higher interest rates.

Ezra Kleins Wonkblog: Could this time have been different? Christina Romer had traveled to Chicago to perform an unpleasant task: she needed to scare her new boss. David Axelrod, Barack Obama’s top political adviser, had been very clear about that. He thought the president-elect needed to know exactly what he would be walking into when he took the oath of office in January. But it fell to Romer to deliver the bad news. So Romer, a preternaturally cheerful economist whose expertise on the Great Depression made her an obvious choice to head the Council of Economic Advisers, gathered her tables and her charts and, on a snowy day in mid-December, sat down to explain to the next President of the United States of America exactly what sort of mess he was inheriting. Axelrod had warned her against pulling her punches, and so she didn’t. It was not a pleasant presentation to sit through. Afterward, Austan Goolsbee, Obama’s friend from Chicago and Romer’s successor, remarked that “that must be the worst briefing any president-elect has ever had.”

Nezih Guner, Remzi Kaygusuz, Gustavo Ventura, IZA: Taxing Women: A Macroeconomic Analysis. Based on well-known evidence on labor supply elasticities, several authors have concluded that women should be taxed at lower rates than men. We evaluate the quantitative implications of taxing women at a lower rate than men. Relative to the current system of taxation, setting a proportional tax rate on married females equal to 4% (8%) increases output and married female labor force participation by about 3.9% (3.4%) and 6.9% (4.0%), respectively. Gender-based taxes improve welfare and are preferred by a majority of households. Nevertheless, welfare gains are higher when the U.S. tax system is replaced by a proportional, gender-neutral income tax.

René Böheim, Thomas Leoni, Johannes Kepler University Linz: Firms’ moral hazard in sickness absences. We investigate firms’ moral hazard problems in sickness absences by analyzing a legislative change that took place in Austria in 2000. In September 2000, an insurance fund that refunded firms for the costs of their blue-collar workers’ sickness absences was abolished (firms did not receive a similar refund for their white-collar workers’ sickness absences). Before that time, small firms were fully refunded for the wage costs of blue- collar workers’ sickness absences. Large firms, by contrast, were refunded only 70% of the wages paid to sick blue-collar workers. Using a difference-in-differences-in-differences approach, we estimate the causal impact of refunding firms for their workers’ sickness absences. Our results indicate that the incidences of blue-collar workers’ sicknesses dropped by approximately 8% and sickness absences were almost 11% shorter following the removal of the refund.

Gerald Eisenkopf, Zohal Hessami, Urs Fischbacher, And Heinrich, W. Ursprung, University of Konstanz:  Academic Performance and Single-Sex Schooling: Evidence from a Natural Experiment in Switzerland. We study the effects of random assignment to coeducational and single-sex classes on the academic performance of female high school students. Our estimation results show that single-sex

schooling improves the performance of female students in mathematics. This positive effect increases if the single-sex class is taught by a male teacher. An accompanying survey reveals that single-sex schooling also strengthens female students’ selfconfidence and renders the self-assessment of their mathematics skills more level-headed. Single-sex schooling thus has profound implications for human capital formation and the mind-set of female students.

Roland G. Fryer, Jr:  Creating "No Excuses" (Traditional) Public Schools: Preliminary Evidence from an Experiment in Houston. The racial achievement gap in education is an important social problem to which decades of research have yielded no scalable solutions.  Recent evidence from "No Excuses" charter schools – which demonstrates that some combination of school inputs can educate the poorest minority children - offers a guiding light.  In the 2010-2011 school year, we implemented five strategies gleaned from best practices in "No Excuses" charter schools - increased instructional time, a more rigorous approach to building human capital, more student-level differentiation, frequent use of data to inform instruction, and a culture of high expectations - in nine of the lowest performing middle and high schools in Houston, Texas.  We show that the average impact of these changes on student achievement is 0.276 standard deviations in math and 0.059 standard deviations in reading, which is strikingly similar to reported impacts of attending the Harlem Children's Zone and Knowledge is Power Program schools - two strict "No Excuses" adherents.  The paper concludes with a speculative discussion of the scalability of the experiment.

OECD: How’s Life? It is wide a range of elements that comprise a good life. While income is a prime contributor, there are other factors that matter even more. Well-being is intrinsically linked to good health, a clean environment, a strong sense of community and civic engagement, a home in good shape and a safe neighbourhood. High income alone does not ensure a good life. People in the richest countries are not necessarily the happiest, particularly when they suffer from low levels of social contact, trust in others or low personal safety. 

Robert Frank, The American Interest: Charles Darwin, Economist. I was born in 1945. When someone my age forecasts something that will happen fifty or a hundred years from now, he needn’t worry about being teased by friends if it doesn’t pan out. Without trepidation, then, I offer the following prediction: One century hence, if a roster of professional economists is asked to identify the intellectual father of their discipline, a majority will name Charles Darwin.

OCTOBER 7 2011

Kenneth Rogoff, VoxEU: The Wrong Tax for Europe. Europe is already in pickle, so why not add more vinegar? That seems to be the thinking behind the European Commission’s proposed financial transactions tax (FTT) – the Commission’s latest response to Europe’s festering growth and financing problems.

Ed Yardeni, WSJ Blog: Europe’s Ship of Fools. The ship of fools is an allegory that has long been a fixture in Western literature and art. It depicts a vessel packed with clueless passengers who are so obsessed with themselves that they don’t realize that their ship has no pilot and is either on a cruise to nowhere or sinking. That certainly describes what is happening in Europe. Here’s the latest:

Fabius Maximus, RGE Economonitor:  Is Europe Primed for Chaos, as It Was in July 1914? Europe nears the brink, with the potential for a severe crisis if its leaders cannot agree on a solution before the G-20 meeting in Cannes on November 3-5.  The clock ticks.  Here we examine the situation, and seek relevant historical analogies.

Hans-Werner Sinn, VoxEU: How to rescue the euro: Ten commandments. No simple solution to the euro crisis exists. This column argues the heart of the Eurozone’s woe is a balance-of-payments crisis whose solution requires real adjustment of prices and wages in the periphery countries. It proposes Ten Commandments that balance the need for discipline with the need to minimise panic when a crisis does strike.

Peter Boone, Simon Johnson, NYT Blog: The 4 Trillion-Euro Fantasy. Putting in place a huge financial package is not enough. Policies have to adjust across the troubled euro-zone countries so that nations stop accumulating debt, and the periphery moves rapidly from being among the least competitive nations in the euro area to the most competitive — and this includes lower real wages, even if debts are restructured appropriately. The European leadership is a long way from even recognizing this reality, let alone talking about it in public.

Dieter Bräuninger, Christine Majowski, DBresearch: Labour mobility in the euro area. Migration flows have responded to high unemployment in the euro periphery. In Spain, for instance, the immigration surplus has shrunk from upwards of 700,000 in 2007 to a scant 63,000 in 2010. Without the reversal in the migration trend unemployment in Spain would be up to 1.7 percentage points higher and in Ireland as much as 3.5 points. Europeans are apparently becoming more willing to relocate. The potential for internal labour migration is particularly high among young, wellqualified workers, who are especially hard hit by high unemployment in the peripheral countries despite their good qualifications.

David W. Johnston, Wang-Sheng Lee, IZA: Climbing the Job Ladder: New Evidence of Gender Inequity. An explanation for the gender wage gap is that women are less able or less willing to 'climb the job ladder.' However, the empirical evidence on gender differences in job mobility has been mixed. Focusing on a subsample of younger, university-educated workers from an Australian longitudinal survey, we find strong evidence that the dynamics of promotions and employer changes worsen women's labour market position.

Roland G. Fryer, Jr, Devah Pager, Joerg L. Spenkuch, NBER:  Racial Disparities in Job Finding and Offered Wages. The extent to which discrimination can explain racial wage gaps is one of the most divisive subjects in the social sciences.  Using a newly available dataset, this paper develops a simple empirical test which, under plausible conditions, provides a lower bound on the extent of discrimination in the labor market.  Taken at face value, our estimates imply that differential treatment accounts for at least one third of the black-white wage gap. We argue that the patterns in our data are consistent with a search-matching model in which employers statistically discriminate on the basis of race when hiring unemployed workers, but learn about their marginal product over time.  However, we cannot rule out other forms of discrimination.

Daniela Glocker, Viktor Steiner, CEPR: Returns to Education Across Europe. Incentives to invest in higher education are affected by both the direct wage effect of human capital investments and the indirect wage effect resulting from lower unemployment risks and shorter spells in unemployment associated with higher educated. We analyse the returns to education in Austria, Germany, Italy, Sweden and the United Kingdom, countries which differ significantly regarding both their education systems and labour market structure. We estimate augmented Mincerian wage equations accounting for the effects of unemployment on individual wages using EU-SILC data. Across countries we find a high variation of the effect of education on unemployment duration. Overall, the returns to education are estimated to be the highest in the UK, and the lowest for Sweden. A wage decrease due to time spent in unemployment results in a decline in the hourly wages in Austria, Germany and Italy.

David John Mckenzie, World Bank Development Research Group: The Impact of Economics Blogs. There is a proliferation of economics blogs, with increasing numbers of economists attracting large numbers of readers, yet little is known about the impact of this new medium. Using a variety of experimental and non-experimental techniques, we try to quantify some of their effects. First, links from blogs cause a striking increase in the number of abstract views and downloads of economics papers. Second, blogging raises the profile of the blogger (and his institution) and boosts their reputation above economists with similar publication records. Finally, we find that a blog can transform attitudes about some of the topics it covers.

SEPTEMBER 30 2011

Kash, Street Light Blog: Moral Judgment and Bad Economics from the ECB. The letter, published in Corriere della Sera, said Italy should aim to bring the deficit down to 1% of gross domestic product by 2012 and balance the budget by 2013, a year ahead of schedule, "mainly via expenditure cuts".  This is troubling in several ways. The timing of things certainly makes it appear as if there was a quid pro quo: the ECB would help only if the Italian government took certain policy steps that the ECB wanted. Most distressing to me is how a central element of the policy prescription that the ECB made to Italy was completely wrong. Italy's problem is not annual budget deficits; yes, Italy had chronically large budget deficits during the decades leading up to euro adoption in 1999, but Italy actually ran smaller budget deficits than France, Belgium, or even the Netherlands over the past couple of years (see chart below). Italy's problem right now is low growth, and the fact that such low growth makes it more difficult for Italy to service the massive debt is has left over from 20 or 30 years ago. The recession hit Italy very hard, and the country has been slow to recover (which makes Italy's relatively low budget deficits even more impressive, by the way). The last thing Italy needs at this point is a sharp fiscal contraction

Aaron Tornell, Frank Westermann, VoxEU: Greece: The sudden stop that wasn’t. In 1995 Mexico experienced a sharp real depreciation and a deep recession. By 1996, however, net exports rebounded and economic growth resumed. At the time it was argued that Mexico could have avoided the severe crisis by adjusting in early 1994. Unfortunately, like Greece today, the authorities chose to increase domestic credit to delay a recession. The difference between Mexico and Greece is that while Mexico had to run down its international reserves, Greece has been able to keep them practically unchanged. Instead Greece has used the EU rescue package and the Eurosystem loans to increase domestic credit. Had Greece been like a typical small economy with no access to rescue packages, it would have had to close its massive current-account deficit by now. Its ability to maintain such massive current-account deficit in the face of a sharp reversal in private capital inflows will be recorded in the annals of financial crises as a remarkably rare feat. It is time to address Greece‘s economic policy options in a holistic manner, and stop the emergency measures that only provide Greece with another lifeline.

Alan J. Auerbach, Yuriy Gorodnichenko, NBER:  Fiscal Multipliers in Recession and Expansion. In this paper, we estimate government purchase multipliers for a large number of OECD countries, allowing these multipliers to vary smoothly according to the state of the economy and using real-time forecast data to purge policy innovations of their predictable components.  We adapt our previous methodology (Auerbach and Gorodnichenko, 2011) to use direct projections rather than the SVAR approach to estimate multipliers, to economize on degrees of freedom and to relax the assumptions on impulse response functions imposed by the SVAR method.  Our findings confirm those of our earlier paper.  In particular, GDP multipliers of government purchases are larger in recession, and controlling for real-time predictions of government purchases tends to increase the estimated multipliers of government purchases in recession.  We also consider the responses of other key macroeconomic variables and find that these responses generally vary over the cycle as well, in a pattern consistent with the varying impact on GDP.

Dan A. Black, Natalia Kolesnikova, Seth G. Sanders, Lowell J. Taylor, IZA: Are Children "Normal"?: We examine Becker's (1960) contention that children are "normal." For the cross section of non-Hispanic white married couples in the U.S., we show that when we restrict comparisons to similarly-educated women living in similarly-expensive locations, completed fertility is positively correlated with the husband's income. The empirical evidence is consistent with children being "normal." In an effort to show causal effects, we analyze the localized impact on fertility of the mid-1970s increase in world energy prices – an exogenous shock that substantially increased men's incomes in the Appalachian coal-mining region. Empirical evidence for that population indicates that fertility increases in men's income.

Chloe Gibbs, Jens Ludwig, Douglas L. Miller, NBER:  Does Head Start Do Any Lasting Good? Head Start is a federal early childhood intervention designed to reduce disparities in preschool outcomes.  The first randomized experimental study of Head Start, the National Head Start Impact Study (NHSIS), found impacts on academic outcomes of .15 to .3 standard deviations measured at the end of the program year, although the estimated impacts were no longer significant when measured at the end of kindergarten or first grade.  Assessments that Head Start is ineffective based on the NHSIS results are in our view premature, given our currently limited understanding of how and why early childhood education improves long-term life chances.  Many of the specific changes to Head Start that have been proposed could potentially wind up doing more harm than good.

Nina Smith, Valdemar Smith, Mette Verner, IZA: Why Are So Few Females Promoted into CEO and Vice-President Positions? In most OECD countries, only very few women succeed in reaching top executive positions. In this paper, the probability of promotion into VP and CEO positions is estimated based on employer-employee data on all Danish companies observed during the period 1997-2007. After controlling for a large number of family-related variables, including take-up history of maternity and paternity leave and proxies for 'female-friendly' companies, there is still a considerable gap in the promotion probabilities for CEO positions, but not for VP positions. Thus, the results cannot confirm recent theories on 'belief flipping' or disappearance of statistical discrimination against women who succeed getting into career track positions. The results reflect that the hiring decision and the decision to enter a top position as 'number one', i.e. CEO, in the organization is very different from the decision to hire or become VP, i.e. 'number two' or lower.

SEPTEMBER 23 2011

Mark A. Wynne, Dallas Fed: The Sluggish Recovery from the Great Recession: Why There Is No ‘V’ Rebound This Time. It is striking how closely the path of U.S. real GDP trend tracks the average path of output in countries that have experienced banking crises. In that sense, the pace of the recovery is more or less in line with what we might have expected based on the historical experience of other countries that have undergone similar banking calamities.

Geert Bekaert, et al, ECB: Global Crises and Equity Market Contagion. We find evidence of systematic contagion from US markets and from the global financial sector, but the effects are very small. By contrast, there has been systematic and substantial contagion from domestic equity markets to individual domestic equity portfolios, with its severity inversely related to the quality of countries’ economic fundamentals and policies. Consequently, we reject the globalization hypothesis that links the transmission of the crisis to the extent of global exposure. Instead, we confirm the old “wake-up call” hypothesis, with markets and investors focusing substantially more on idiosyncratic, country-specific characteristics during the crisis.

Kash, The Street Light Blog: What Really Caused the Eurozone Crisis? Putting it all together, it seems that the EZ crisis is more consistent with the systemic causes view than the local causes view. In other words, while they didn’t necessarily make the right decision every time, the peripheral EZ countries were up against powerful exogenous forces - capital flow bonanzas and sudden stops - that tended to push them toward financial crisis. They were playing against a stacked deck. It’s useful to reevaluate the macroeconomic history of peripheral Europe in light of this interpretation. Rather than large current account deficits being the result of fiscal mismanagement or excessive consumption, the current account deficits were the necessary and unavoidable counterpart to the surge in capital flows from the EZ core. Rather than above-average inflation rates and deteriorating competitiveness being signs of labor market inefficiencies or lax fiscal policies in the peripheral countries, appreciating real exchange rates were inevitable as the mechanism by which those current account deficits were effected.

Andrew Haughwout et al, NY Fed: Real Estate Investors, the Leverage Cycle, and the Housing Market Crisis. In states that experienced the largest housing booms and busts, at the peak of the market almost half of purchase mortgage originations were associated with investors. In part by apparently misreporting their intentions to occupy the property, investors took on more leverage, contributing to higher rates of default. Our findings have important implications for policies designed to address the consequences and recurrence of housing market bubbles.

Stephen Burgess, BoE: Measuring financial sector output and its contribution to UK GDP. In the decade before the financial crisis, the UK financial services sector grew more than twice as fast as the UK economy as a whole. But there are many conceptual difficulties associated with measuring output in finance. This article describes the contribution of the financial sector to GDP and assesses the uncertainty around recent estimates. There is some evidence that financial services output grew less quickly over the recent past than the official data suggest, although this probably had only a small impact on the rate of growth of overall GDP.

Michael P. Keane, Richard Rogerson, NBER: Reconciling Micro and Macro Labor Supply Elasticities: A Structural Perspective. The response of aggregate labor supply to various changes in the economic environment is central to many economic issues, especially the optimal design of tax policies.  This paper surveys recent work that uses structural models and micro data to evaluate the size of this response. Whereas the earlier literature on this issue often concluded that aggregate labor supply elasticities were small, recent work has identified three key reasons that the aggregate elasticity may be quite large.  First, earlier estimates abstracted from several key features, including human capital accumulation, leading to estimates that are dramatically negatively biased.  Second, failure to understand that aggregate labor supply adjustments can occur along both the hours per worker and employment margins has led economists to misinterpret the implications of previous estimates for aggregate labor supply.  Third, structural estimation of responses along the extensive (i.e., employment) margin are typically quite large.

Paul Bingley, Lorenzo Cappellari, Niels Westergaard-Nielsen, CESifo: Flexicurity, Wage Dynamics and Inequality Over the Life-Cycle. We investigate the relationship between life-cycle wages and flexicurity in Denmark. We separate permanent from transitory wages and characterise flexicurity using membership of unemployment insurance funds. We find that flexicurity is associated with lower wage growth heterogeneity over the life-cycle and greater wage instability, changing the nature of wage inequality from permanent to transitory. While we are in general unable to formally test for moral hazard against adverse selection into unemployment insurance membership, robustness checks suggest that moral hazard is the relevant interpretation.

Naci Mocan, Duha T. Altindag, IZA: Is Leisure a Normal Good? Evidence from the European Parliament. Prior to July 2009, salaries of the members of the European Parliament were paid by their home country and there were substantial salary differences between parliamentarians representing different EU countries. Starting in July 2009, the salary of each member of the Parliament is pegged to 38.5% of a European Court judge's salary, paid by the EU. This created an exogenous change in salaries, the magnitude and direction of which varied substantially between parliamentarians. Parliamentarians receive per diem compensation for each plenary session they attend, but salaries constitute unearned income as they are independent of attendance to the Parliament. Using detailed information on each parliamentarian of the European Parliament between 2004 and 2011 we show that an increase in salaries reduces attendance to plenary sessions and an increase in per diem compensation increases it. We also show that corruption in home country has a negative effect on attendance for seasoned members of the Parliament.

Christine Dell'Amore, National Geographic News: Evolution of Narcissism: Why We're Overconfident, and Why It Works. For years, psychologists have observed that people routinely overestimate their abilities. Some experts have suggested that overconfidence can be a good thing, perhaps by boosting ambition, resolve, and other traits, creating self-fulfilling prophecies. But positive self-delusion can also lead to faulty assessments, unrealistic expectations, and hazardous decisions, according to the study—making it a mystery why overconfidence remains a key human trait despite thousands of years of natural selection, which typically weeds out harmful traits over generations. Now, new computer simulations show that a false sense of optimism, whether when deciding to go to war or investing in a new stock, can often improve your chances of winning.

SEPTEMBER 16 2011

Ryan Avent, Economist Blog: Europe, through the looking glass. The Germans, on the other hand, seem to be in complete denial. German leaders are pushing for more, rather than less, austerity, despite the damage severe cuts are inflicting on the economy. They're not too fond of greater fiscal integration, which would relieve pressure on the struggling periphery, nor are they interested in broader ECB bond purchases or an appropriately loose monetary policy. The Germans are keen on nagging southern Europe to boost its competitiveness, but they don't seem anxious to give up their persistent trade surplus. Having placed Greece in an impossible economic situation, the Germans are now ready to give up on the Greek economy entirely:

Paul Krugman, NYT: An Impeccable Disaster. Financial turmoil in Europe is no longer a problem of small, peripheral economies like Greece. What’s under way right now is a full-scale market run on the much larger economies of Spain and Italy. At this point countries in crisis account for about a third of the euro area’s G.D.P., so the common European currency itself is under existential threat. And all indications are that European leaders are unwilling even to acknowledge the nature of that threat, let alone deal with it effectively.

Barry Eichengreen, Project Syndicate: Europe on the Verge of a Political Breakdown. Europe doesn’t have months, much less years, to resolve its crisis. At this point, it has only days to avert the worst. It is critical that leaders distinguish what must be done now from what can be left for later. The first urgent task is for Europe to bulletproof its banks. Doubts about their stability are at the center of the storm. The second urgent task is to create breathing space for Greece. The Greek people are making an almost superhuman effort to stabilize their finances and restructure their economy. But the government continues to miss its fiscal targets, more because of the global slowdown than through any fault of its own. The third urgent task is to restart economic growth. Financial stability, throughout Europe, depends on it. Without growth, tax revenues will remain stagnant, and the capacity to service debts will continue to erode. Social stability, similarly, depends on it. Without growth, austerity will become intolerable. Here, too, the problem has several solutions. Germany can cut taxes. Better still would be coordinated fiscal stimulus across northern Europe.

Alberto Alesina, Francesco Giavazzi, VoxEU: The Italian situation: Clarification and a prediction. As Italy’s Prime Minister Silvio Berlusconi announces a new austerity bill based on tax rises, this column argues that the country’s leaders are in denial – it is as if they are trying to take aspirin to hide the symptoms of pneumonia. The authors predict that, with the current political class in power, Italy will soon enter another recession and, eventually, another crisis.

John C Bluedorn, Jörg Decressin, Marco E Terrones, VoxEU: Do equity price drops foreshadow recessions? There are concerns that the recent sharp drop in equity prices in the advanced economies may signal a rise in the risk of a double-dip recession. This column examines the performance of equity prices as predictors of new recessions in the G7 economies. The findings suggest that equity prices are useful predictors of recessions in most of these countries. Recent drops in equity prices suggest that the probability of a double-dip recession in France, the UK, and the US has increased substantially.

Paul Krugman, Eastern Economic Journal: The Profession and the Crisis. I’m sorry if I have painted a bleak picture of the role of economists in the crisis. Unfortunately, that's the way it looks to me. So what can be done to improve that picture? Some economists are pushing forward with new macroeconomic models that incorporate the lessons of the crisis. Me too! And by all means, let's do that. But as I’ve said, our big problem was not lack of models. There are also many calls for new economic thinking; there's even an institute dedicated to that project. Again, fine — but the biggest problem we had as a profession wasn’t failure to keep up with a changing world, it was failure to remember what our fathers learned. What we really need is a change in the destructive social dynamics that brought us to this point. And I wish I knew how to do that. But my problem is obvious: I’m an economist, and it seems that we need some kind of sociologist to solve our profession's problems.

Adam Posen, BoE: How to do more. For all the talk about monetary austerity promoting creative destruction, it does not work that way. In Japan in the 1990s for example, a period of insufficiently aggressive monetary stimulus fed the lending to zombie companies, i.e., unproductive borrowers on whose loans the banks could not afford to take losses...It was only when macroeconomic policy led a recovery in Japan in the 2000s that capital flowed out of the places it had been trapped and into new and growing businesses...Similarly, in the aftermath of the U.S. savings-and-loan crisis, real reallocation of credit from bad banks and borrowers to worthwhile investment only began in earnest when monetary policy eased in the late 1980s. In short, sometimes destruction is just destructive.

Robert Fairlie, Florian Hoffmann, Philip Oreopoulos, NBER: A Community College Instructor Like Me: Race and Ethnicity Interactions in the Classroom. This paper uses detailed administrative data from one of the largest community colleges in the United States to quantify the extent to which academic performance depends on students being of similar race or ethnicity to their instructors. To address the concern of endogenous sorting, we use both student and classroom fixed effects and focus on those with limited course enrolment options. We also compare sensitivity in the results from using within versus across section instructor type variation. Given the computational complexity of the 2-way fixed effects model with a large set of fixed effects we rely on numerical algorithms that exploit the particular structure of the model’s normal equations. We find that the performance gap in terms of class dropout and pass rates between white and minority students falls by roughly half when taught by a minority instructor. In models that allow for a full set of ethnic and racial interactions between students and instructors, we find African-American students perform particularly better when taught by African-American instructors.

James J. Heckman, NBER: Integrating Personality Psychology into Economics. What can economists take from and contribute to personality psychology? What do we learn from personality psychology? Personality traits predict many behaviors sometimes with the same strength as conventional cognitive traits. Personality psychology considers a wider array of actions than are usually considered by economists. It enlarges the economist's way to describe and model the world. Cognition is one aspect of personality broadly defined. Personality traits are not set in stone. They change over the life cycle. They are a possible avenue for intervention and policy. Personality psychologists lack precise models. Economics provides a framework for recasting the field. More precise models reveal basic identification problems that plague measurement in psychology. Such analyses show that, at an empirical level, “cognitive" and “noncognitive" traits are not easily separated. Personality psychologists typically present correlations - not causal relationships. Many contemporaneously measured relationships suffer from the problem of reverse causality. Econometric tools can be used to define and estimate causal mechanisms and to understand the causes of effects.

SEPTEMBER 9 2011

Joshua Aizenman, Michael M Hutchison, Yothin Jinjarak, VoxEU: What is the risk of European sovereign debt defaults? Fiscal space, CDS spreads and market pricing of risk. We found strong evidence that high market-default-risk assessments in the five Eurozone-periphery countries are partly attributable to deteriorating fundamentals but that a large component is unpredicted. Actual CDS spreads in the five Eurozone-periphery countries are much higher than what the model predicts given actual fundamentals. In terms of our model, these spreads may be mispriced. One possibility is excessive pessimism on the part of market participants about the Eurozone-periphery countries or expectations of the further deterioration of fundamentals. This point is well illustrated by a comparison of five Eurozone-periphery countries with middle-income countries with similar fiscal conditions. In every case, risk pricing of the five Eurozone-periphery countries is comparatively high given current economic conditions.

Atif R. Mian, Amir Sufi: NBER Reporter. Research Summary. Finance and Macroeconomics: The Role of Household Leverage. The increase in household leverage prior to the most recent recession was stunning by any historical comparison. From 2001 to 2007, household debt doubled, from $7 trillion to $14 trillion. The household debt-to-income ratio increased by more during these six years than it had in the prior 45 years. In fact, the household debt-to-income ratio in 2007 was higher than at any point since 1929. Our research agenda explores the causes and consequences of this tremendous rise in household debt. Why did U.S. households borrow so much and in such a short span of time? What factors triggered the slowdown and collapse of the real economy? Did household leverage amplify macroeconomic shocks and make a quick recovery less likely? How do politics constrain policy responses to an economic crisis? While the focus of our research is on the recent U.S. economic downturn, we believe the implications of our work are wider. For example, both the Great Depression and Japan's Great Recession were preceded by sharp increases in leverage.1 We believe that understanding the impact of household debt on the economy is crucial to developing a better understanding of the linkages between finance and macroeconomics.

Roger E. A. Farmer , Dmitry Plotnikov, VoxEU: Does fiscal policy matter? Is there a better way to reduce unemployment? Can government spending help the economy recover from a recession by boosting job creation and lowering unemployment? Or is it a waste of money? This column addresses this question and others using a unique framework. It explains why fiscal policy was effective at ending the Great Depression but it argues that a big fiscal expansion may not be the best solution this time round.

Ryan Avent, NYT: One Path to Better Jobs - More Density in Cities. When it comes to economic growth and the creation of jobs, the denser the city the better. How great are the benefits of density? Economists studying cities routinely find that after controlling for other variables, workers in denser places earn higher wages and are more productive. Some studies suggest that doubling density raises productivity by around 6 percent while others peg the impact at up to 28 percent. Some economists have concluded that more than half the variation in output per worker across the United States can be explained by density alone; density explains more of the productivity gap across states than education levels or industry concentrations or tax policies.

Peter Diamond, Emmanuel Saez: The Case for a Progressive Tax: From Basic Research to Policy Recommendations. This paper presents the case for tax progressivity based on recent results in optimal tax theory. We consider the optimal progressivity of earnings taxation and whether capital income should be taxed. We critically discuss the academic research on these topics and when and how the results can be used for policy recommendations. We argue that a result from basic research is relevant for policy only if (a) it is based on economic mechanisms that are empirically relevant and first order to the problem, (b) it is reasonably robust to changes in the modelling assumptions, (c) the policy prescription is implementable (i.e., is socially acceptable and is not too complex). We obtain three policy recommendations from basic research that satisfy these criteria reasonably well. First, very high earners should be subject to high and rising marginal tax rates on earnings. Second, low income families should be encouraged to work with earnings subsidies, which should then be phased-out with high implicit marginal tax rates. Third, capital income should be taxed. We explain why the famous zero marginal tax rate result for the top earner in the Mirrlees model and the zero capital income tax rate results of Chamley-Judd and Atkinson-Stiglitz are not policy relevant in our view.

Yi Wen, St. Louise Fed: Making Sense of China’s Astronomical Foreign Reserves. The current global-imbalance literature (which explains why capital flows from poor to rich countries) cannot explain China’s foreign asset positions because capital cannot flow out of China under capital controls. A related but deeper puzzle that this literature fails to address is China’s high saving rate despite an astonishingly rapid income growth rate. This paper argues that understanding China’s massive foreign reserves must start with a basic trade model (e.g., Melitz, 2003) in which a growing trade volume is driven by an elastic labor supply and rapid productivity growth. Imbalanced trade will then emerge if there exist uninsured risks (which remain constant as the economy grows) and exporters are borrowing constrained. In this case, fast growth can lead to excessively high saving rates and trade surpluses. Thus, a modified Melitz model featuring rapid productivity growth, elastic labor supply, and incomplete markets can qualitatively and quantitatively explain China’s massive (and "passive") accumulation of low-yield foreign reserves. The simple infinite-horizon model is hence consistent with the stylized fact that high saving is the consequence of high growth instead of the opposite (Modigliani and Cao, 2004), which the permanent income theory and global-imbalance literature fail to predict."

Daron Acemoglu el al MIT: A Political Theory of Populism. When voters fear that politicians may have a right-wing bias or that they may be influenced or corrupted by the rich elite, signals of true left-wing conviction are valuable. As a consequence, even a moderate politician seeking reelection choose policies to the left of the median voter as a way of signalling that he is not from the right (while truly right-wing politicians also signal by choosing moderate or even left-of-center policies). This leftist bias of policy is greater when the value of remaining in office is higher for the politician; when there is greater polarization between the policy preferences of the median voter and right-wing politicians; and when politicians are indeed likely to have a hidden right-wing agenda. We show that similar results apply when some politicians can be corrupted or influenced through other non-electoral means by the rich elite.

SEPTEMBER 2 2011

James Surowiecki, The New Yorker: Europe’s Big Mistake: One might have thought that the E.C.B. would learn from the experience. No such luck. This year, Europe has been wrestling with high unemployment, slow growth, and a continuing debt crisis, with the economies of Portugal, Ireland, Italy, Greece, and Spain (the so-called PIIGS) struggling to avoid default. Given the situation, Trichet could have decided to keep interest rates where they were, as both the Federal Reserve and the Bank of England have done. Instead, the E.C.B. raised interest rates in April and, once more, in July. Again, as if on cue, European economic growth stalled and the continent’s debt crisis deepened, which has created problems for markets around the world. Policymakers make bad decisions all the time, of course. The E.C.B.’s failures, however, are the result not of mere bad judgment but of obsession

Leon Neyfakh, Boston Globe: The I-word. Harvard economist Kenneth Rogoff has spent his career fighting inflation. Now he thinks it might just save the economy. Rogoff has emerged as one of the world’s leading experts on the history of financial crises and how they work, a unique perch that has given him a long view on what is happening to our economy and what lies ahead. What we’ve been going through ever since the subprime mortgage crisis - has not been just a typical recession, as our leaders have been treating it, but something much worse, something that demands altogether different tools to stop it. One of these tools, Rogoff believes, is a temporary burst of inflation. And for the past several weeks, as the stock market has convulsed and debate raged over the Fed’s next move, he has been making his case publicly, through syndicated opinion columns, high-profile TV appearances, and numerous interviews.

Michael Schuman, Time Blog: Is the Greek bailout falling apart? The Finland debacle exposes the fundamental flaws in the management of the monetary union. What it reveals is how the domestic politics of any one euro member, no matter how small, can have ripple effects through all of Europe and, in fact, threaten the survival of the euro itself. The Finns insistence on collateral could tank the entire rescue package. Under euro zone rules, the governments of all 17 members have to approve the details of the bailout before funds can be released. That means tiny Finland, which would be contributing a mere 2% of the guarantees for the rescue, could block the entire arrangement. How this gets resolved is a complete unknown. Can Finland be allowed to opt out of the bailout? Will other euro zone countries also insist on receiving collateral, defeating the purpose of the entire bailout?

Kash, The Street Light Blog: Europe's Banking System: A Slow-Motion Bank Run in Progress? The truly troubling thing to note in the table, however, is the rate at which financial institutions have been withdrawing money from European banks. This has particularly affected those countries that have traditionally been large international money centers, such as Germany, the UK, and to a lesser degree, Ireland, but it has affected all of the major European economies to some extent. To varying degrees these withdrawals by financial institutions have been offset in the large euro-zone countries by steady increases in the deposits made by domestic residents and corporations (i.e. non-MFI deposits), leaving the overall level of deposits in the euro-zone roughly unchanged. But it seems very clear that the world's big banks and other financial institutions are indeed moving their funds out of Europe at a significant rate.

Stephen G Cecchetti, M S Mohanty, Fabrizio Zampolli, BIS: The real effects of debt. Our results support the view that, beyond a certain level, debt is bad for growth. For government debt, the threshold is in the range of 80 to 100% of GDP. The immediate implication is that countries with high debt must act quickly and decisively to address their fiscal problems. The longer-term lesson is that, to build the fiscal buffer required to address extraordinary events, governments should keep debt well below the estimated thresholds. Up to a point, corporate and household debt can be good for growth. But when corporate debt goes beyond 90% of GDP, our results suggest that it becomes a drag on growth. And for household debt, we report a threshold around 85% of GDP, although the impact is very imprecisely estimated.

Ahmed Al-Darwish et al, IMF: Possible Unintended Consequences of Basel III and Solvency II. In today’s financial system, complex financial institutions are connected through an opaque network of financial exposures. These connections contribute to financial deepening and greater savings allocation efficiency, but are also unstable channels of contagion. Basel III and Solvency II should improve the stability of these connections, but could have unintended consequences for cost of capital, funding patterns, interconnectedness, and risk migration.

Mark Thoma, The Fiscal Times: What Caused the Financial Crisis? Don’t Ask An Economist. Macroeconomic models have not fared well in recent years – the models didn’t predict the financial crisis and gave little guidance to policymakers, and I was anxious to hear the laureates discuss what macroeconomists need to do to fix them. So I found the lack of consensus on what caused the crisis distressing. If the very best economists in the profession cannot come to anything close to agreement about why the crisis happened almost four years after the recession began, how can we possibly address the problems?

Charles A.E. Goodhart, VoxEU: If banks should act as utilities, why not treat them as such? The calls for better bank regulation are many. This column argues that regulators have the concepts right, but the mechanisms are in need of repair. What needs to be done is bring intervention by the authorities forward in time: prompt corrective action, well before the bank’s managers can really drive it into the ground. A problem is that the available signals for doing so are quite faulty. The accounting value of equity capital is only available after a lag that can be far too long for comfort in fast-moving markets, and can be subject to all kinds of accounting tricks. On the other hand, the market value of equity can be subject to (temporary) manipulation, or to market over-reactions or flash crashes.

Michael Pettis, China Financial Markets: Some predictions for the rest of the decade. Since most global consumption comes from the US, Europe and Japan, the collapse in their demand will ultimately be very painful for the BRICs and the rest of the developing world. The latter have postponed the impact of contracting consumption by increasing domestic investment, in some cases very sharply, but the purpose of higher current investment is to serve higher future consumption. In many countries, most notably China, the higher investment will itself limit future consumption growth, and so with weak consumption growth in the developed world, and no relief from the developing world, today’s higher investment will actually exacerbate the impact of the current contraction in consumption.

Avraham Ebenstein, Ann Harrison, Margaret McMillan, Shannon Phillips, World Bank: Estimating the impact of trade and offshoring on American workers. The authors link industry-level data on trade and offshoring with individual-level worker data from the Current Population Surveys. They find that occupational exposure to globalization is associated with larger wage effects than industry exposure. This effect has been overlooked because it operates between rather than within sectors of the economy. The authors also find that globalization is associated with a reallocation of workers across sectors and occupations. They estimate wage losses of 2 to 4 percent among workers leaving manufacturing and 4 to 11 percent among workers who also switch occupations. These effects are most pronounced for workers who perform routine tasks.

Alastair Muriel, Jeffrey Smith, IZA: On Educational Performance Measures. Quantitative school performance measures (QPMs) are playing an ever larger role in education systems on both sides of the Atlantic. In this paper we outline the rationale for the use of such measures in education, review the literature relating to several important problems associated with their use, and argue that they nonetheless have a positive role to play in improving the educational quality. We delineate several institutional reforms which would help schools to respond “positively” to QPMs, emphasizing the importance of agents’ flexibility to change the way they work, and the importance of a sound knowledge base regarding “what works” in raising attainment. We suggest that the present institutional setups in both England and the US too often hold schools accountable for outcomes over which they have little control – but that such problems are far from insurmountable.

Olivier Bargain, Mathias Dolls, Herwig Immervoll, Dirk Neumann, Andreas Peichl, Nico Pestel, Sebastian Siegloch, IZA: Tax Policy and Income Inequality in the U.S., 1978-2009: A Decomposition Approach. We assess the effects of U.S. tax policy reforms on inequality by applying a new decomposition method that allows us to disentangle mechanical effects due to changes in pre-tax incomes from direct effects of policy reforms. While tax reforms implemented under Democrat administrations, in particular the EITC reforms in the 1990s and the ARRA in 2009, had an equalizing effect at the lower half of the distribution, the disequalizing effects of Republican reforms are due to tax cuts for high-income families. As a consequence of partisan politics, overall policy effects almost cancel out over the whole time period.

AUGUST 26 2011

Ryan Avent, Free Exchange Blog: Tail risks. Increased Armageddon odds. The world is not ending, and while a renewed fall into recession across the developed world would be very costly and painful, especially for the unemployed, it probably wouldn't be an unmanageble situation. Growth would probably return fairly quickly, and the march of technological progress would probably go on, improving living standards for most people. Probably. The problem is that a renewed decline into recession increases the small but not insignificant odds of a true disaster—major debt or financial crisis, for instance, or major geopolitical instability. The kind of thing that isn't at all manageable. The situation is analogous to global warming. Given expected increases in global temperature, the world will suffer nasty consequences down the road, that may nonetheless prove manageable. The higher temperatures rise, however, the greater the odds of difficult to predict outcomes—like accelerating feedback loops—that threaten humanity itself.

Stephen King, Independent: Our economic woes show that there is nothing unique about Japan. Over the past few years, policymakers on either side of the Atlantic have repeatedly delivered the same message. Japan's economic stagnation should be seen as a one-off. It wouldn't happen in the West because Japan was, somehow, different. Western economies were more flexible than Japan's, could restructure easily whenever necessary and thus would always avoid any kind of Japanese-style multi-year disappointment. And, even if Western economies were unable to heal on their own accord, policymakers had the cures and were not afraid to use them. This position might best be described as "Western economic arrogance". There was no real attempt to explain why Japan had suffered so much. It was simply assumed that what happened over there couldn't happen over here. Economic outcomes in the Western world have, to date, been far worse than in Japan in the early years of stagnation

Charles Wyplosz, VoxEU: They still don’t get it. The Eurozone crisis is accelerating dangerously, bringing us to the brink of what would be history’s biggest ever financial rout. The spectre of the 1930s, including competitive devaluations and Eurozone break up, is getting dangerously relevant. This revised column argues that last week’s policy changes are not sufficient. Getting ahead of the crisis will require a guarantee for the entire stock of Eurozone debt – either by the ECB, or via some sort of Eurobond scheme.

Daron Acemoglu, Economics by invitation: Unrest is a call to reform.The protesters risking life and limb in Tahrir Square and elsewhere in the Middle East and North Africa to demand political reform may seem a world apart from the yobs setting neighborhoods ablaze and robbing shops in English cities. And they are of course. But there are also parallels. Ignoring these parallels and blaming it all on moral decay will make it much harder for us to understand and address the social challenges posed by millions of disadvantaged youth in European cities.

Tony Wrigley, VoxEU: Opening Pandora’s box: A new look at the industrial revolution. The most fundamental defining feature of the industrial revolution was that it made possible exponential economic growth – growth at a speed that implied the doubling of output every half-century or less. This in turn radically transformed living standards. Each generation came to have a confident expectation that they would be substantially better off than their parents or grandparents. Yet, remarkably, the best informed and most perspicacious of contemporaries were not merely unconscious of the implications of the changes which were taking place about them but firmly dismissed the possibility of such a transformation. The classical economists Adam Smith, Thomas Malthus, and David Ricardo advanced an excellent reason for dismissing the possibility of prolonged growth…The great bulk of the literature about the industrial revolution has been devoted to explaining how it began. This has been to the neglect of the equally important question of why the growth did not grind to a halt as all previous experience suggested was inevitable. It is in this context that the history of energy usage is critical to the understanding of the changes which took place.

Sara Cools Jon H. Fiva Lars J. Kirkebøen, CESifo: Causal Effects of Paternity Leave on Children and Parents.  In this paper we use a parental leave reform directed towards fathers to identify the causal effects of paternity leave on children’s and parents’ outcomes. We document that paternity leave causes fathers to become more important for children’s cognitive skills. School performance at age 16 increases for children whose father is relatively higher educated than the mother. We find no evidence that fathers’ earnings and work hours are affected by paternity leave. Contrary to expectation, mothers’ labor market outcomes are adversely affected by paternity leave. Our findings do therefore not suggest that paternity leave shifts the gender balance at home in a way that increases mothers’ time and/or effort spent at market work.

Nattavudh Powdthavee, IZA: Life Satisfaction and Grandparenthood: Evidence from a Nationwide Survey. This paper tests whether there is a potential payoff to grandparenthood in terms of life satisfaction. Using the new nationwide survey for the UK, which consists of over 5,000 grandparents and 6,000 non-grandparents aged 40 and above, and a flexible multiple-index ordered probit model with varying thresholds, we find that being a grandparent to at least one grandchild is associated positively and statistically significantly with individuals reporting to be very satisfied with life overall. Parents with no grandchildren are no more satisfied with life compared to non-parents of the same age. The findings suggest that even though children may not contribute significantly to parents' satisfaction with life overall, there may well be long-term benefits to having children, provided that our children go on and have children of their own.

Daniel S. Hamermesh, Jason Abrevaya, NBER:  Beauty Is the Promise of Happiness"?We measure the impact of individuals' looks on life satisfaction/happiness.  Using five data sets, from the U.S., Canada, the U.K., and Germany, we construct beauty measures in different ways that allow placing lower bounds on the effects of beauty.  Beauty raises happiness:  A one standard-deviation change in beauty generates about 0.10 standard deviations of additional satisfaction/happiness among men, 0.12 among women.  Accounting for a wide variety of covariates, particularly effects in the labor and marriage markets, including those that might be affected by differences in beauty, the impact among men is more than halved, among women slightly less than halved.