In the existing literature, panic-based bank runs are triggered by a commonly acknowledged and observed sunspot signal. There are only two equilibrium realizations resulting from the commonly observed sunspot signal: Everyone runs or no one runs. I consider a more general and more realistic situation in which consumers observe noisy private sunspot signals. If the noise in the signals is sufficiently small, there exists a proper correlated equilibrium for some demand deposit contracts. A full bank run, a partial bank run (in which some consumers panic whereas others do not), or no bank run occurs, depending on the realization of the sunspot signals. If the probabilities of runs are small, the optimal demand deposit contract tolerates full and partial bank runs.

This paper analyzes government spending multipliers in a two-country model of a monetary union with price stickiness and home bias in consumption where monetary policy is constrained by the zero lower bound (ZLB) on the nominal interest rate. Government spending multipliers under this constraint are computed and compared with fiscal multipliers in normal times, that is, where the central bank sets the nominal interest rate via a Taylor rule. The trade elasticity and the parameter measuring home bias in consumption play an important role in determining the size of the multiplier. The multipliers are not necessarily large under the ZLB constraint. However, compared with the fiscal multipliers when the central bank sets the nominal interest rate according to a Taylor rule, the multipliers under the ZLB are bigger. Moreover, the persistence parameter of the binding ZLB plays a crucial role.

Peter Diamond is one of the major contributors to economics during the last half century. His many contributions include research on growth, Social Security, public finance more generally, the economics of uncertainty, search theory, in particular, and economic dynamics, in general. This work has shaped the way we think about many economic problems, and the way in which we formalize them. Among his long list of honors and awards, he is a fellow of the Econometric Society, a Guggenheim Fellow, a Fellow of the American Academy of Arts and Sciences, a Member of the National Academy of Sciences, and a Nemmers Prize winner. The National Science Foundation has supported his work for the last 40 years. A recent check indicated 9 books and 132 published articles, and there are few signs of any slowdown.

Because they ignore the household-level and macroeconomic adjustments associated with longevity improvements, the actuarial projections of the Social Security Administration overestimate the Social Security crisis. Using a general-equilibrium model with heterogeneous households and incomplete markets, I show that with these adjustments accounted for, a significantly smaller decline in benefits is needed to balance the Social Security budget. Households respond by delaying retirement and Social Security benefit collection, by working more hours, and by also saving more. In general equilibrium, these effects lead to a natural expansion of Social Security's tax base and generate significant delayed retirement credits, which the actuarial estimates completely overlook.

This paper provides estimates of the welfare cost of volatility attributable to monetary and fiscal policy shocks. It uses a continuous-time stochastic dynamic general equilibrium model based on a recursive utility function that disentangles risk aversion from intertemporal substitution. We find that monetary and fiscal policy shocks may lead to opposite welfare effects: negative for monetary growth shocks, but positive for government expenditure shocks. Furthermore, we find that welfare costs are sensitive to the parameter values chosen for risk aversion and intertemporal substitution, and we conclude that welfare costs are potentially much larger than that found by Lucas, forcing some modification of the policy conclusions associated with Lucas's pioneering work.

I demonstrate that the precise timing of financial markets and goods markets in a simple cash good/credit good model does not matter for the main results in the Ramsey literature on optimal fiscal and monetary policy. In Ramsey models based on Lucas and Stokey [Journal of Monetary Economics 12, 55–93 (1983)] and Chari, Christiano, and Kehoe [Journal of Money, Credit, and Banking 23, 519–539 (1991)], nominal money holdings are freely adjustable in response to shocks in the period in which they will be used to purchase consumption. In contrast, under Svensson [Journal of Political Economy 93, 919–944 (1985)] timing, nominal balances cannot be adjusted in the period they will be used. The broad finding is that benchmark Ramsey results are not very sensitive to this slight, ultimately ad hoc, modification. In particular, optimal inflation continues to display very high variability just as in the original models, although this can differ depending on exactly which exogenous processes are driving the economy. That the basic results in the Ramsey literature are not sensitive to the choice of cash/credit timing is reassuring as Ramsey analysis is applied to an ever-expanding set of model environments.

We present a method for using rational expectations in a linear-quadratic optimization framework. Following the approach put forward by Sims, we solve the model through a QZ decomposition, which is generally easier to implement than the more widely used Blanchard-Kahn method.

This paper argues that the marked reduction in the burden of parasitic and infectious diseases (PID) together with improved nutrition over the past two centuries in today's advanced countries has resulted in markedly improved physiological capital and cognitive skills and, consequently, in productivity advances. Using a unique annual dataset covering the period 1800–2011 for 21 OECD (Organisation for Economic Co-operation and Development) countries, it is found that health improvements can account for approximately a third of the productivity advances in the OECD countries since 1865, and that these improvements have been influential for enhancement in education, savings, innovations, life expectancy, and democracy.

Despite the important role that total factor productivity (TFP) has played in the growth literature, few attempts have been made to change the methodology to estimate it. This paper proposes a methodology based on a state-space model to estimate TFP and its determinants. With this methodology, it is possible to reduce the measurement of our ignorance. As a by-product, this estimate yields the capital share in output and the long-term growth rate. When applied to Chile, the estimation shows a capital share around 0.5 and long-term growth of TFP around 1%. Capital accumulation tends to explain the growth rate in the fast growth periods under the econometric estimation more than the traditional growth accounting methodology.

We generalize a money-in-the-utility function model to include interest-bearing deposits and use the model to estimate the welfare cost of inflation. In the model, the user cost of deposits is invariant to inflation in steady state. Currency and deposits are assumed to be weakly separable and the model is calibrated using index number methods. We find that the welfare cost of inflation is substantially lower in the model with interest-bearing deposits than in models where all monetary assets are assumed to be non-interest bearing. We also show that higher inflation can raise or lower the rate of convergence to steady state depending on the coefficient of relative risk aversion, but the effect is weak. We provide evidence for OECD countries suggesting that there could be a positive effect of inflation on user costs, which would lead to higher welfare cost estimates.

Vote-buying is widely used by parties in developing countries to influence the outcome of elections. We examine the impact of vote-buying on growth. We consider a model with a poverty trap where redistribution can promote growth. We show that vote-buying contributes to the persistence of poverty as taxed wealthy people buy votes from poor people. We then show that there exists a democratic constitution that breaks vote-buying and promotes growth. Such a constitution involves rotating agenda setting, a taxpayer-protection rule, and repeated voting. The latter rule makes vote-buying prohibitively costly.

We consider a model in which foreign and domestic traders buy the assets of both of two countries. Speculators in both countries use chartist or fundamentalist rules for forecasting the exchange rate. Demand for the assets of each country is determined by these forecasts. Perceptions of the fundamentals in each country are not necessarily the same. Rules are used with a certain probability depending on an agent's previous experience with them. The demands of the fundamentalist and chartist agents in the two countries determine the temporary equilibrium exchange rate at each point in time. This is unique under certain assumptions. With traders of both nationalities there is no need, as in other models, for an exogenous supply of foreign exchange. The model produces realistic features of the equilibrium exchange rate series. Periods in which the exchange rate tracks the fundamentals of one of the countries alternate with others in which bubbles appear.

This paper investigates the possible formation of informational cascades by traders in a random sample of 8,000 NYSE stock-days experiencing extreme price changes during 1998–2001. Our cascade measure is designed to detect informational cascades in high-frequency stock market prices. First, we find evidence of cascades on approximately 12% of the days when the NYSE experiences, on average, large price increases. This percentage increases to about 20% on days experiencing large price decreases, on average. Second, we find evidence that the interarrival times of trades in those stocks exhibiting significant informational cascades are generated by a nonlinear stochastic process. Third, the evidence supporting cascades is largely confined to smaller stocks and to stocks followed by fewer security analysts. Last, the occurrence of cascades appears to correlate with the incorporation of fundamental information into security prices.

We explore R&D subsidies in a hybrid growth model which may exhibit semi-endogenous growth or fully endogenous growth. We consider two types of subsidies on variety-expanding innovation and quality-improving innovation. R&D subsidies on quality-improving innovation only have effects in the fully endogenous-growth regime, in which more subsidies cause an earlier activation of quality-improving innovation and increase the transitional/steady-state growth rate. R&D subsidies on variety-expanding innovation have contrasting effects in the two regimes. In the semi-endogenous-growth regime, more subsidies on variety-expanding innovation increase transitional growth but have no effect on steady-state growth. In the fully endogenous-growth regime, more subsidies on variety-expanding innovation continue to increase short-run growth but delay the activation of quality-improving innovation and reduce long-run growth. Increasing subsidies on variety-expanding (quality-improving) innovation makes the semi-endogenous-growth (fully endogenous-growth) regime more likely to emerge. Finally, we calibrate the model and find that under reasonable parameter values, the fully endogenous-growth regime is more likely to emerge.

In contrast to the standard approach in energy economics, this paper assumes that physical capital accumulation is relatively more energy-intensive than consumption. By means of Gaussian hypergeometric functions, we provide a closed-form representation of the optimal solution paths of our variables in levels, whatever the initial conditions (i.e., global dynamics). We find that, in general, the optimal trajectories are nonmonotonic. P.S. Dasgupta and G.M. Heal [Review of Economic Studies (special number), 3–28 (1974)] pointed out this result (local dynamics) for the optimal consumption in a model with identical technology for both physical capital accumulation and consumption. However, our paper introduces five novelties with respect to their study, namely, global dynamics, the importance of the proportion of nonrenewable energy resources to endowment of physical capital [S(0)/K(0)], the role of technical progress, U-shaped behavior of consumption, and nonmonotonicity of resource extraction.

This paper characterizes the global dynamics of the saving rate in the neoclassical growth model with CES production. The study is based on qualitative phase-diagram analysis. The analytical conditions characterizing the cases that may arise theoretically depending on the parameters' configuration are obtained. It is well known that the saving rate behaves monotonically if technology is Cobb-Douglas. However, when the elasticity of substitution is nonunitary, the saving rate path may exhibit nonmonotonic behavior.

By endowing his agents with simple forecasting models, or representations, M. Woodford (“Learning to Believe in Sunspots,” Econometrica 58, 277–307, 1990) found that finite state Markov sunspot equilibria may be stable under learning. We show that common factor representations generalize to all sunspot equilibria the representations used by Woodford. We find that if finite state Markov sunspots are stable under learning then all sunspots are stable under learning, provided common factor representations are used.

This paper investigates how the inclusion of capital in the workhorse new open economy macro model affects its ability to generate volatile and persistent real exchange rates. We show that capital accumulation facilitates intertemporal consumption smoothing and significantly reduces the volatility of the real exchange rate. Nonetheless, monetary and investment-specific technology (IST) shocks still induce more real exchange rate volatility and less consumption comovement than productivity shocks (with or without capital). We find that endogenous persistence is particularly sensitive to the inertia of the monetary policy rule even with persistent exogenous shocks. However, irrespective of whether capital is present, productivity and IST shocks trigger highly persistent real exchange rates, whereas monetary shocks do not. Moreover, we point out that IST shocks tend to generate countercyclical real exchange rates—unlike productivity or monetary shocks—but have the counterfactual effect of also producing excessive investment volatility and countercyclical consumption.

This paper examines an infinite-horizon model of nonlinear income taxation in which the probability that the government can commit is high, but not certain. In this “loose commitment” environment, we find that even a little uncertainty over whether the government can commit yields substantial effects on the optimal dynamic nonlinear income tax system. This result holds even though separating taxation remains optimal, as in the case of full commitment. Under an empirically plausible parameterization, our numerical simulations show that high-skilled individuals must be subsidized in the short run, despite the government's redistributive objective, unless the probability of commitment is higher than 98%. Loose commitment also reverses the short-run welfare effects of changes in most of the model's parameters, and yields some counterintuitive outcomes. For example, all individuals are worse off, rather than better off, in the short run when the proportion of high-skilled individuals in the economy increases.

Can officially reported output figures be externally validated? This paper presents a dynamic panel framework for assessing statistics using verifiable signals of economic activity. In this context, satellite readings of nitrogen dioxide, a byproduct of combustion, are forwarded. The problem of validating China's reported gross domestic product at the sub-national level during two recent downturns is considered. During the Great Recession period, reported figures are validated for some regions, but not others, including specifically those known to be inaccurate.