I revisit the popular concern over a nonlinearity or threshold in the relationship between public debt and growth employing long time series data from up to 27 countries. My empirical approach recognizes that standard time series arguments for long-run equilibrium relations between integrated variables (cointegration) break down in nonlinear specifications such as those predominantly applied in the existing debt–growth literature. Adopting the novel cosummability approach, my analysis overcomes these difficulties to find no evidence for a systematic long-run relationship between debt and growth in the bivariate and economic theory-based multivariate specifications popular in this literature.

Two alternative theories of aggregate supply, both with a New Keynesian “flavor,” are compared. The first assumes that prices are rigid due to the existence of menu costs. The second derives price stickiness endogenously as one equilibrium in an economy with multiple equilibria. In both cases I show that the Ball–Romer concept of real rigidities is essential to explain why monetary policy has real persistent effects. I argue that dynamic menu cost models are determinate because they make special assumptions about the way that money enters the economy. For example, most authors assume either a cash-in-advance constraint or that money enters separably into utility or production functions. Once one moves beyond these special cases, menu cost models that display real rigidity are also likely to display indeterminacy.

We study the dynamic effects of an oil price shock on key economic variables and on the current account of a small open economy. We introduce time-nonseparable preferences into a standard model of a small open economy, where imported oil is used both as an intermediate input in production and as a consumption good. Using a plausible calibration of the model, we show that the changes in output and employment are quite small, and that the current account exhibits the J-curve property, both being in line with recent empirical evidence. After an oil price increase, employment falls and the current account first deteriorates. Over time, with gradually falling expenditures, the trade balance improves sufficiently to turn the current account into a surplus. The model thus provides a plausible explanation of recent empirical findings.

We incorporate imperfectly insured unemployment in the finance constrained economy proposed by Woodford (1986), by introducing unions and unemployment benefits financed by labor taxation. We show that this simple extension of the Woodford model changes drastically its stability conditions and local dynamics around the steady state. In fact, in contrast to related models in the literature, we find that, under constant returns to scale in production: (i) indeterminacy always prevails in the case of a unitary elasticity of substitution between capital and labor and (ii) flip and Hopf bifurcations occur for empirically credible elasticities of substitution between capital and labor, so that a rich set of dynamics may emerge at “realistic” parameters' values.

Every graduate school has its own distinctive history that makes it unique in some way, but every graduate school is also part of the broader economics profession and reflects the currents in the profession. The following dialogue focuses on the question: Is it useful to distinguish a “Yale school of macroeconomics” from other schools of economics? The idea for this dialogue came from William Barnett in a discussion with Bob Shiller. Bill suggested to Bob some names of individuals who might conduct the “dialogue” and I was selected from that list. I happily agreed because, from my knowledge of the writings of the Yale faculty, I felt that there was a uniformity of ideas with which I was sympathetic, and which might deserve to be called a “Yale School”—a view shared with Bob Shiller.

Exploring the issue further, I found that there was far less agreement on whether the macroeconomics work that currently goes on at Yale can be classified meaningfully as “the Yale school.” The objections to specifying a separate Yale school were the following: (1) The term, Yale school, had been used in the 1960's to describe Jim Tobin's position in a debate with monetarists. Some felt it would be confusing to use the Yale school classification to describe a broader set of works that are not connected to that earlier, more narrow, use. (2) Calling the work in macroeconomics currently done at Yale a “school” distinguishes it too much. The work that goes on in Yale is similar to the work that goes on in any top graduate economics program. It is not so clear how the work at Yale differs from, for example, MIT or Princeton. It would need to be more distinct to warrant calling it a “school.” (3) There is a diversity of approaches that are used at Yale, and it is not clear that they actually fit together. For example, Chris Sims's work follows from a time-series statistics tradition with influences from real-business-cycle and calibration work; Shiller's work follows from a Keynesian tradition. Fitting them together requires a bit of a stretch. (4) The degree of continuity in the Yale school over time is not as great as I had first imagined. There was little linkage at Yale from Irving Fisher to Jim Tobin; thus the historical continuity needed for specifying a Yale school does not exist. These objections are elaborated in the dialogues below. After discussing these issues with a number of Yale faculty, I decided that there probably wasn't a Yale school of economics, but that there was a Yale tradition. We also decided to have a conversation with only two individuals—Jim Tobin and Bob Shiller—because they are major figures in maintaining what I believe is a Yale tradition. The conversations were held separately, although I asked many of the same questions to both, and focused much of the conversation on the issue of whether it is useful to distinguish a Yale school. Thus, the conversations discuss the work of other individuals at Yale more than a dialogue with another focus would have, and do not cover Tobin's or Shiller's current work as much as conversations with an alternative focus would have. The results are, I believe, interesting. They provide some useful insight into both the Yale tradition and current thinking and debates in macro.

This study evaluates the accuracy of a set of techniques that approximate the solution of continuous-time Dynamic Stochastic General Equilibrium models. Using the neoclassical growth model, I compare linear-quadratic, perturbation, and projection methods. All techniques are applied to the Hamilton–Jacobi–Bellman equation and the optimality conditions that define the general equilibrium of the economy. Two cases are studied depending on whether a closed-form solution is available. I also analyze how different degrees of non-linearities affect the approximated solution. The results encourage the use of perturbations for reasonable values of the structural parameters of the model and suggest the use of projection methods when a high degree of accuracy is required.

We develop a macroeconomic model in which the government does not guarantee to repay debt. We ask whether movements in the price of government bonds can be rationalized by lenders' unwillingness to fully roll over debt when the outstanding level of debt exceeds the government's repayment capacity. Investors do not support a Ponzi game in this case, but ration credit supply, thus forcing default at an endogenously determined fractional repayment rate. Interest rates on government bonds reflect expectations of this event. Numerical results show that default premia can emerge at moderately high debt-to-GDP ratios where even small changes in fundamentals lead to steeply rising interest rates. The behavior of risk premia broadly accords with recent observations for several European countries that experienced a worsening of fundamental fiscal conditions.

We evaluate whether the spirit of capitalism improves the ability of the real business cycle model to explain the main features of both asset return and the business cycle. In our model, the spirit of capitalism is embodied in the assumption that individuals have preferences for financial wealth. Our simulation results suggest that this assumption may improve the model's ability to explain the risk-free rate puzzle but not the equity premium puzzle. This assumption also markedly deteriorates the model's ability to account for the main features of the business cycle.

This paper develops a two-sector small open economy model to analyze the effects of the currency denomination of debt on default risk and interest rates in emerging market economies. Default risk is determined endogenously and depends on the incentives for repayment. The economy can borrow using tradable-denominated nonindexed bonds or bonds whose return is indexed to the domestic price index, which are used as proxies for foreign currency and domestic currency debt, respectively. The model predicts that foreign currency debt leads to lower default risk for high output levels and domestic currency debt reduces the default risk for low output levels. Although the effect of debt denomination on default risk changes with the output level, the default rate of the economy and average interest rates decline as domestic currency borrowing increases. In addition, domestic currency borrowing is found to reduce the countercyclicality of interest rates and the trade balance.

In this paper, we study the equilibrium dynamics of an overlapping generations model with capital, money, and cash-in-advance constraints. At each period, the economy can experience two different regimes: Either the cash-in-advance constraint is binding and money is a dominated asset, or the constraint is strictly satisfied and money has the same return as capital. When the second regime occurs, we say that the economy experiences a temporary bubble. We show the existence of temporary bubbles, and we prove that cyclical equilibria may exist. In these equilibria, the economy experiences some periods without bubbles and some periods with bubbles. We also show that monetary creation can be used to eliminate temporary bubbles.

We model agents' endogenous updating of information sets over time under changing macroeconomic conditions. Building on sticky information models, the degree of inattentiveness is endogenized by allowing agents to choose between a costly full-information predictor and a costless sticky-information predictor. This is modeled as a choice between discrete alternatives under rational inattention. Recursive simulation shows that the dynamic equilibrium paths of aggregate variables are highly persistent and match the moments of U.S. data better than a model with fixed sticky information or with sticky prices, especially with regard to higher moments and the degree of persistence. Predictors are chosen in line with the predictions from rational inattention models, as the aggregate degree of attentiveness increases with rising variance of the forecast variable. Moreover, the model can generate hump-shaped impulse responses of inflation to a monetary policy shock if the degree of inattentiveness is sufficiently high.

Rocheteau, Rupert, and Wright [Scandinavian Journal of Economics 109 (2007), 837–855] show that the relationship between inflation and unemployment can be positive or negative, depending on the primitives of the model. The key features are indivisible labor, nonseparable preferences, and bargaining. Their results are derived only for a special case of bargaining, take-it-or-leave-it offer by buyers. Instead of bargaining, this paper considers competitive search. I show that the results of Rocheteau et al. can be generalized to an environment where both buyers and sellers have nonseparable preferences. In addition, the relationship between inflation and unemployment is robust to allowing free entry by sellers, which cannot be studied in Rocheteau et al. (2007).

Trade in intermediate goods is an important feature of trade in developed small open economies. We show that a model that assumes trade in intermediate goods brings the dynamics of an otherwise standard small open economy closer to what is observed in the data. With trade in intermediate goods, movements of international relative prices affect the economy through an additional channel, denoted the “cost channel.” A model embedding this channel comes closer to business cycle data in several dimensions compared to models with trade in final goods only. It increases the share of output variance explained by foreign shocks, lowers the exchange rate pass-through, and delivers a positive international correlation of outputs. In addition, the matching of other business cycle moments is at least as good as in a model with trade in final goods only.

It has been shown that the Ramsey growth model with agents that differ in their initial wealth endowments is compatible with a wide range of distributional outcomes, yet it is difficult to characterize under which circumstances the distribution of wealth becomes more or less unequal. In this note, we characterize the steady state distribution of wealth and compare it to the initial distribution, obtaining analytical conditions for one to be more skewed than the other. We show that whether wealth inequality increases or decreases during the transition to the steady state depends on simple and intuitive conditions on parameter values. Standard values for these parameters indicate that it is more likely that wealth inequality decreases as the economy accumulates capital.

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.

This study estimates the response of macroeconomic variables to stock market fluctuations in Japan and the United States. It emphasizes the economy's reaction to stock market bubbles and crashes. To do this, I propose a new way to identify bubbles and crashes by testing price-to-fundamental ratios using the newly developed trend-filtering approach. Regardless of the measures used, both countries' macroeconomy tends to respond positively to the positive shock of stock price. Asymmetric effects of the stock market are observed. Japan's macroeconomic variables, especially investment and industrial production, are more sensitive to market crashes, while those of the United States are more sensitive to stock bubbles. Finally, I provide evidence that market sentiment can affect the economy either directly or indirectly through the stock market.

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.

Yes, indeed; at least for macroeconomic policy interaction. We examine a Neo-Classical economy and provide the conditions for policy arrangements to successfully stabilize the economy when agents have either rational or adaptive expectations. For a contemporaneous-data monetary policy rule, the monetarist solution is unique and stationary under a passive fiscal/active monetary policy regime if monetary policy appropriately incorporates expectational heterogeneity. In contrast, the active fiscal/passive monetary policy regime's fiscalist solution is prone to explosiveness due to empirically plausible expectational heterogeneity. Nevertheless, this can be a well-defined, rather orthodox equilibrium. For operational monetary policy rules, only the results for the fiscalist solution prevail. Moreover, our results are plausible from an adaptive learning viewpoint.

We introduce increasing returns to scale into an otherwise standard New Keynesian model with capital, and study the determinacy and E-stability of equilibrium under Taylor-type interest rate rules. With very mild increasing returns supported by empirical research, the conventional wisdom regarding the design of interest rate rules can be overturned. In particular, the “Taylor principle” no longer guarantees either determinacy or E-stability of the rational expectations equilibrium.

Daily financial returns (and daily stock returns, in particular) are commonly modeled as GARCH(1, 1) processes. Here we test this specification using new model evaluation technology developed by Ashley and Patterson that examines the ability of the estimated model to reproduce features of particular interest: various aspects of nonlinear serial dependence, in the present instance. Using daily returns to the CRSP equally weighted stock index, we find that the GARCH(1, 1) specification cannot be rejected; thus, this model appears to be reasonably adequate in terms of reproducing the kinds of nonlinear serial dependence addressed by the battery of nonlinearity tests used here.