resarch.html

Current Research (A lot of this material was developed under NSF grants number SBR-9309514, SES-9110991, 0079504, and 0351451.

Credit Lines Joint with Xavier Mateos-Planas (Dec 2007). We develop and solve a model of credit lines. Credit lines are long term relations between banks and households that prespecify a credit limit and have a fixed interest rate. Households can unilaterally default according to U.S. Bankruptcy law, and can switch credit lines at will, albeit at a (utility) cost. Banks issue costly lines to households and they can either have to commit to them or not (we look at both cases). We solve and characterize the equilibria. We find that this model replicates the main properties of typical lending contracts and that it holds a lot of promise for quantitative work.

On the Welfare Implications of Financial Globalization without Financial Development Joint with Enrique Mendoza and Vincenzo Quadrini (July 2007). It is widely argued that countries can reap large gains from liberalizing their capital accounts if financial globalization is accompanied by the development of domestic institutions and financial markets. However, if liberalization does not lead to financial development, globalization can result in adverse effects on social welfare and the distribution of wealth. We use a multi-country model with non-insurable idiosyncratic risk to show that, if countries differ in the degree of asset market incompleteness, financial globalization hurts the poor in countries with less developed financial markets. This is because in these countries liberalization leads to an increase in the cost of borrowing, which is harmful for the poor because they have larger liabilities relatively to their assets. The quantitative analysis shows that the welfare effects are sizable and can justify policy intervention.

Redistributive Shocks and Productivity Shocks Joint with Raul Santaeulalia-Llopis (March 2007). We document the cyclical properties of the labor share: it is quite volatile; an innovation to productivity produces an initial reduction of labor share, making it countercyclical, but it also produces a long-lasting subsequent increase that peaks five years later at a level larger in absolute terms than the initial drop. We pose and estimate a bivariate shock to the production function that, under the assumption of competition in factor markets, simultaneously accounts for movements in the Solow residual and in the factor shares of production. We then incorporate this bivariate process into an otherwise standard real business cycle model and compare the outcomes with those that result from the specification of a univariate productivity shock that matches the properties of the Solow residual. The volatility of hours worked in the bivariate shock economy is a lot smaller than that in the standard univariate shock economy (about 33\% of the standard deviation or 11\% of the variance), with productivity innovations in the bivariate economy generating 6\% of the variance of hours displayed in the univariate economy. The effect of the productivity innovation on labor share reduces dramatically the incentives to work now relative to later both because wages will increase later and because the rate of return will go down. This behavior can be described in terms of a very strong positive wealth effect in the bivariate shock economy relative to the univariate shock economy, while the implied substitution effects tend to delay, first intra- and then intertemporally, the response of hours and not to mitigate them. Our results hold independently of the Frischian elasticity of labor supply. We conclude that understanding the cyclical movements of labor share, and hence constructing a theory of its particular movements should become an important piece of business cycle research.

Financial Integration, Financial Deepness and Global Imbalances Joint with Enrique G. Mendoza and Vincenzo Quadrini , (February 2007). Large and persistent global financial imbalances need not be the harbinger of a world financial crash. Instead, we show that these imbalances can be the outcome of financial integration when countries differ in financial markets deepness. In particular, countries with more advanced financial markets accumulate foreign liabilities in a gradual, long-lasting process. Differences in financial deepness also affect the composition of foreign portfolios: countries with negative net foreign asset positions maintain positive net holdings of non-diversifiable equity and FDI. Abstracting from the potential impact of globalization on financial development, liberalization leads to sizable welfare gains for the more financially-developed countries and losses for the others. Three empirical observations motivate our analysis: (1) financial deepness varies widely even amongst industrial countries, with the United States ranking at the top; (2) the secular decline in the U.S. net foreign asset position started in the early 1980s, together with a gradual process of international capital markets liberalization; (3) net exports and current account balances are negatively correlated with indicators of financial development.

A Finite-Life Private-Information Theory of Unsecured Consumer Debt Joint with Satyajit Chatterjee and Dean Corbae, (March 2007). We present a theory of unsecured consumer debt that does not rely on utility costs of default or on enforcement mechanisms that arise in repeated-interaction settings. The theory is based on private information about a person's type and on a person's incentive to signal his type to entities other than creditors. Specifically, debtors signal their low-risk status to insurers by avoiding default in credit markets. The signal is credible because in equilibrium people who repay are more likely to be the low-risk type and so receive better insurance terms. We explore two different mechanisms through which repayment behavior in the credit market can be positively correlated with low-risk status in the insurance market. Our theory is motivated in part by some facts regarding the role of credit scores in consumer credit and auto insurance markets.

An Aggregate Economy with Different Size Houses Joint with Virginia Sanchez-Marcos, (September 2006). We build an aggregate model with different size houses and liquid assets. Typical households are born, are subject to idiosyncratic earnings risk and save for both life cycle reasons and housing reasons. Typically, a subset of these households, after accumulating some assets, put a down payment and buy a small, starter's, house or flat. As time passes, some households upgrade to a larger and nicer house. Households with houses may also eventually downgrade to a flat or even to no house and flat owners may sell. Our specification attempts to replicate some important features of modern aggregate economies: The distribution of earnings and of housing and non-housing wealth as well as some macroeconomic aggregates, including features of the mortgage issuing sector.

Social Security, Life Insurance and Annuities for Families Joint with Jay Hong, (September 2006). We ask whether some aspects of social security, namely its role as providing insurance against uncertain life spans is welfare enhancing. We pose and calibrate models with agents differing in age, sex and marital histories where we compare the implications of different social security policies under a variety of market structures. We find no support for social security policies for the standard reasons. We do find some support for maintaining the Survivor Benefits program within social security. Everything else equal, phasing out Survivors' Benefits into standard social security reduces the wellbeing of people by .03 percent of consumption on a flow basis. We also explore these issues in a world with people live longer and we find no differences in our answers.

Life Insurance and Household Consumption Joint with Jay Hong, (This version June 2006). We use data of life insurance holdings by age, sex, and marital status to infer how individuals value consumption in different demographic stages. Essentially, we use revealed preference to estimate equivalence scales and altruism simultaneously in the context of a fully specified model where agents face U.S. demographic features and have access to savings markets and life insurance markets. Our findings indicate that individuals are very caring for their dependents, that there are large economies of scale in consumption, that children are costly, that wives with children produce a lot of goods in the home and that while females seem to have some form of habits created by marriage, men do not. These findings contrast sharply with the implications of standard notions of equivalence scales.

Constrained Efficiency in the Neoclassical Growth Model with Uninsurable Idiosyncratic Shocks Joint with Julio Davila, Jay Hong and Per Krusell (July 2005) We investigate the welfare properties of the one-sector neoclassic growth model with uninsurable idiosyncratic shocks. We focus on the constrained efficiency notion of the general equilibrium literature, and we demonstrate constrained inefficiency for our model. We provide a characterization of constrained efficiency that uses the first-order condition of a constrained planner's problem that points to the margins of relevance for whether capital is too high or too low: the income composition of the (consumption-)poor. We calibrate our benchmark model parameters governing idiosyncratic risks to the U.S. earnings and wealth distribution, and for this distribution the income of the poor is mainly composed of labor earnings. We compute the constrained-efficient allocations--including transition dynamics--for our model economy, and we conclude that the long-run capital stock in a laissez-faire world is not only too low, but much too low. We also show that one can find parameterizations with different qualitative features: in one case, the steady-state capital stock is too high, and in another case no steady state exists.

On the The Living Arrangements of Elderly Widows Joint with Carlos Bethencourt. (Version January 2007). Between 1970 and 1990 the share of elderly widows living alone grew by 23.2% in the U.S. (from 52.1% to 64.2%), the share living with their children decreased in a similar magnitude, while the other types of living arrangements remained stationary. In the same period there was a moderate increase in national incomes and a big increase in the income of widows. We pose a variety of models of the determination of living arrangements between widows and their children where living together provides consumption gains due to economies of scale, and it may also provide utility directly. We estimate those models using 1970's data and for some of them we obtain an excellent fit despite the fact that the data display a very nonlinear relation between living arrangements and income. We use the models to measure the contribution of income changes on changes in living arrangements. Our findings are very sharp. The simplest version of the model performs very good and it predicts that changes in the incomes of both the widow and her off-spring generates three quarters of the increase in the number of elderly widows that live alone. An extension of the basic model that takes into account the marital status of children provides slightly better estimates and imputes one half of the observed changes in living arrangements to changes in the incomes and in the marital status of the children.

Time-Consistent Public Policy Joint with Paul Klein and Per Krusell (This version September 2007). In this paper, we study the optimal choice of public expenditures when there is no way of committing to future policy and "reputational" mechanisms are not operative. This amounts to confining our attention to Markov equilibria. The environment is a neoclassical growth model where consumers derive utility from a public good. This environment gives rise to a dynamic game between successive governments and the private sector and this game is made interesting by the presence of a state variable: the capital stock. We characterize equilibria in terms of an intertemporal first-order condition (a "Generalized Euler Equation", or GEE) for the government and we use this condition both to gain insight into the nature of the equilibrium and as a basis for computation. The GEE reveals how the government optimally trades off tax wedges over time. It also allows us to discuss in what sense a current government may be strategically influencing future governments in their taxation decisions. For a calibrated economy, we find that when the tax base available to the government is capital income --an inelastic source of funds at any moment in time-- the government still refrains from taxing at high rates in order to smooth distortions over time. As a result, the economy is far from the mix of public and private goods that would be optimal in a static context, but the capital stock and production are high.

Families as Shocks Joint with Luis Cubeddu, In this paper we show the quantitative importance of the process that determines changes in family composition to determine the main macroeconomic magnitudes. We do so by modelling family type as a stochastic process that affects households in a way similar to shocks to earnings. Agents respond to these process by optimally choosing savings. We show that the size of savings differs dramatically depending on the details of the stochastic process. The model is quantitative: its fundamental parameters are estimated using U.S. data. (JEEA 1, 2-3, April/May 2003, 671-682).

Default and Aggregate Fluctuations in Storage Economies. Joint with Makoto Nakajima (July 2002). In this paper we extend Chatterjee, Corbae, Nakajma and Rios-Rull (2001) to include aggregate real shocks to economic activity. The model, that includes agents that borrow and lend, and that has endogenous default and credit limits, allows us to explore the extent to which aggregate events are amplified or smoothed via the mechanism of household bankruptcy filings. In the model agents are subject to shocks to earnings opportunities, to preferences and to their asset position and borrow and lend to smooth consumption. On occasion, the realization of the shocks are bad enough that agents take advantage of the opportunities provided by the U.S. Bankruptcy Code and file for bankruptcy which wipes out their debt at the expense of both being banned from borrowing for a certain amount of time and of incurring in transaction costs. The incentives to default are time varying and depend on general economic conditions. The model is quantitative in the sense that its fundamental parameters are estimated using U.S. data, and the model can replicate the aggregate conditions of the U.S. economy. We show that the model accounts for the very high number of bankruptcies in the last few years, and report the statistics produced by the model economies with various aggregate shocks. Based on the outputs, we analyze the reaction of households to various aggregate real shocks, and discuss the aggregate implications of the reaction and the direction that the model might be further extended to. (Forthcoming in "Essays in Honor of Herbert Scarf", Cambridge University Press).

The Success and Failure of Reforms in Transition Economies. Joint with Stephen Parente. (This Version, June 2004). This paper argues that Russia’s performance and China’s performance under capitalism have differed dramatically because different arrangements governing the determination of prices and work practices evolved during the transition process. In Russia, the arrangement, which conferred monopoly rights to industry groups left over from socialism, prevented the adoption of better technology. In China, the arrangement that evolved contained no such monopoly elements. The key factor in determining which arrangement evolved was the strength of industry relative to the central government at the start of the transition. We put forth a model that implements these ideas and provide evidence in support of this theory.

College Attainment of Women Joint with Virginia Sanchez Marcos. (May 2002). Up to the late seventies, the ratio of college attainment between men and women was about 1.6. In a world where all people remain single and investment in education is seen as a pure investment project this can be rationalized given the much higher return in term of earnings of males relative to females. However, in the U.S. assortative mating within education classes in marriage is large, implying that the effective rate of return of college attainment is very similar for men and for women which makes females low college attainment puzzling. In this paper we document this puzzle, and we explore various theories to account for it while abstracting from education induced fertility differences. These theories include i) that college educated fathers have a comparative advantage in educating their own children, ii) that there is no income-pooling in biparental households, iii) that college attainment is more expensive in terms of foregone home production for females, iv) that parents like their boys more, and v) that people care about the number of grandchildren. There are three main findings in the paper. First, that when we abstract from education related differences in fertility, the theory that poses an extra cost to females for attending college is the most successful in explaining the data. Second, that differences in fertility provide an explanation to the sex college attainment ratio when parents are altruistic. Third, that posing an advantage to educated parents in educating their children plays a crucial role to account for the intergenerational persistence of education. (RED, 5, 4, 965-998).

Updated Facts on the U.S. Distributions of Earnings, Income and Wealth. Joint with Santiago Budria, Javier Diaz-Gimenez, Vincenzo Quadrini. (Revised in August 2002). QR. We provide some facts about inequality based on the most recent data available (98 SCF) (QR Summer 2002).

Desigualdad, ¿Qué sabemos? José Víctor Ríos Rull. (In Spanish). En este artículo repaso el estado actual de nuestros conocimientos sobre qué factores justi.can la desigualdad en renta y riqueza entre las familias. En particular, reivindico la suficiencia de los shocks a la renta como mecanismo generador de diferencias de riqueza entre los hogares.

Investigaciones Economicas

A Quantitative Theory of Unsecured Consumer Credit with Risk of Default Joint with Satyajit Chatterjee, Dean Corbae, and Makoto Nakajima. Version, December 2006. We study, theoretically and quantitatively, the general equilibrium of an economy in which households smooth consumption by means of both a riskless asset and unsecured loans with the option to default. The default option resembles a bankruptcy filing under Chapter 7 of the U.S. Bankruptcy Code. Competitive financial intermediaries offer a menu of loan sizes and interest rates wherein each loan makes zero profits. We prove existence of a steady-state equilibrium and characterize the circumstances under which a household defaults on its loans. We show that our model accounts for the main statistics regarding bankruptcy and unsecured credit while matching key macroeconomic aggregates and the earnings and wealth distributions. We use this model to address the implications of a recent policy change that introduces a form of "means-testing" for households contemplating a Chapter 7 bankruptcy filing. We find that this policy change yields large welfare gains.

Optimal time-consistent taxation with international mobility of capital Joint with Paul Klein and Vincenzo Quadrini. (June 2005). The United States taxes capital more than countries in continental Europe do. In this paper, we ask what can account for this. Our approach is to look at Markov perfect equilibria of a two--country growth model where both governments use labor, capital and corporate taxes to finance exogenously given streams of public expenditure under period-by-period balanced budget constraints. There is no commitment technology and the equilibrium policies are time-consistent. We find that differences in productivity and size, and government spending can account for the heavy American reliance on capital taxation.
What Accounts for the Increase in the Number of Single Households? Joint with Ferdinando Regalia. (Feb. 2001). Between the mid seventies and the beginning of the nineties the share of single females grew dramatically in the U.S. (from 17% to 30%). So did the share of single mothers (from 12% to 17%). At the same time relative wages within and between sexes underwent huge changes. In this paper we measure the contribution that changes in relative wages had in accounting for these and other demographic facts. We construct a model where agents differ in sex, take marital status and fertility decisions and invest in their children's human capital. Our findings show that changes in relative earnings potential account for: i) almost ninety percent of the observed change in the share of single women, and ii) all the observed change in the share of single mothers, with a sharper increase among poor women. This occurs mainly through a drop in the model economy marriage rate that mimics the pattern found in the data.

Implementing the 35 Hour Workweek by Means of Overtime Taxation Joint with Victoria Osuna. (This version March 2002). In this paper we study the implications of taxing overtime work in order to reduce the workweek. To this purpose we study the roles played by team work, commuting costs and idiosyncratic output risk in determining the choice of the workweek. In order to obtain reliable estimates of the consequences of our policy experiment, we calibrate our model economy to the substitutability between overtime and employment using business cycle information. We find that a tax-rate of 12% of overtime wages implements the desired reduction of the workweek form 40 to 35 hours (12.5%). We also find that this tax change increases employment by 6.7% and reduces output and productivity by 10.2 and 4.1%, respectively. We also study a model economy with cross-sectional variations in the workweek that arise from plant-specific output risk and we find that in this model economy the taxrates needed to achieve the same workweek reduction are significantly larger. Finally, we find that taxing overtime dampens the business cycle fluctuations and that its welfare costs seem to be very large. (RED, Vol 6, 1, 179-206).

Habit Formation: Implications for the Wealth Distribution Joint with Antonia Diaz and Josep Pijoan-Mas. (Aug 2002). JME. We study the role of habit formation in shaping the amount of precautionary savings and the wealth distribution in heterogeneous agents model economies with idiosyncratic uncertainty. We adjust preferences to equate the Intertemporal Elasticity of Substitution in all model economies. We find that habit formation brings a hefty increase in precautionary savings and very mild reductions in the coe±cient of variation and in the Gini index of wealth. These findings hold for both persistent and non persistent habits, with the effects of the former being much larger. (JME, Vol 50, 6, 1257-1291).

On the Equilibrium Concept for Overlapping Generations Organizations Joint with Edward C. Prescott. Jan 2004 Version. A necessary feature for equilibrium is that beliefs about the behavior of other agents are rational. We argue that in stationary OLG environments this implies that any future generation in the same situation as the initial generation must do as well as the initial generation did in that situation. We conclude that the existing equilibrium concepts in the literature do not satisfy this condition. We then propose an alternative equilibrium concept, organizational equilibrium, that satisfies this condition. We show that equilibrium exists, it is unique, and it improves over autarky without achieving optimality. Moreover, the equilibrium can be readily found by solving a maximization program.

Consumption Smoothing and Extended Families joint with Orazio Attanasio. This is the invited lecture that Orazio Attanasio presented in the 2000 World Congress in Seattle. Dec 2000 version. In this paper we review the mechanisms to smooth consumption in village economies that we take to be small and subject to lack of commitment. We look at the implications of first best allocations and their empirical support. We next review the constrained allocations and also look at their empirical evidence. We show how some well intentioned policies may be quite bad. We describe a class of policies with the potential of enforcing the social fabric behind the private insurance arrangements.
Time-Consistent Optimal Fiscal Policy joint with Paul Klein. (Version September 2002). This paper studies the properties of optimal fiscal policy in a stochastic growth model when the government cannot commit itself beyond the next period's capital income tax rate. We find that the properties of optimal fiscal policy in this case differ dramatically from those of the full commitment solution. In particular, (i) capital income tax rates are very high (65% on average versus close to zero on average under full commitment), (ii) labor income taxes are rather low on average (about 12% versus a value of around 31% under full commitment), and (iii) labor income taxes are volatile (in some cases its coefficient of variation is higher than that of the capital income tax rate), while under full commitment their standard deviations are essentially zero. (IER Vol 44, 4, 1217-1246).

Population Changes and Capital Accumulation: The Aging of the Baby Boom. Version of February 2001. BJEM. In this paper I explore the quantitative implications for savings of population aging. In doing so, I pay particular attention to some features that have been partially over-sought in the literature. These features include the details of the population aging process, the initial conditions with respect to assets holdings and the family size for consumption purposes. In order to do so, I develop recursive methods capable of dealing with overlapping generation environments where the population is stochastic. The main findings are that if population patterns revert to the averages of the last 50 years, the reduction in aggregate savings due to changes in the age structure of the population is small. If, however, the demographic process is such that fertility patterns remain at their current low levels, then the effects of the aging of the baby boom are very large. The contribution of general equilibrium effects is to exacerbate the reduction of savings since population aging tends to make labor relatively scarce, and, therefore, to reduce rates of return of capital, which in turn reduces savings even further.

Accounting for Earnings and Wealth Inequality August 2002 version. Joint with Ana Casta~neda and Javier Diaz-Gimenez. JPE. We show that a theory of earnings and wealth inequality based on the optimal choices of ex-ante identical households who face uninsured idiosyncratic shocks to their endowments of e.ciency labor units accounts for the U.S. earnings and wealth inequality almost exactly. Relative to previous work, we make three major changes to the way in which this basic theory is implemented: (i) we mix the main features of the dynastic and the life-cycle abstractions, that is, we assume that our households are altruistic, and that they go through the life-cycle stages of working-age and of retirement; (ii) we model explicitly some of the quantitative properties of the U.S. social security system; and (iii) we calibrate our model economies to the Lorenz curves of U.S. earnings and wealth as reported by the 1992 Survey of Consumer Finances. Furthermore, our theory succeeds in accounting for the observed earnings and wealth inequality in spite of the disincentives created by the mildly progressive U.S. income and estate tax systems, that are additional explicit features of our model economies.
There is also an older version of the paper that assessed the implications of a change of taxes. Earnings and Wealth Inequality and Income Taxation: Quantifying the Trade-Off's of Switching to a Proportional Income Tax in the U.S.

Consumption Smoothing in Island Economies: Can Public Insurance Reduce Welfare. Joint with Orazio Attanasio. EER. There is also a pdf version. In this paper we study the effects of public compulsory insurance arrangements for aggregate shocks on private allocations in environments with limited commitment. This type of insurance can improve the wellbeing of private situations, but it can also deteriorate it. The reason behind this feature is that insurance makes the consumption of the agents endowment better, which reduces the discipline that enforces private insurance arrangements. We also describe how different characteristics of the environment affect the role of public insurance. We conclude that the introduction of public insurance schemes requires the careful study of the environment where they apply, in particular, of the relation between aggregate and idiosyncratic uncertainty.
On the Size of the U.S. Government: Political Economy in the Neoclassical Growth Model. There are four graphs that go with it. Figure 1 Figure 2 Figure 3 Figure 4 (4/5/99 version) Joint with Per Krusell. There is also a pdf version. In this paper we study the whether endogenously determined transfers can account quantitatively for the observed government transfers in the U.S. We find that it in model calibrated to the US earnings and wealth inequality equilibrium lump sum transfers constitute around 6% of GDP, while in the data, social security and Medicare (the transfers that are not very income dependent) are 6.8%. We also study a variety of features of the economic and political environments that affect the findings. (AER.

Measuring Inequality: Facts on the Distribution of Earnings, Income and Wealth (Joint with Javier Diaz-Gimenez and Vincenzo Quadrini). QR. This paper reports some properties of the distribution of earnings, income and wealth and how they relate to different household characteristics as reported in the 1992 Survey of Consumer Finances. Also, the PSID is used to study the mobility properties of households with respect to these variables.
Understanding the U.S. Wealth Distribution (Joint with Vincenzo Quadrini). QR. In this paper we review some of the computable general equilibrium models based on uninsurable shocks to earnings that can be used to account for differences in wealth holdings across households. We explore their ability to generate the key properties of the data (which we summarize by (a) a very small amount of wealth among the poorest 40% of the population (about 2% of total wealth), (b) a very large amount of wealth in the top groups (the top 1% holds 30% of total wealth while the top quintile holds almost 80%), and (c) a Gini Index larger than .75). We conclude that models based solely on earnings shocks cannot account for these properties of the data, and that other ingredients are needed. We review some of these ingredients that have started to be used in the literature.

Marital Risk and Capital Accumulation (Joint with Luis Cubeddu). (6/18/97 pdf version.) In this paper, we assess the role played by the changes in family composition that have ocurred in the U.S. in the last 25 years in shaping the behavior of aggregate savings. Over this period the share of households that are single with dependents has grown dramatically at the expense of higher saving married households, while household savings have declined equally dramatically. To answer this question we pose a quantitative general equilibrium with individuals that differ by age and sex and undergo changes in the type of household that they form. Our findings indicate that pure changes in the patterns of household formation generate a modest decline in savings since faced with greater ``marital risk'' each type of household saves more in a high divorce-high illegitimacy regime, partially offsetting the decline in the number of high-saving married households. When we account for the changes in household specific patterns that have happened since the sixties in the form of higher earnings for females, the model predicts higher savings in the 80's than in the sixties. This findings lead us to conclude that the observed decline in savings is not due to changes in the demographic patterns of household formation, but to other causes, most presumible changes in fiscal policy.

Computation of Equilibria in Heterogeneous Agent Economies These notes constitute the material given at a series of lectures in the European University Institute, the University of California at los Angeles and the University of Pennsylvania.
The Balance of Payments and Borrowing Constraints: An Alternative View of Recent Events in Mexico (Joint with Andy Atkeson). Formerly titled "How Mexico Lost Its Foreign Exchange Reserves". JIE. In standard models of the balance of payments, crises occur when investors begin to doubt the credibility of the government's commitment to its exchange rate policy. In this paper, we develop an alternative model in which balance of payments crises occur even if the credibility of government fiscal, monetary, and exchange rate policies is never in doubt. In this alternative model, international lending is constrained by the risk of repudiation. Balance of payments crises occur when the government and citizens of a country hit their international borrowing constraints. Our model is broadly consistent with events in Mexico from 1987-1995. More generally, our model suggests that countries which undertake sweeping macroeconomic and structural reforms should expect to face a balance of payments crisis when they exhaust their access to international capital inflows.

Capital-Skill Complementarity and Inequality. (joint with Per Krusell, Lee Ohanian, and Giovanni L. Violante, version of July 97). Econometrica. We explore how different specifications of an aggregate production function can be used to account for some properties of the aggregate data: the movements in the relative prices of inputs. Specifically, we are interested in whether a production function that explicitly distinguishes between skilled and unskilled labor is consistent with the relative wages of these two groups, given the observed changes in their relative quantities and the increases in the stock of equipment that have accompanied the drastic decline in the price of equipment goods. Our theory amounts to a candidate explanation for the increase in the skill premium, since it is well known that skilled labor is more complementary with capital than is unskilled labor. We also use our theory and postwar data to make inferences about the growth of the levels of human capital associated with each of the two skill groups.

You can download the data we used for this paper as an ASCII file.

Simulation-Based Estimation of a Nonlinear, Latent Factor AggregateProduction Function. (joint with Per Krusell, Lee Ohanian, and Giovanni L. Violante). In this paper, we analyze in detail econometric issues associated with the specification and estimation of an aggregate, nonlinear production function with latent variables. The production function has been used to assess the extent to which different substitution possibilities between capital, unskilled labor, and skilled labor can account for the recent increase in wage inequality. We use Monte Carlo methods to evaluate the performance in our environment of three different simulation-based estimation procedures, Stochastic Integration, Extended Kalman Filter with Indirect Inference correction and Simulated Pseudo ML, with a focus on how reliable these techniques are in small samples and when the latent variables have trends. We find that when the unobservable states are modeled as trend stationary processes the estimators peform much better than when the states are specified as I(1) series. For the trend stationary specification, the simulated MLE was judged to be the best method on the ground of precision and computational efficiency. The results of the estimation suggest that capital-skill complementarity, coupled with the sharp recent drop in relative prices of equipment, triggered the observed rise in wage inequality.
On the Quantitative Importance of Market Completeness. JME. This paper quantitatively compares allocations in calibrated large overlapping generations growth that only differ in their market structures for insuring against aggregate risk. The findings are that the equilibrium behavior of aggregate variables is very similar across all market structures. Journal of Monetary Economics 34 (1994) 463-496.

Politico-Economic Equilibrium and Growth (joint with Per Krusell and Vincenzo Quadrini). A study of the role that the distribution of wealth has in determining the rate of growth of an economy according to how taxes are endogenously chosen to distribute wealth. Forthcoming in JEDC. HAY VERSION E CASTELLANO Equilibrio Politico-Economico y Crecimiento Economico.
Politico-Economic Transition (joint with Per Krusell) (Version December 2001). REDesign. We propose a political theory of transition from a non-market to a market economy. Economic success in the model is synonymous with the adoption of new production techniques and this process requires explicit investment in human capital. Economic policy consists of regulation of the process of technology adoption, and a key aspect of the economy is that there is inherent disagreement in the population over how this policy should be conducted. Our theory has the following features: (i) that an economic transition is associated with a substantial drop in output; (ii) that it is in the interest of large groups in the population to resist the reforms; (iii) that democratization is not sufficient for an economically successful transition---indeed it will lead to ``backward'' policies and slow growth; and (iv) that an interim period that departs from majority rule which imposes laissez-faire is necessary for long-run prosperity to be sustainable in the context of democratic policy determination.

Heterogeneous Agents Economies. A description of the state of the art in computational methods to study business cycle in environments characterized for the existence of heterogenous agents. Chapter IV in Frontiers in Business Cycles Research, edited by Tom Cooley.
Life-Cycle Economies and Aggregate Fluctuations. RES. This paper asks the questions of whether the quantitative implications of productivity shocks for business cycles found using representative agents models also hold in overlapping generations economies. The finding is that they do. Forthcoming in the Review of Economic Studies.
On the Existence, Uniqueness, and Computability of Non-Optimal Recursive Equilibria in Linear Quadratic Economies. Joint with Sebastian Ceria. A computational procedure to found all recursive competitive equluibria in non-optimal or multiple agents economies is derived.
Vested Interests In a Positive Theory of Stagnation and Growth. Joint with Per Krusell. RES. We study a positive theory of stagnation and growth aimed at understanding the large variations in growth outcomes across actual economies. The theory points to the fundamental role played by vested interests in determining policies which are key to the growth process. In particular, we find that the equilibrium is characterized by a long cycle of stagnation and growth.

Exploring the Income Distribuion Business Cycle Dynamics. (6/19/97 version.) (previously titled Unemployment Spells, Cyclically Moving Factor Shares and Income Distribution Dynamics). There is also a pdf version. Joint with Ana Casta~neda and Javier Diaz-Gimenez. JME. In this paper we quantify the role played by uninsured unemployment spells and cyclically moving factor shares in accounting for the income concentration observed in the U.S. and for some aspects of the income groups' business cycle dynamics. To this purpose, we analyze different heterogeneous household extensions of the stochastic growth model. We find that in an extension in which households are partitioned into five skills groups, uninsured unemployment spells alone account for a significant share of the observed concentration of income (73% of a CPS-based measure of the income Gini index), for most of the income groups' business cycle dynamics (the plots of both the relative volatilities and the correlations with output of the income shares earned by the different income groups represented in their natural ordering essentially display the observed hook- shapes) and for a small share of the observed concentration of wealth (15% of an SCF-based measure of the wealth Gini index). We also find that when we modify the standard technology so that factor shares move cyclically as they do in U.S. data, both the income distribution and its business cycle dynamics remain essentially unchanged. Finally, we find that the business cycle dynamics of our model economy also remain unchanged when we impose the U.S. wealth distribution exogenously on this model economy. We conclude that the role played by uninsured unemployment spells in determining the income distribution business cycle dynamics is significant, and that the role played by cyclically moving factor shares is small.

Are Consumption Taxes Really Better Than Income Taxes? Joint with Per Krusell, and Vincenzo Quadrini. JME. We use political-equilibrium theory and the neoclassical growth model to compare the quantitative properties of different tax systems. We first explore whether societies which can only use consumption taxes fare better than societies which can only use income taxes. We find that if government outlays are used for redistribution through transfers, then the answer is no, contradicting conventional wisdom in public finance. The reason for this is that when taxes are endogenous, and voted on by a selfish constituency, the distortionary effects of taxation are taken into account in choosing the level of taxation. Hence, political equilibria have the property that taxes which are relatively distortionary will be relatively low. These results may be overturned if the government outlays are used only for the providing of public goods; then, less distortionary taxes often give better outcomes. We also investigate the properties of a tax system in which both consumption and income taxes are set and voted on simultaneously. Since the ability to use more tax instruments allows redistribution with less distortions, the total amount of transfers tends to be higher here than in one-tax systems. Typically, tax systems are self-perpetuating in the sense that a change of tax systems results in a reduction in the welfare of the median voter.

Working in the Market, Working at Home, and the Acquisition of Skills: a General Equilibrium Approach. AER. People with high wages tend to work more hours than people with low wages. Over time, there has been a substantial growth of the real wage accompanied by either a stable or a decreasing number of hours worked per household. This paper presents a stochastic overlapping generations model which generates heterogeneous agents behavior across otherwise identical agents, and reconciles the two stylized facts described. In equilibrium, agents differ in type. The model provides different relations among variables according to whether these variables are measured cross-sectionally or they are time series. This allows us to generate predictions of the behavior of the data along different dimensions (cross-section, long-term trends, age specific, and because the model is of the overlapping generations type, age specific). The facts are reviewed and an example that generates statistics with some of the properties of the ones found in the data, is computed and analyzed. Another example which involves increasing schooling over time is also computed and analyzed. The driving forces of the model are the presence of a home production good with a poor market substitute, and the possibility of choosing whether or not to acquire skills through schooling. American Economic Review, 83, (1993), 893-907.