Working papers results

We systematically assess the recursive performance costs–both ex-ante and ex-post–in recursive real time out-of-sample experiments of implementing diversification strategies that allow occupational investment vehicles (OIVs, like pension funds) to allocate wealth across available assets (equities) by taking into account the presence of regimes and non-stationarities (i.e., structural change in parameters) in the correlation between sector-specific earnings/wages dynamics and stock returns. We find that ex-post, the cost of creating OIVs is negligible and, to the contrary, often negative over our evaluation period: this means that OIVs that exploit and forecast bull and bear regimes end up producing realized performance that are better than those of strategies that do not. The origins of such gains lie in the fact that conditioning on sectorial dynamics, may lead to a more accurate identification and forecasting of regime shifts. Contrary to standard intuition, both ex-ante and ex-post, we find evidence that often an OIV ought to optimally invest in stocks issued either by firms that belong to the same sector that characterizes the OIV or at least from the same country as the OIV.

The recent crisis has emphasized the role of financial - macroeconomic interactions, and international trade in goods and services, in the transmission of the shocks. Both phenomena, closely related to the higher degree of globalization, are very relevant for small open economies, and particularly so when a large share of the economy relies on financial and distribution services. Hence, in this paper we propose to incorporate the banking and distribution sectors into a medium scale DSGE model of a small open economy. As an illustration, the resulting model is then calibrated to match the specific characteristics of the Luxembourg economy, where the financial sector plays a key role. We believe that the results are also of more general interest for studying the reaction of small open economies to real and financial shocks.

We study tender offers for a firm which is owned by one large shareholder who holds less than half of the total shares, and many small shareholders who each hold a unit share. Each shareholder is privately informed, yet uncertain, about the raider's ability to improve the value of the firm, whereas the raider is unin- formed. In the benchmark model of complete information, the raider is unable to make a profit. As shown in Marquez and Yılmaz (2008), the same obtains when the raider is facing only privately informed small shareholders. We show, however, that the combination of private information on the side of shareholders and the presence of a large shareholder can facilitate profitable takeovers. More precisely, for any given information structure, the raider can make a profit if the large shareholder holds a sufficiently large stake in the company. In the unique equilibrium outcome, neither the probability of a successful takeover nor the quilibrium price offer depends on the large shareholder's information. Therefore, the large shareholder's information is not reflected in the price. When the equilibrium price offer is positive, the large shareholder tenders all of his shares regardless of his information. Finally, we show that the same type of equilibria arise when there are several large shareholders, as long as their total stake in the company is smaller than one-half.

We present an experiment to address the question of whether a piece of information is more influential if it comes from experience, rather than from another source. We employ a novel experimental design which controls for the value of information and other potentially important confounding factors present in related studies. Overall, our results show that an event that is personally experienced has a stronger influence on subsequent behavior than an observed event with equally valuable information content. Importantly, in early rounds when information is more valuable from a rational viewpoint, this overweighting of personal experience is not statistically significant.

The recent financial crises, alongside a dramatic rise in unemployment on both sides of the Atlantic, suggest that financial shocks do translate into the labor markets. In this paper we first document that financial recessions amplify labor market volatility and Okun's elasticity over the business cycle. Second, we highlight a key mechanisms linking financial shocks to job destruction, presenting and solving a simple model of labor market search and endogenous finance. While finance increases job creation and net output in normal times, it also augments their aggregate response in the aftermath of a financial shock. Third, we present evidence coherent with the idea that more leveraged sectors experience larger employment volatility during financial recessions. Theoretically, the job destruction effect of finance works as follows. Leveraged firms may find themselves in a position in which their liquidity is suddenly called back by the lender. This has direct consequences on a firm ability to run and manage e xisting jobs. As a result, firms may be obliged to shut down part of their operations and destroy existing jobs. We argue that with well developed capital markets, firms will have an incentive to rely more on liquidity, and in normal times deep capital markets lead to tight labor markets. After an adverse liquidity shock, firms that rely much on liquidity, are hit disproportionally hard. This may explain why the unemployment rate in the US during the Great Recession increased more than in European countries experiencing larger output losses. Empirically, the paper uses a variety of datasets to test the implications of the model. At first we identify crises that, just like in the model, caused a sudden reduction of liquidity to firms. Next we draw on sector-level data on employment and leverage in a number of OECD countries at quarterly frequencies to assess whether highly leveraged equilibria originate more employment adjustment under financial recessions. We find that highly leveraged sectors and periods are associated with higher employment-to-output elasticities during banking crises and this effect explains the observation of higher Okun's elasticities during financial recessions. We also argue that the effect of leverage on employment adjustment can be interpreted as a causal effect, if our identification assumptions are considered plausible. All this amounts essentially for a test of the labor demand channel of adjustment.

This paper studies whether fiscal corrections cause large output losses. We find that it matters crucially how the fiscal correction occurs. Adjustments based upon spending cuts are much less costly in terms of output losses than tax-based ones. Spending-based adjustments have been associated with mild and short-lived recessions, in many cases with no recession at all. Tax-based adjustments have been associated with prolonged and deep recessions. The difference cannot be explained by different monetary policies during the two types of adjustments. Studying the effects of multi-year fiscal plans rather than individual shifts in fiscal variables we make progress on question of anticipated versus unanticipated policy shifts: we find that the correlation between unanticipated and anticipated shifts in taxes and spending is heterogenous across countries, suggesting that the degree of persistence of fiscal corrections varies..Estimating the effects of fiscal lans, rather than individual fiscal shocks, we obtain much more precise estimates of tax and spending multipliers.

Openness per se requires optimal monetary policy to deviate from the canonical closed-economy principle of domestic price stability, even if domestic prices are the only ones to be sticky. I review this argument using a simple partial equilibrium analysis in an economy that trades in ...nal consumption goods. I then extend the standard open economy New Keynesian model to include imported inputs of production. Production openness strengthens even further the incentive for the policymaker to deviate from strict domestic price stability. With both consumption and production openness variations in the world price of food and in the world price of imported oil act as exogenous cost-push factors.

In an economy with financial imperfections, Ricardian equivalence holds when prices are flexible and the steady-state distribution of consumption is uniform, or labor is inelastic. With different steady-state consumption levels, Ricardian equivalence fails, but tax cuts, somewhat paradoxically, are contractionary; the presentvalue multiplier on consumption is, however, zero. With sticky prices, Ricardian equivalence always fails. A Robin-Hood, revenue-neutral redistribution to borrowers is expansionary on aggregate activity. A uniform cut in taxes financed with public debt has a positive present-value multiplier on consumption, stemming from intertemporal substitution by the savers, who hold the public debt.

We extend the Fundamental Theorem of Finance and the Pricing Rule Representation Theorem of Cox and Ross (see Ross [35] and [37] and Cox and Ross [9]) to the case in which market frictions are aken into account but the Put-Call Parity is still assumed to hold. In turn, we obtain a representation of the pricing rule as a discounted expectation with respect to a nonadditive risk neutral probability. As a further contribution, in so doing we endogenize the state space structure and the contingent claim representation usually assumed to represent assets and markets.

This paper considers the optimal mechanism design problem of an expected revenue maximizing principal who wants to sell a single unit of a good to an agent who is ambiguity averse in the sense of Gilboa and Schmeidler (1989). We show that the optimal static mechanism is an ambiguous mechanism. An ambiguous mechanism specifies a message space and a set of outcome functions. After showing that (a version of) the Revelation Principle holds in our environment, we give an exact characterization of the (smallest) optimal ambiguous mechanism. If the type set is composed of N (finite) types, then the (smallest) optimal ambiguous mechanism contains N - 1 outcome functions. We show that the share of the surplus that the designer can extract from the agent increases as the type set becomes larger and the probability of each single type decreases. In the limiting case where the agent's type is drawn from a non-atomic distribution on an interval, the optimal ambiguous mechanism extracts all the rent from the agent.