Working papers results

This paper studies monetary policy in the Euro area looking at the
variable most directly related to current and expected monetary policy,
the yield on long term government bonds. We find that the level of longterm
rates in Europe is almost entirely explained by U.S. shocks and by
the systematic response of U.S. and European variables (inflation, short
term rates and the output gap) to these shocks. Our results suggest in
particular that U.S. variables are more important than local variables
in the policy rule followed by European monetary authorities: this was
true for the Bundesbank before EMU and has remained true for the
ECB, at least so far. Using closed economy models to analyze monetary
policy in the Euro is thus inconsistent with the empirical evidence on the
determinants of Euro area long-term rates. It is also inconsistent with
the way the Governing Council of the ECB appears to make actual policy
decisions.

How and why does distant political and economic history shape
the functioning of current institutions? This paper argues that individual
values and convictions about the scope of application of norms
of good conduct provide the "missing link". Evidence from a variety
of sources points to two main findings. First, individual values consistent
with generalized (as opposed to limited) morality are widespread
in societies that were ruled by non-despotic political institutions in
the distant past. Second, well functioning institutions are often observed
in countries or regions where individual values are consistent
with generalized morality, and under different identifying assumptions
this suggests a causal effect from values to institutional outcomes. The
paper ends with a discussion of the implications for future research.

This chapter concentrates on the Econometrics of Monetary Policy. We describe
the evolution of models estimated to evaluate the macroeconomic impact of the
effect of monetary policy . We argue that the main challenge for the
econometrics of monetary policy is the combination of theoretical models and
information from the data to construct empirical models. The failure of the
large econometrics models at the beginning of the 1970s might be explained by
their incapability of taking proper account of both these aspects. The great
critiques by Lucas and Sims have generated an alternative approach which, at
least initially, has been almost entirely dominated by theory. The LSE
approach has instead concentrated on the properties of the statistical models
and on the best way of incorporating information from the data into the
empirical models, paying little attention to the economic foundation of the
adopted specification. The realization that the solution of a DSGE model can
be approximated by a restricted VAR, which is also a statistical model, has
generated a potential link between the two approaches. The open question is
which type of VARs are most appropriate for the econometric analysis of
monetary policy.

What explains the range of situations in which individuals cooperate?
This paper studies a theoretical model where individuals respond
to incentives but are also influenced by norms of good conduct inherited
from earlier generations. Parents rationally choose what values to
transmit to their offspring, and this choice is influenced by the quality
of external enforcement and the pattern of likely future transactions.
The equilibrium displays strategic complementarities between values
and current behavior, which reinforce the effects of changes in the
external environment. Values evolve gradually over time, and if the
quality of external enforcement is chosen under majority rule, there is
histeresis: adverse initial conditions may lead to a unique equilibrium
path where external enforcement remains weak and individual values
discourage cooperation.

This paper reconsiders the developments of model evaluation in macroeconometrics over the last forty years. Our analysis starts from the failure of early empirical macroeconomic models caused by stagflation in the seventies. The different diagnosis of this failure are then analyzed to classify them in two groups: explanations related to problems in the theoretical models that lead to problems in the identification of the relevant econometric model and explanations related to problems in the underlying statistical model that lead to misspecification of the relevant econometric model. Developments in macroeconometric model evaluation after the failure of the Cowles foundation models are then discussed to illustrate how the different critiques have initiated different approaches in macroeconometrics. The evolution of what has been considered the consensus approach to macroeconometric model evaluation over the last thirty years is then followed. The criticism moved to Cowles foundation models in the early seventies might apply almost exactly to DSGE-VAR model evaluation in the first decade of
the new millenium. However, the combination of general statistical model, such as a Factor Augmented VAR, with a DSGE model seems to produce forecasts that perform better than those based exclusively on the theoretical and on the statistical model.

In response to extensive corruption in the education sector, the Government
of Uganda began to publish newspaper ads on the timing and amount of funds
disbursed to the districts. The intent of the campaign was to boost schools' and
parents' ability to monitor the local officials in charge of disbursing funds to the
schools. The mass information campaign was successful. But since newspaper
penetration varies greatly across districts, the exposure to information about the
program, and thus funding, dier across districts. I use this variation in program
exposure between districts to evaluate whether public funds have an effect on
student performance. The results show that money matters: On average, stu-
dents in districts highly exposed to the information campaign, and hence to the
grant program, scored 0.40 standard deviations better in the Primary Leaving
Exam (PLE) than students in districts less exposed to information. The results
are robust to controlling for a broad range of confounding factors.

We examine the effect of trust on financial investment and contracting decisions in a micro-economic environment where trust is exogenous. Using hand-collected data on European venture capital, we show that the Eurobarometer measure of trust among nations significantly affects investment decisions. This holds even after controlling for investor and company fixed effects, geographic distance, information and transaction costs. The national identity of venture capital firms' individual partners further contributes to the effect of trust. Education and work experience reduce the effect of trust but do not eliminate it. We also examine the relationship between trust and sophisticated contracts involving contingent control rights and find that, even after controlling for endogeneity, they are complements, not substitutes.

Dynamic Stochastic General Equilibrium (DSGE) models are now con-
sidered attractive by the profession not only from the theoretical perspec-
tive but also from an empirical standpoint. As a consequence of this
development, methods for diagnosing the fit of these models are being
proposed and implemented. In this article we illustrate how the concept
of statistical identification, that was introduced and used by Spanos(1990)
to criticize traditional evaluation methods of Cowles Commission models,
could be relevant for DSGE models. We conclude that the recently pro-
posed model evaluation method, based on the DSGE - VAR(λ), might not satisfy
the condition for statistical identification. However, our appli-
cation also shows that the adoption of a FAVAR as a statistically identified
benchmark leaves unaltered the support of the data for the DSGE model
and that a DSGE-FAVAR can be an optimal forecasting model.

The paper explores the determinants of yield differentials between sovereign
bonds in the Euro area. There is a common trend in yield differentials, which
is correlated with a measure of aggregate risk. In contrast, liquidity differentials
display sizeable heterogeneity and no common factor. We propose a simple model
with endogenous liquidity demand, where a bond's liquidity premium depends both
on its transaction cost and on investment opportunities. The model predicts that
yield differentials should increase in both liquidity and risk, with an interaction
term of the opposite sign. Testing these predictions on daily data, we find that
the aggregate risk factor is consistently priced, liquidity differentials are priced for
a subset of countries, and their interaction with the risk factor is in line with the
model's prediction and crucial to detect their effect.

We estimate the effect of political regime transitions on growth with semi-parametric methods, combining difference in differences with
matching, that have not been used in macroeconomic settings. Our semi-parametric estimates suggest that previous parametric estimates
may have seriously underestimated the growth effects of democracy. In particular, we find an average negative effect on growth of leav-
ing democracy on the order of -2 percentage points implying effects on income per capita as large as 45 percent over the 1960-2000 panel.
Heterogenous characteristics of reforming and non-reforming countries appear to play an important role in driving these results.