Copyright (c) 2008 All rights reserved. http://works.bepress.com/jonathan_heathcote Recent documents in Jonathan H Heathcote en-us Thu, 03 Jan 2008 05:32:34 PST 3600 http://works.bepress.com/jonathan_heathcote/15 http://works.bepress.com/jonathan_heathcote/15 Sun, 28 Jan 2007 17:37:15 PST This paper is a version of Romer's general equilibrium interpretation of the Baumol-Tobin model. It investigates the implications for the behavior of the real interest rate of modelling money demand as arising endogenously from costs associated with trading in asset markets. Under a particular rule for tax policy, I look at the implications for real and nominal rates of an unexpected shock to inflation. Jonathan H. Heathcote Work in Progress http://works.bepress.com/jonathan_heathcote/14 http://works.bepress.com/jonathan_heathcote/14 Sun, 28 Jan 2007 17:33:54 PST Jonathan H. Heathcote Work in Progress http://works.bepress.com/jonathan_heathcote/13 http://works.bepress.com/jonathan_heathcote/13 Sun, 28 Jan 2007 17:32:29 PST I undertake a quantitative investigation into the short run effects of changes in the timing of proportional income taxes for model economies in which heterogeneous households face a borrowing constraint. Temporary tax changes are found to have large real effects. In the benchmark model, a temporary tax increase reduces aggregate consumption on impact by around 29 cents for every additional dollar of tax revenue raised. Comparing the benchmark incomplete markets model to a complete markets economy, income tax cuts provide a larger boost to consumption and a smaller investment stimulus when asset markets are incomplete. Jonathan H. Heathcote Published Papers http://works.bepress.com/jonathan_heathcote/12 http://works.bepress.com/jonathan_heathcote/12 Sun, 28 Jan 2007 17:29:35 PST We investigate the welfare implications of changing the mix between capital and labor taxes for a model economy in which heterogeneous households face uninsurable labor income risk. The stochastic process for labor earnings we construct is consistent with empirical estimates of earnings risk, and also implies a distribution of asset holdings across households closely resembling that in the United States. We find that a vast majority of households prefers the status quo to eliminating capital taxes. This finding is interesting in light of the fact that this reform would be optimal if we abstracted from heterogeneity and assumed a representative agent. A second finding is that a utilitarian government prefers the current calibrated U.S. capital income tax rate (39.7 percent) to any increase or decrease in the capital tax rate. David Domeij Published Papers http://works.bepress.com/jonathan_heathcote/11 http://works.bepress.com/jonathan_heathcote/11 Sun, 28 Jan 2007 17:26:06 PST We describe a two-country, two-good model in which there do not exist any markets for international trade in financial assets. We compare the predictions of this model to those of two other models, one in which markets are complete and a second in which a single non-contingent bond is traded. We find that the behavior of this class of models is sensitive both to certain parameter values and to the precise nature of the restrictions imposed on international asset trade. Nonetheless, only the financial autarky model can generate volatility in the terms of trade similar to that in data for floating rate period and, at the same time, account for observed cross-country output, consumption, investment and employment correlations. Jonathan H. Heathcote Published Papers http://works.bepress.com/jonathan_heathcote/10 http://works.bepress.com/jonathan_heathcote/10 Sun, 28 Jan 2007 17:22:52 PST This paper is a companion piece to Financial Globalization and Real Regionalization. We ask whether changing business cycle correlations over the period 1960 to 2002 mostly likely reflect financial integration or a changing shock process. To answer this question we use a calibrated model economy in which a single parameter value determines the extent of international financial integration. For one particular value of this parameter, allocations are equivalent to those under complete markets. For another they are equivalent to those when there is no international asset trade. A simple method of moments estimation procedure suggests that financial integration is the most important factor is key to accounting for the observed changes in international co-movement. There is little evidence of a change in the process for real shocks. Jonathan H. Heathcote Published Papers http://works.bepress.com/jonathan_heathcote/9 http://works.bepress.com/jonathan_heathcote/9 Sun, 28 Jan 2007 12:50:10 PST Over the period 1972-1986, the correlations of GDP, employment and investment between the United States and an aggregate of Europe, Canada and Japan were respectively 0.76, 0.66, and 0.63. For the period 1986 to 2000 the same correlations were much lower: 0.26, 0.03, and -0.07 (real regionalization). At the same time, U.S. international asset trade has significantly increased. For example, between 1972 and 1999, United States gross FDI and equity assets in the same group of countries rose from 4 to 23 percent of the U.S. capital stock (financial globalization). We argue that these two trends are intimately related. We document that the correlation of real shocks between the U.S. and the rest of the world has declined. We then present a model in which international financial market integration occurs endogenously in response to less correlated shocks. Financial integration further reduces the international correlations in GDP and factor supplies. We find that both less correlated shocks and endogenous financial market development are needed to account for all the changes in the international business cycle Jonathan H. Heathcote Published Papers http://works.bepress.com/jonathan_heathcote/8 http://works.bepress.com/jonathan_heathcote/8 Sun, 28 Jan 2007 12:42:07 PST In the data country portfolios are heavily biased toward domestic assets. Standard one-good international macro models predict that, due to the presence of non-diversifiable labor income risk, country portfolios should be heavily biased toward foreign assets; this discrepancy constitutes the international diversification puzzle (Baxter and Jermann, 1997). We show that a simple extension of one-good models help to reconcile theory and data. In particular we analytically solve for the equilibrium country portfolios in a two-country, two-goods model with non-diversifiable labor income and investment. In this set-up, consistently with the data,country portfolios contain a relatively small, but positive, share of foreign assets. The reason why international diversification is low is that terms of trade movements provide considerable insurance against country specific shocks and labor income risk (Cole and Obstfeld 1991, Acemoglu and Ventura, 2002, Pavlova and Rigobon, 2003). The reason why international diversification is positive is that foreign assets are crucial to share the financing of investment across countries. Finally in the model a country's portfolio share of foreign assets should depend on its trade/GDP ratio and on its capital income/GDP ratio. We show how this relation is qualitatively and quantitatively consistent with country portfolios in the cross section of OECD countries in the 1990s. Jonathan H. Heathcote Work in Progress http://works.bepress.com/jonathan_heathcote/7 http://works.bepress.com/jonathan_heathcote/7 Sun, 28 Jan 2007 12:30:50 PST This paper explores the macroeconomic and welfare implications of the dramatic recent rise in wage inequality in the United States. Between 1967 and 1996 cross-sectional dispersion in earnings increased even more than dispersion in wages, due to a rise in the correlation between wages and hours worked. By contrast, inequality in hours worked remained roughly constant, and dispersion in consumption and wealth increased only modestly. The goal of the paper is to ask whether a calibrated overlapping-generations model with incomplete markets can account for these trends, and, if it can, to quantify their welfare effects. We first use PSID data to estimate a time-varying process for wage risk. This process is then used as in an input into our economic model to endogenously generate time variation in other dimensions of inequality. In a simulation we find that the model broadly replicates the set of facts described above. We find that the welfare costs of the rise in wage inequality are large: the ex-ante loss is equivalent to a five percent decline in lifetime income for the worst-affected cohorts. Jonathan H. Heathcote Submitted Papers http://works.bepress.com/jonathan_heathcote/6 http://works.bepress.com/jonathan_heathcote/6 Sun, 28 Jan 2007 12:24:25 PST This paper provides an analytical characterization of the welfare effects of changes in cross-sectional wage dispersion, using a class of tractable heterogeneous-agent economies. We express welfare effects both in terms of changes in the observable joint distribution over individual wages, consumption and hours, and in terms of the underlying parameters defining preferences and wage risk. Our analysis reveals an important trade-off for welfare calculations. On the one hand, as wage uncertainty rises, so does the cost associated with missing insurance markets. On the other hand, greater wage dispersion presents opportunities to increase aggregate productivity by concentrating market work among more productive workers. In a calibration exercise, we find that the observed rise in wage dispersion in the United States over the past three decades implies a welfare loss roughly equivalent to a 2.5% decline in lifetime consumption. This number is the net effect of a welfare gain of around 5% from an endogenous increase in labor productivity, coupled with a loss of around 7.5% associated with greater dispersion in consumption and leisure. We also calculate the welfare gains from completing insurance markets. We find that they stem primarily not from reduced consumption dispersion, but from a more efficient allocation of labor effort. This labor productivity improvement means that expanding insurance against wage risk offers larger welfare gains than redistributive policies that reduce dispersion in after-tax wages. Jonathan H. Heathcote Submitted Papers