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Research Topics

Real Business Cycles

The business cycle is not a thing of the past. Market economics still experience sizable fluctuations in output. Recent research, in large part carried out by The Tepper School of Business, indicates that the technological shocks, broadly defined, account for a large portion of the fluctuations in post-war U.S. aggregate economic activity. These shocks, which in principle can be measured independently, along with their propagation over time through the economy give rise to what commonly is referred to as real business cycles. Current research is concerned with providing a more precise estimate of what fraction of the cycle can be accounted for by such shocks. An important element in that effort is constructing better measurements of the labor input. The standard measure of simply adding hours of work without adjusting for quality or skills is deficient for cyclical purposes. The hours of different skill groups fluctuate very differently over the cycle. Also, better abstractions are being developed to assess the importance of such shocks. Other questions being addressed are how dependent the shocks are across countries, the extent to which there is diffusion of technological change across borders, and the implications for international trade of comovements of consumption and investment expenditures across countries.

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Expectations and Indeterminacy of Monetary Equilibriain Experimental Economies

Development of rational expectations equilibrium models has helped gain a better understanding of many macroeconomic phenomena, but current economic theory leaves some crucial questions unanswered. Specifically, economic models in which multiple pairs of mutually consistent actions and expectation exist yield ambiguous predictions and policy prescriptions. This problem could be resolved if we knew how people learn and form expectations. For example, in current models of the dynamics of hyperinflation, we cannot know unambiguously what the impact of reducing government deficits is on inflation. If we knew that people adapt their expectations gradually in light of their past experience, the classical recommendation that a reduction in the level of government spending results in lower inflation rates would be justified. In order to learn the causes of inflation and discover effective prescriptions to control it, we must discover how people form expectations. The traditional technique of econometric analysis has severe limitations in helping us learn about this process. Current research is developing innovative laboratory methods and applying them to study the problem of expectation formation, inflation, and government deficits in experimental economies.

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Consistent Incentive Mechanism (Contract) Design

Many important economic phenomena are characterized by repeated interaction among agents in the presence of asymmetric information and restriction of time consistency on strategies. The relationships between firm managers and shareholders, regulators and agencies, etc., are important examples. Based on the requisite generalization of the Revelation Principle to this context (the Incomplete Revelation Principle), outcomes in such varied settings as labor markets, regulation policy, and optimal redistribution policy are being examined for both their positive and their normative implications.

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Corporate Financial Policy Under Asymmetric Information

It is well known that the Modigliani-Miller irrelevancy principle is invalid under symmetric information regarding the prospects of the firms and/or managerial actions. Relative to the earlier literature, however, the models being developed in this research are much more in conformance with the fine structure of the empirical and institutional regularities regarding corporate financial policy. Novel perspectives are being obtained with respect to the "dividend puzzle", the role of auditing, credit rationing, and others.

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Bargaining Foundations of Product Innovation

The recent literature on durable goods monopolists has shown that the market power of such monopolists is severely undermined when restricted to time-consistent strategies. This work argues that monopolist may substantially regain their market power (even with time- consistent strategies) if they can intertemporally product differentiate through technical innovation. This work provides an alternative (bargaining) interpretation of product or technical innovation, and the welfare consequences are examined and compared with those arising from more traditional perspectives.

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Variation in Wages and Hours of Work Over the Business Cycle

Wages are typically thought to vary little over the business cycle; instead, most variation takes place in hours of work. Empirical assessments of this issue typically focus on time-series manufacturing data. Recent research is examining differences across industries, including service industries, and controlling for differences in individuals' skills which are likely to alter the sensitivity to cycles.

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Individual Adjustment to Changing Labor Markets

The well-known decline in manufacturing employment, which tends to be concentrated in the Northeast, is causing individuals to change industries and to migrate. Recent research examines the propensity to make these changes in response to demand conditions, focusing on the loss of returns to investment in skills and the resulting decline in income that may accompany change.

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The Distribution of Income Within and Across Households

The entry of women into the labor force in the past twenty years may well worsen the distribution of income, if wages of husbands and wives are highly correlated, or improve the distribution of income, if the income effect of husbands' earnings dampens the labor supply of wives. Because wives may shift their labor supply intertemporally, a careful analysis requires data which follows families over time. Using such a data set, recent research calculates the covariance structure of within household income and draws implications for labor supply and consumption patterns.

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The Results of Deregulation

The effects of deregulation on various industries, particularly stock brokerage, domestic airlines, trucking and railroad transportation, and telecommunications, are analyzed. For deregulated firms in which the scope as well as the scale of operations is an important factor influencing efficiency, the theoretical benchmark of contestability predicts the following price and productivity properties; each product will yield zero economic profit; the revenues from any subset of the products must exceed the incremental costs of those products, so that no cross- subsidy can exist; prices for each product will equal or exceed marginal costs; and an equilibrium market structure will minimize costs for the industry. Behavior patterns are examined to see whether they are displaying more of these properties after deregulation than before.

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Macroeconomic Policy

This research concerns the role of government and its relations to macroeconomic policy and income redistribution. It includes reasons for ambiguity in government policy and for preferring discretion to rules. It also includes analysis of models of taxation in which political and economic elements are present. Another research topic is the relation of risk and uncertainty to the choice of monetary arrangements. Does the choice of monetary arrangement significantly affect the risk or uncertainty society bears? A related issue is the relative importance of real and nominal shocks under different regimes.

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International Trade Policy

A strong policy prescription arising from economic models of international trade in which both product and factor markets are assumed to be perfectly competitive is that a free-trade policy maximizes national welfare. Some policy makers have contended that the departure from perfect competition requires adoption of an interventionist trade policy to maximize national welfare. Clearly it is important to determine under what conditions, if any, this contention is correct and also to determine the nature, scope, and distribution impact of any policy interventions that may be appropriate. Current research is helping to provide a framework within which the role of trade policy for imperfectly competitive industries may be explicitly modeled. In addition to developing normative results, the work also considers the positive economics of commercial policy instruments commonly used by trading nations, such as anti-dumping and anti-subsidy rules.

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Female Labor Supply and Fertility

Beginning with Becker, labor economists have viewed offspring as non-traded durables, produced by combining market inputs and parental time and valued by the householder for the service flows they yield. Current research formally develops these ideas within a simple dynamic framework, explicitly modeling the intertemporal choices households make, under uncertainty, between investment in this form of family capital and consumption of other goods. The theory gives rise to an econometrically tractable specification, which is utilized to recover the model's structure and subject its validity to tests with data on married couples from panel data. The empirical findings suggest compelling reasons for jointly modeling female labor supply and fertility as a life-cycle outcome to optimal decisions made under uncertainty.

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The Economics Behind Marketing "New and Improving" Products

This work models a dynamic game with incomplete information in which a monopolist markets a succession of new and improving products. For a particular product sold last period, the monopolist must now decide whether to withdraw it and undertake more research in order to discover a superior product, or, if not, what price should be charged for the retained product. At the time each new product is introduced, consumers are less informed than the firm about its characteristics, but they can remedy their deficiency by buying the product (which is an experience good), or by later making inferences from the behavior of those who have. They analysis investigates a subset of the sequential equilibria. These outcomes explain the dynamic interaction among the length of time it takes to establish a reputation, the value of private information to consumers, the monopolist's pricing policy, and the market life of products.

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Risk Analysis and Management

Safety and environmental externalities are replete with potential damage to people. Most people are risk averse, placing high values on avoiding cancer or mass accidents such as dam failures. The occurrence probabilities and consequences must be quantified along with opportunities for mitigation; incentives must be modeled to study the efficacy of decentralized methods for management. Novel conclusions from this research concern the amount of uncertainty inherent in risk assessment, the current deviations from efficiency, and the extent to which decentralized allocation can be efficient.

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Estimation and Inference for Dynamic Economic Models

Stochastic, dynamic general equilibrium models typically lead to econometric relations that are non linear in the variables and/or parameters, with disturbances (error terms) that may be serially correlated or heteroskedastic. Methods of estimation and inference that optimally exploit the moment restrictions implied by dynamic models are currently being developed for estimate environments where the disturbances are serially correlated or heteroskedastic, and their distributions are unknown. Applications of these methods to dynamic models of asset returns are also underway.

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The Duration of Interorganizational Relationships

An empirical research project is currently underway to characterize the dynamics of interorganizational relations. A prominent feature of interfirm relations is their continuity; suppliers and demanders of services appear to sustain their relations over time. An interesting question for economists is how these attachments between firms develop, mature and end. Recently, Coase's transaction-cost framework has been revived to account for idiosyncratic interfirm exchange relationships. However, there has been relatively little associated empirical analysis. In addition, the existing theoretical and empirical analyses of interfirm relations focus on the limiting cases; markets versus hierarchies. Between these two poles lie the vast majority of interfirm relationships that are neither impersonal market relations, nor hierarchical ones. A natural first step in exploring these sustained firm relations is to discover what the empirical regularities are: How long do interfirm relations tend to persist? Does the probability of persistence (the survival rate) change over time? What are the potential explanations of interfirm relations, and can we empirically distinguish among these? These issues are considered in the context of auditor-client relations.

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The Endogeneity of Appropriability and R&D Investment

Several analytical models are being considered relating to the development of organizational capabilities. A model has been developed that endogenously derives the appropriability of external R&D efforts. Prior research treats scientific knowledge as a public good, which, is not protected by patents, can be costlessly exploited by other firms. This view ignores an important feature of knowledge transfer that learning is a costly, active process. In the model, the capacity to absorb is determined indigenously by the firm's own R&D investments. This modification has a number of interesting implication for the incentives to undertake R&D and the role of external science.  

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Takeovers

Current research deals with game theoretic models of takeovers with special attention to stockholders' decision. This analysis is extended to competing takeover bids and to the more general problem of private provision of public goods.

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