Research
"The Adverse Feedback Loop and the Real Effects of Financial Sector Uncertainty" (Job Market Paper)
Abstract: This paper presents a
model that shows the real effects of risk and uncertainty in the financial
sector. I introduce a financial sector, and most importantly, financial
sector uncertainty, into an international real business cycle model. The
model shows that during periods of acute financial uncertainty, risk in the
financial sector acts as an important mechanism for the transmission of real
shocks. The model shows how an increase in financial sector uncertainty
leads to higher interbank lending rates which lead to higher business cycle
volatility, persistence, and international co-movement. During periods of
acute financial uncertainty, an adverse feedback loop can arise whereby
deteriorating conditions in the real economy have a detrimental effect on
conditions in the financial sector, which has an adverse feedback effect on
the real economy. When calibrated to match the levels of risk in the
interbank lending markets since August 2007, the model is able to replicate
many of the changes to the business cycle that have occurred since the
beginning of the financial crisis.
JEL Classification: E32; E44; F40; G01
Keywords: Financial accelerator; Adverse feedback loop; financial crises.
"Financial Integration and International Business Cycle Co-movement"
Abstract: This paper
investigates the effect of international financial integration on
international business cycle co-movement. We first show with a reduced form
empirical approach how capital market integration (equity) has a negative
effect on business cycle co-movement while credit market integration (debt)
has a positive effect. We then construct an international real business
cycle model that can potentially replicate these empirical results. This
model includes a financial sector and most importantly, idiosyncratic
default risk in the financial sector. This financial sector risk allows the
cross-country interbank lending market to act as a mechanism for the
international propagation of country-specific shocks. The model can
replicate both the negative effect of capital market integration and the
positive effect of credit market integration. Furthermore, when the default
risk in the financial sector is removed from the model, international credit
market integration ceases to have a positive effect on cyclical co-movement.
JEL Classification: E30, E44, F40, G15
Keywords: Financial integration, Business Cycle Co-movement, financial
accelerator, financial sector risk
"Globalization and International Business Cycle Co-movement"
Abstract: This paper
investigates the links between bilateral trade integration, financial
integration, industrial specialization, and business cycle correlation.
Using a reduced form empirical approach, we first replicate the results from
previous empirical studies. Then we construct an international real business
cycle model with endogenous trade integration, financial integration,
industrial specialization, and cyclical co-movement that can potentially
reproduce each one of the links we see in the data. We find that the real
business cycle model can match some of the links from the data, but fails to
match others. Notably the real business cycle model cannot reproduce the
positive causal channels between trade integration and financial integration
or the negative causal channels between trade integration and industrial
specialization that we observe in the data. We then speculate as to what
features are missing from the real business cycle model that could explain
these empirical irregularities.
JEL Classification: C68, E32, F10, F30, F41
Keywords: Trade Integration, Financial Integration, Industrial
Specialization, International Business Cycle Co-Movement
"Globalization and the Phillips Curve"
Abstract: A number of recent empirical papers have looked at the
effect of globalization on the Phillips curve. These works usually revolve
around two closely related questions. Will increased international trade
integration make domestic inflation less sensitive to movements in the
domestic output gap (the flattening of the Phillips curve)? At the same time
will domestic inflation become more sensitive to movements in the foreign
output gap? This paper addresses both of these questions using a sticky
price DSGE model. A quantitative model allows us to control for any
extenuating factors and thus find the true effect of increased trade
integration on the Phillips curve. The model also allows us to directly
investigate how factors like country size affect the relationship between
inflation and the domestic and foreign output gaps. We find that
globalization does lead to a slight reduction in the sensitivity of domestic
inflation to the domestic output gap. We also find that domestic inflation
is somewhat sensitive to movements in the foreign output gap, and this
sensitivity increases with the level of trade integration. Surprisingly,
country size has little effect on these Phillips curve coefficients.
JEL Classification: C68, E31, E32, F41
Keywords: inflation, globalization, Phillips curve
"Variable Markups and International Business Cycle Co-movement" (with Kevin X.D. Huang)
Abstract: This paper incorporates endogenous
markup variability into a real business cycle model to evaluate the impact
of markup variability on international business cycle co-movement. Domestic
and foreign firms change their desired markups in response to cyclical
changes in the import share. These variations in desired markups cause
changes in domestic and foreign prices that partially offset the divergent
effect of country-specific productivity shocks. In this paper we show both
the qualitative and quantitative significance of markup variability on
business cycle co-movement, and we show that introducing markup variability
can help reconcile the positive effect of trade on co-movement found in the
data with the negative effect predicted by the real business cycle model
(the trade-comovement puzzle). Thus this paper shows how strategic
production decisions by individual firms can have a significant effect on
the co-movement of aggregate production across countries.
JEL Classification: L16, E32, F40
Keywords: Endogenous markup variability, business cycle co-movement
"Fiscal Federalism, Risk Sharing, and the Persistence of Shocks" in Quantitative Economic Policy, Reinhard Neck, Christian Richter, and Peter Mooslechner, eds., Springer, 2008.
Abstract: This paper will investigate the role of a federal tax
and transfer scheme in the euro zone. The paper will examine how various
forms of market incompleteness can make a fiscal federation necessary in the
euro zone to counter the inevitable output volatility resulting from the
formation of a monetary union. An interesting result is that the persistence
of “shocks” driving business cycle fluctuations are an important determinate
of the effectiveness of market based risk sharing in this incomplete markets
model. Not surprisingly, shock persistence is an important determinate of
the effectiveness of fiscal based risk sharing as well. The result is that
under certain situations, a federal system is an important channel for
international risk sharing in the face of a market failure, but under other
situations, even incomplete markets provide complete risk sharing and a
federal tax and transfer system is superfluous.
JEL classification: C68, E32, F41
Keywords: Fiscal Federalism, Credit Markets, Risk Sharing, Shock Persistence