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Subject:                                     CEPR Discussion Paper Week Ending 20/09/2020


Summary of CEPR Discussion Papers for the week ending 20/09/2020

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CEPR Discussion Papers for the week ending 20 September 2020




Summary of Discussion Papers uploaded to our website week ending 20/09/2020 (for details see below).
This email lists all the CEPR Discussion Papers uploaded to in the last week. Clicking on the Discussion Paper number in the list below will take you to the abstract page for that paper and clicking on the PDF link will take you directly to the paper itself if you are a Corporate Member of CEPR, a CEPR Research Fellow or Affiliate or a subscriber to CEPR Discussion Papers.
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DP15309 On Public Spending and Economic Unions

Author(s): Jaume Ventura, Fernando Broner, Alberto Martin

Date of Publication: September 2020

Programme Area(s): FE, IMF, IT, MG, MEF, PE

Keyword(s): Public Spending, Economic union, Crowding out, Financial Frictions, Spending externalities, Fiscal coordination

Abstract: We analyze the conduct of fiscal policy in a financially integrated union in the presence of financial frictions. Frictions create a wedge between the return to investment and the union interest rate. This leads to an over-spending externality. While the social cost of spending is the return to investment, governments care mostly about the (depressed) interest rate they face. In other words, the crowding out effects of public spending are partly "exported" to the rest of the union. We argue that it may be hard for the union to deal with this externality through the design of fiscal rules, which are bound to be shaped by the preferences of the median country and not by efficiency considerations. We also analyze how this overspending externality - and the unionís ability to deal with it effectively - changes when the union is financially integrated with the rest of the world. Finally, we extend our model by introducing a zero lower bound on interest rates and show that, if financial frictions are severe enough, the union is pushed into a liquidity trap and the direction of the spending externality is reversed. At such times, fiscal rules that are appropriate during normal times might backfire.


DP15308 Urban economics in a historical perspective: Recovering data with machine learning

Author(s): Pierre-Philippe Combes, Laurent Gobillon, Yanos Zylberberg

Date of Publication: September 2020

Programme Area(s): IT

Keyword(s): Urban Economics, History, Machine Learning

Abstract: A recent literature has used a historical perspective to better understand fundamental questions of urban economics. However, a wide range of historical documents of exceptional quality remain underutilised: their use has been hampered by their original format or by the massive amount of information to be recovered. In this paper, we describe how and when the flexibility and predictive power of machine learning can help researchers exploit the potential of these historical documents. We first discuss how important questions of urban economics rely on the analysis of historical data sources and the challenges associated with transcription and harmonisation of such data. We then explain how machine learning approaches may address some of these challenges and we discuss possible applications.


DP15307 Average Inflation Targeting and Household Expectations

Author(s): Olivier Coibion, Yuriy Gorodnichenko, Edward Knotek, Raphael Schoenle

Date of Publication: September 2020

Programme Area(s): MEF

Keyword(s): Inflation targeting, Inflation expectations, Surveys, communication, randomized controlled trial

Abstract: Using a daily survey of U.S. households, we study how the Federal Reserve’s announcement of its new strategy of average inflation targeting affected households’ expectations. Starting with the day of the announcement, there is a very small uptick in the minority of households reporting that they had heard news about monetary policy relative to prior to the announcement, but this effect fades within a few days. Those hearing news about the announcement do not seem to have understood the announcement: they are no more likely to correctly identify the Fed’s new strategy than others, nor are their expectations different. When we provide randomly selected households with pertinent information about average inflation targeting, their expectations still do not change in a different way than when households are provided with information about traditional inflation targeting.


DP15306 Prospect Theory and Currency Returns: Empirical Evidence

Author(s): Qi Xu, Roman Kozhan, Mark Taylor

Date of Publication: September 2020

Programme Area(s): IMF

Keyword(s): foreign exchange, currency returns, prospect theory, Limits to Arbitrage

Abstract: We empirically investigate the role of prospect theory in the foreign exchange market. Using the historical distribution of exchange rate changes, we construct a currency-level measure of prospect theory value and find that it negatively forecasts future currency excess returns. High prospect theory value currencies significantly underperform low prospect theory value currencies. The predictability is higher when arbitrage is limited and during periods of excess speculative demand of ir- rational traders. These findings are consistent with the hypothesis that investors mentally represent currencies by their historical distributions or charts and evaluate the distribution in the way described by prospect theory.


DP15305 Exchange Rate Prediction with Machine Learning and a Smart Carry Trade Portfolio

Author(s): Ilias Filippou, David Rapach, Mark Taylor, Guofu Zhou

Date of Publication: September 2020

Programme Area(s): IMF

Keyword(s): exchange rate predictability, Elastic Net, carry trade, deep neural network

Abstract: We establish the out-of-sample predictability of monthly exchange rate changes via machine learning techniques based on 70 predictors capturing country characteristics, global variables, and their interactions. To guard against overfitting, we use the elastic net to estimate a high-dimensional panel predictive regression and find that the resulting forecast consistently outperforms the naive no-change benchmark, which has proven difficult to beat in the literature. The forecast also markedly improves the performance of a carry trade portfolio, especially during and after the global financial crisis. When we allow for more complex deep learning models, nonlinearities do not appear substantial in the data.


DP15304 Regional Inequalities and the West-East Divide in Turkey since 1880

Author(s): Güneş Aşik, Ulaş Karakoç, Sevket Pamuk

Date of Publication: September 2020

Programme Area(s): DE, EH

Keyword(s): Regional Development, Regional inequalities, Industrialization, Ethnic Conflict, Turkey, Ottoman Empire

Abstract: This study examines the evolution of regional income inequalities and its causes within present day borders of Turkey since 1880. We construct indices for value added per capita for agriculture, industry and services as well as GDP per capita for each of the 58 administrative units for about one dozen benchmark years. For the recent period since 1987, we make use of the official series for the same 58 units. We find that the overall trend from the 1910’s to the present has been convergence for the country as a whole. We also find an inverse U shaped pattern for the regional disparities in Turkey since 1880. While all other regions began to move towards country averages, the differences between the East and the rest of the country persisted and even increased. Our comparisons also suggest that regional disparities in Turkey have been and are still larger than those in European countries of similar size such as Italy, France and Spain. Problems of endogeneity make it difficult to establish causality at this stage of the research. Nonetheless, we are able to offer an interpretation consistent with our empirical findings. We argue that not a single cause but a combination of causes led by geography, structural change, industrialization and agglomeration economies, and ethnic conflict and demographic movements are behind this pattern for the country as a whole and for the fact that the East has continued to lag behind.


DP15303 History and Urban Economics

Author(s): Walker Hanlon, Stephan Heblich

Date of Publication: September 2020

Programme Area(s): EH

Keyword(s): Urban Economics, economic history, Urbanization, growth, Review

Abstract: This article reviews recent literature using insights from history to answer central questions in urban economics. This area of research has seen rapid growth in the past decade, thanks to new technologies that have made available increasingly rich data stretching far back in time. The focus is to review innovative methods to exploit historical information and discuss applications of these data that provide new insights into (i) the long run growth of cities or regional economies and (ii) the spatial organization of economic activities within cities. The review also surveys the growing literature outside urban economics that uses the historical urbanization as a proxy for economic growth, discusses differences between how economic historians and urban economists think about the relationship between urbanization and growth, and considers how these views might be reconciled.


DP15302 The Social Determinants of Choice Quality: Evidence from Health Insurance in the Netherlands

Author(s): Benjamin R. Handel, Jonathan Kolstad, Thomas Minten, Johannes Spinnewijn

Date of Publication: September 2020

Programme Area(s): IO, PE


Abstract: Market provision of impure public goods such as insurance, retirement savings and education is common and growing as policy makers seek to offer more choice and gain efficiencies. This approach induces an important trade-off between improved surplus from matching individuals to products and misallocation due to well documented choice errors in these markets. We study this trade-off in the health insurance market in the Netherlands, with a specific focus on misallocation and inequality. We characterize choice quality as a function of predicted health risk and leverage rich administrative data to study how it depends on individual human capital, socioeconomic status and social and information networks. We find that choice quality is low on average, with many people foregoing options that deliver substantive value. We also find a strong choice quality gradient with respect to key socioeconomic variables. Individuals with higher education levels and more analytic degrees or professions make markedly better decisions. Social influence on choices further increases inequality in decision making. Using panel variation in exposure to peers we find strong within firm, location and family impacts on choice quality. Finally, we use our estimates to model the consumer surplus effects of different counterfactual scenarios. While smart default policies could improve welfare substantially, including the choice of a high-deductible option delivers little welfare gain, especially for low-income individuals who make lower quality choices and are in worse health.


DP15301 Patent Screening, Innovation, and Welfare

Author(s): Mark Schankerman, Florian Schuett

Date of Publication: September 2020

Programme Area(s): IO

Keyword(s): Innovation, Patent quality, screening, litigation, courts, patent fees, licensing

Abstract: Critics claim that patent screening is ineffective, granting low-quality patents that impose unnecessary social costs. We develop an integrated framework, involving patent office examination, fees, and endogenous validity challenges in the courts, to study patent screening both theoretically and quantitatively. In our model, some inventions require the patent incentive while others do not, and asymmetric information creates a need for screening. We show that the endogeneity of challenges implies that courts, even if perfect, cannot solve the screening problem. Simulations of the model, calibrated on U.S. data, indicate that screening is highly imperfect, with about forty percent of all patents issued on inventions that do not require the patent incentive. While we find that the current patent system generates positive social value, intensifying examination would yield large welfare gains. The social value of the patent system would also be larger if complemented by antitrust limits on licensing.


DP15300 Shipwrecked by Rents

Author(s): Fernando Arteaga, Desiree Desierto, Mark Koyama

Date of Publication: September 2020

Programme Area(s): EH

Keyword(s): Corruption, rent-seeking, Bribery, Shipwrecks

Abstract: The trade route between Manila and Mexico was a monopoly of the Spanish Crown for more than 250 years. The Manila Galleons were ``the richest ships in all the oceans'', but much of the wealth sank at sea and remain undiscovered. We introduce a newly constructed dataset of all of the ships that travelled this route. We show formally how monopoly rents that allowed widespread bribe-taking would have led to overloading and late ship departure, thereby increasing the probability of shipwreck. Empirically, we demonstrate not only that these late and overloaded ships were more likely to experience shipwrecks or to return to port, but that such effect is stronger for galleons carrying more valuable, higher-rent, cargo. This sheds new light on the costs of rent-seeking in European colonial empires.


DP15299 Monetary Capacity

Author(s): Roberto Bonfatti, Adam Brzezinski, Kivanç Karaman, Nuno Palma

Date of Publication: September 2020

Programme Area(s): EH, MG, MEF, PE

Keyword(s): monetary capacity, fiscal capacity, monetization, inflation, taxation, Quantity Theory of Money, monetary non-neutrality

Abstract: Monetary capacity refers to a state's capacity to circulate money that is accepted by the public, whereas fiscal capacity refers to its capacity to tax. In this paper, we show both theoretically and empirically that monetary and fiscal capacity, and by extension, markets and states have a symbiotic relationship. On the theoretical front, we propose a model that establishes that a higher monetary capacity incentivizes the government to invest in the capacity to tax, because monetization eases taxation. Higher fiscal capacity, in turn, increases the public demand for money, because expected inflation is lower. On the empirical front, we find that monetary capacity had a significant and substantial causal impact on fiscal capacity. To identify this impact, we rely on a natural experiment, instrumenting the money stocks of England, France and Spain between 1550 and 1790 by the silver and gold output in the New World. Finally, to put our findings into a long-run perspective, we collect money stock and tax revenue data for European states from antiquity to the modern period, and document the close relationship between the two. These findings indicate that economic and political development cannot be understood independently. They also qualify the theory of the long-run neutrality of money: exogenous changes in money stock can and did have real long-run effects.


DP15298 The Great Lockdown: pandemic response policies and bank lending conditions

Author(s): Carlo Altavilla, Francesca Barbiero, Miguel Boucinha, Lorenzo Burlon

Date of Publication: September 2020

Programme Area(s): FE, MEF

Keyword(s): COVID-19 crisis, monetary policy, bank lending, Prudential policy

Abstract: This study analyses the policy measures taken in the euro area in response to the outbreak and the escalating diffusion of new coronavirus (COVID-19) pandemic. We focus on monetary, microprudential and macroprudential policies designed specifically to support bank lending conditions. For identification, we use proprietary data on participation in central bank liquidity operations, high-frequency reactions to monetary policy announcements, and confidential supervisory information on bank capital requirements. The results show that in the absence of the funding cost relief and capital relief associated with the pandemic response measures, banks' ability to supply credit would have been severely affected. The results also indicate that the coordinated intervention by monetary and prudential authorities amplified the effects of the individual measures in supporting liquidity conditions and helping to sustain the flow of credit to the private sector. Finally, we investigate the potential real effects of the joint pandemic response measures by estimating the adjustment in labour input variables for firms that in the past have been more exposed to similar policies. We find that, in absence of monetary and prudential policies, the pandemic would lead to a significantly larger decline in firms' employment.


DP15297 Globalization and Pandemics

Author(s): Pol Antras, Stephen J. Redding, Esteban Rossi-Hansberg

Date of Publication: September 2020

Programme Area(s): IT, MG

Keyword(s): Globalization, Pandemics, Gravity Equation, SIR model

Abstract: We develop a model of human interaction to analyze the relationship between globalization and pandemics. Our framework provides joint microfoundations for the gravity equation for international trade and the Susceptible-Infected-Recovered (SIR) model of disease dynamics. We show that there are cross-country epidemiological externalities, such that whether a global pandemic breaks out depends critically on the disease environment in the country with the highest rates of domestic infection. A deepening of global integration can either increase or decrease the range of parameters for which a pandemic occurs, and can generate multiple waves of infection when a single wave would otherwise occur in the closed economy. If agents do not internalize the threat of infection, larger deaths in a more unhealthy country raise its relative wage, thus generating a form of general equilibrium social distancing. Once agents internalize the threat of infection, the more unhealthy country typically experiences a reduction in its relative wage through individual-level social distancing. Incorporating these individual-level responses is central to generating large reductions in the ratio of trade to output and implies that the pandemic has substantial effects on aggregate welfare, through both deaths and reduced gains from trade.


DP15296 Implications of Cheap Oil for Emerging Markets

Author(s): Alain Kabundi, Franziska Ohnsorge

Date of Publication: September 2020

Programme Area(s): IMF

Keyword(s): oil price decline, Covid-19 pandemic, macroeconomic implications, supply factors, demand factors, local projections model

Abstract: The COVID-19-triggered collapse in oil prices in March and April 2020 was the seventh, and by far the most severe, in a series of such collapses since 1970. This paper, first, compares this most recent collapse and its drivers with previous ones in an event study. It finds that it was associated with an exceptionally severe plunge in oil demand. Second, in a local projections model, this paper estimates the implications of demand- and supply-driven oil price collapses for growth in emerging markets and developing economies (EMDEs). The paper finds that steep oil price collapses were associated with significant and lasting output losses in energy-exporting EMDEs but no meaningful output gains in energy-importing EMDEs. These results are robust to multiple robustness checks.


DP15295 Institutional Change and Institutional Persistence

Author(s): Daron Acemoglu, Georgy Egorov, Konstantin Sonin

Date of Publication: September 2020

Programme Area(s): PE

Keyword(s): conflict, Constitutions, democracy, institutions, Institutional Change, Persistence, stability

Abstract: In this essay, we provide a simple conceptual framework to elucidate the forces that lead to institutional persistence and change. Our framework is based on a dynamic game between different groups, who care both about current policies and institutions and future policies, which are themselves determined by current institutional choices, and clarifies the forces that lead to the most extreme form of institutional persistence ("institutional stasis") and the potential drivers of institutional change. We further study the strategic stability of institutions, which arises when institutions persist because of fear of subsequent, less beneficial changes that would follow initial reforms. More importantly, we emphasize that, despite the popularity of ideas based on institutional stasis in the economics and political science literatures, most institutions are in a constant state of flux, but their trajectory may still be shaped by past institutional choices, thus exhibiting "path-dependent change", so that initial conditions determine both the subsequent trajectories of institutions and how they respond to shocks. We conclude the essay by discussing how institutions can be designed to bolster stability, the relationship between social mobility and institutions, and the interplay between culture and institutions.


DP15294 The Impact of Financial Education of Managers on Medium and Large Enterprises - A Randomized Controlled Trial in Mozambique

Author(s): Claudia Custodio, Diogo Mendes, Daniel Metzger

Date of Publication: September 2020

Programme Area(s): DE, FE

Keyword(s): financial literacy, Financial Education, RCT, Financing constraints, CEOs

Abstract: This paper studies the impact of a course in "Finance" for top managers of medium and large enterprises in Mozambique through a randomized controlled trial (RCT). Survey data and accounting data provide consistent evidence that managers change firm financial policies in response to finance education. The largest treatment ef- fect is on short-term financial policies related to working capital. Reductions in accounts receivable and inventories generate an increase in cash flows used to finance long-term investments. Those policy changes also improve the performance of the treated firms. Overall, our results suggest that relatively small and low-cost interventions, such as a standard executive education program in finance, can help firms to mitigate financial constraints and potentially affect economic development.


DP15293 All-Pay Matching Contests

Author(s): Aner Sela

Date of Publication: September 2020

Programme Area(s): IO


Abstract: We study two-sided matching contests with two sets, each of which includes two heterogeneous players with commonly known types. The agents in each set compete in all-pay contests where they simultaneously send their costly efforts, and then are either assortatively or disassortatively matched. We characterize the players' equilibrium efforts for a general value function that assigns values for both agents who are matched as a function of their types. We then analyze the cross-effects of the players' types on their expected payoffs as well as on their expected total effort. We show that although each player's value function increases (decreases) in the types of the players in the other set, his expected payoff does not necessarily increase (decrease) in these types. In addition, depending on the value function, each player's type might have either a positive or a negative marginal effect on the players' expected total effort.


DP15292 Bombs, Broadcasts and Resistance: Allied Intervention and Domestic Opposition to the Nazi Regime during World War II

Author(s): Maja Adena, Ruben Enikolopov, Maria Petrova, Hans-Joachim Voth

Date of Publication: September 2020

Programme Area(s): EH

Keyword(s): resistance, Nazi regime, bombing, radio propaganda

Abstract: Can bombs and broadcasts instigate resistance against a foreign regime? In this paper, we examine the canonical case of bombing designed to undermine enemy morale—the Allied bomber offensive against Germany during World War II. Our evidence shows that air power and the airwaves indeed undermined regime support. We collect data on treason trials and combine it with information on the bombing of over 900 German towns and cities. Using plausibly exogenous variation in weather, we show that places that suffered more bombardment saw noticeably more opposition. Bombing also reduced the combat motivation of soldiers: fighter pilots from bombed-out cities performed markedly less well after raids. We also provide evidence that exposure to BBC radio, especially together with bombing, increased the number of resistance cases. We corroborate these findings with the evidence on people’s opinions and behavior using unique survey data collected in 1945.



Sophie Roughton
0207 183 8812






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