# 1998

1. Antinolfi, G., and E. Huybens,** "Capital Accumulation and Real Exchange Rate Behavior in a Small Open Economy with Credit Market Frictions,"**

*Economic Theory,*

**12**(1998): 461-488.

**Abstract:**

We consider the nature of the relationship between the real exchange rate and capital formation. We present a model of a small open economy that produces and consumes two goods, one tradable and one not. Domestic residents can borrow and lend aborad, and costly state verification (CSV) is a source of frictions in domestic credit markets. The real exchange rate matters for capital accumulation because it affects the potential for investors to provide internal finance, which mitigates the CSV problem. We demonstrate that the real exchange rate must monotonically approach its steady state level. However, capital accumulation need not be monotonic and real exchange rate appreciation can be associated with either a rising or a falling capital stock. The relationship between world financial market conditions and the real exchange rate is also investigated.

2. Edlin, A., M. Epelbaum., and W. Heller, *"Is Perfect Price Discrimination Really Efficient?: Welfare and Existence in General Equilibrium,"** *Econometrica, **66** (1998): 897-922.

**Abstract:**

We examine the welfare properties of surplus maximization by embedding a perfectly discriminating monopoly in an otherwise standard Arrow-Debreu economy. Although we discover an inefficient equilibrium, we validate partial equilibrium intuition by showing: (i) that equilibria are efficient provided that the monopoly goods are costly, and (ii) that a natural monopoly can typically use personalized two-part tariffs in these equilibria. However, we find that Pareto optima are sometimes incompatible with surplus maximization, even when transfer payments are used. We provide insight into the source of this difficulty and give some instructive examples of economies where a second welfare theorem holds.

3. Huybens, E., and B. Smith, *"Financial Market Frictions, Monetary Policy, and Capital Accumulation in a Small Open Economy,"** *Journal of Economic Theory, **81** (1998): 353-400.

**Abstract:**

We consider a small open economy with a costly state verification problem and binding reserve requirements. The presence of these frictions leads to the existence of two steady states with credit rationing. An increase in the money growth rate, the world interest rate or reserve requirements raises (lowers) GDP in the high (low) activity steady state. However, sufficiently large increases in money growth or the world interest rate can transform the high activity steady state from a sink to a source. The model also delivers prescriptions for restoring the stability of this steady state in such an eventuality. JEL Classification: E5, F4.

4. Keister, T.,** "Money Taxes and Efficiency when Sunspots Matter,"**

*Journal of Economic Theory,*

**83**(1998): 43-68.

**Abstract:**

This paper examines the impact monetary redistribution policies have on the amount of sunspot-induced volatility in an economy. A dynamic model of segmented asset markets is presented in which the tax-transfer policy determines, in a continuous way, the influence sunspots can have on the general price level and on consumption. If the policy leads to a transfer of resources across segmentation lines, there exist equilibria in which sunspots affect consumption. The primary result is that there is an efficiency cost of taxation: larger transfers lead to larger fluctuations in consumption. The paper also shows that, in many cases, improvements in asset markets that decrease consumption volatility simultaneously increase price-level volatility. JEL Classification: D84, E31, E44, H21.

5. Lobato, I., and P. Robinson, ** "A Nonparametric Test for I(0),"**Review of Economic Studies,

**65**(1998): 475-495.

**Abstract:**

There is frequently interest in testing that a scalar or vector time series is I(0), possibly after first-differencing or other detrending, while the I(0) assumption is also taken for granted in autocorrelation-consistent variance estimation. We propose a test for I(0) against fractional alternatives. The test is nonparametric, and indeed makes no assumptions on spectral behaviour away from zero frequency. It seems likely to have good efficiency against fractional alternatives, relative to other nonparametric tests. The test is given large sample justification, subjected to a Monte Carlo analysis of finite sample behaviour, and applied to various empirical data series.

6. Ortigueira, S.,* *** "Fiscal Policy in an Endogenous Growth Model with Human Capital Accumulation," **Journal of Monetary Economics,

**42**(1998): 323-355.

**Abstract:**

In this paper we present an endogenous growth model with physical and human capital accumulation and study the effects of labor and capital income taxation on the transitional dynamics to the balanced path. We show that parameters on preferences, technologies and depreciation rates, as well as fiscal policy parameters, are relevant to determine qualitatively the dynamic behavior of the economy. We also offer a measure of the inefficiency derived from the taxation of capital earnings. Finally, we consider the taxation welfare cost in two non-trivial generalizations of our basic model which include the case of physical capital in the educational sector and leisure as an additional argument in the utility function.

7. Renero, J. M., ** "Unstable and Stable Steady States in the Kiyotaki-Wright Model,"**Economic Theory,

**11**(1998): 275-294.

**Abstract:**

I provide new results concerning dynamics for a version of the Kiyotaki-Wright model (1989) in which strategies (either mixed or pure) are restricted so that agents play the same strategy for each opportunity set. My results demonstrate the importance of examining stability in such models, because they show that many steady states focused on in the literature are not stable. Furthermore, I exhibit examples of two-period-convergent equilibria in which agents are indifferent among media of exchange. Consequently, their endogenous transaction pattern is analog to the coexistence of assets whose acceptability or "liquidity" varies inversely with their rates of return.

8. Santos, M., and J. Vigo,** "Analysis of a Numerical Dynamic Programming Algorithm Applied to Economic Models,"**

*Econometrica,*

**66**(1998): 409-426.

**Abstract:**

In this paper we develop a discretized version of the dynamic programming algorithm and study its convergence and stability properties. We show that the computed value function converges quadratically to the true value function and that the computed policy function converges linearly, as the mesh size of the discretization converges to zero; further, the algorithm is stable. We also discuss several aspects of the implementation of our procedures as applied to some commonly studied growth models.

9. Zapatero, F.** "Effects of Financial Innovations on Market Volatility when Beliefs are Heterogeneous," **Journal of Economic Dynamics and Control,

**22**(1998): 597-626.

**Abstract:**

Consider a model with two logarithmic utility maximizer agents that observe aggregate consumption but disagree about its expected rate of change. Markets are incomplete. We first show that volatility of the interest rate in an economy with additional information is higher. In a complete markets economy (with no additional information) there are two differences in volatility with the previous. The first one, due to the increase in volatility of the wealth share of the individuals is always positive. The second difference is the change in covariance between the components of the interest rate volatility and can be positive or negative.