American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Reports Independent Auditor's Report 1083 1091 http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.1083 10.1257/aer.99.3.1083 American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Journal Article Front Matter i iii Includes "Walter Erwin Diewert: Distinguished Fellow 2009" http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.i 10.1257/aer.99.3.i American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles The Increasing Returns Revolution in Trade and Geography PaulKrugmanPrinceton U 561 71 Thirty years have passed since a small group of theorists began applying concepts and tools from industrial organization to the analysis of international trade. The new models of trade that emerged from that work didn’t supplant traditional trade theory so much as supplement it, creating an integrated view that made sense of aspects of world trade that had previously posed major puzzles. The "new trade theory"&emdash;an unfortunate phrase, now quite often referred to as "the old new trade theory"&emdash;also helped build a bridge between the analysis of trade between countries and the location of production within countries. In this paper I will try to retrace the steps and, perhaps even more important, the state of mind that made this intellectual transformation possible. At the end I'll also ask about the relevance of those once-revolutionary insights in a world economy that, as I'll explain, is arguably more classical now than it was when the revolution in trade theory began. http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.561 10.1257/aer.99.3.561 American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Bureaucratic Minimal Squawk Behavior: Theory and Evidence from Regulatory Agencies ClareLeaverQueen's College, U Oxford 572 607 This paper develops a model in which a desire to avoid criticism prompts otherwise public-spirited bureaucrats to behave inefficiently. Decisions are taken to keep interest groups quiet and to keep mistakes out of the public eye. The policy implications of this "minimal squawk" behavior are at odds with the view that agencies should be structured to minimize the threat of "capture." An empirical test using data from US State Public Utility Commissions rejects the capture hypothesis and is consistent with the squawk hypothesis: longer PUC terms of office are associated with a higher incidence of rate reviews and lower household electricity bills. (JEL D73, L51, L97, L98) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.572 10.1257/aer.99.3.572 http://www.e-aer.org/data/june09/20061229_data.zip http://www.e-aer.org/data/june09/20061229_app.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Incentives and Stability in Large Two-Sided Matching Markets FuhitoKojimaYale U Parag A.PathakHarvard U and MIT 608 27 A number of labor markets and student placement systems can be modeled as many-to-one matching markets. We analyze the scope for manipulation in many-to-one matching markets under the student-optimal stable mechanism when the number of participants is large. Under some regularity conditions, we show that the fraction of participants with incentives to misrepresent their preferences when others are truthful approaches zero as the market becomes large. With an additional condition, truthful reporting by every participant is an approximate equilibrium under the student-optimal stable mechanism in large markets. (JEL C78) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.608 10.1257/aer.99.3.608 http://www.e-aer.org/data/june09/20070909_app.pdf American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Economic Catastrophe Bonds Joshua D.CovalHarvard U Jakub W.JurekBendheim Center for Finance, Princeton U ErikStaffordHarvard U 628 66 The central insight of asset pricing is that a security's value depends both on its distribution of payoffs across economic states and on state prices. In fixed income markets, many investors focus exclusively on estimates of expected payoffs, such as credit ratings, without considering the state of the economy in which default occurs. Such investors are likely to be attracted to securities whose payoffs resemble economic catastrophe bonds&emdash;bonds that default only under severe economic conditions. We show that many structured finance instruments can be characterized as economic catastrophe bonds, but offer far less compensation than alternatives with comparable payoff profiles. (JEL G11, G12) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.628 10.1257/aer.99.3.628 http://www.e-aer.org/data/june09/20071332_data.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Distributional and Efficiency Impacts of Increased US Gasoline Taxes Antonio M.BentoCornell U Lawrence H.GoulderStanford U Mark R.JacobsenU CA, San Diego Roger H.von HaefenNC State U 667 99 We examine the impacts of increased US gasoline taxes in a model that links the markets for new, used, and scrapped vehicles and recognizes the considerable heterogeneity among households and cars. Household choice parameters derive from an estimation procedure that integrates individual choices for car ownership and miles traveled. We find that each cent-per-gallon increase in the price of gasoline reduces the equilibrium gasoline consumption by about 0.2 percent. Taking account of revenue recycling, the impact of a 25-cent gasoline tax increase on the average household is about $30 per year (2001 dollars). Distributional impacts depend importantly on how additional revenues from the tax increase are recycled. (JEL D12, H22, H25, L62, L71) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.667 10.1257/aer.99.3.667 http://www.e-aer.org/data/june09/20071186_data.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Should Urban Transit Subsidies Be Reduced? Ian W. H.ParryResources for the Future, Washington, DC Kenneth A.SmallU CA, Irvine 700 724 This paper derives empirically tractable formulas for the welfare effects of fare adjustments in passenger peak and off-peak rail and bus transit, and for optimal pricing of those services. The formulas account for congestion, pollution, accident externalities, scale economies, and agency adjustment of transit service offerings. We apply them using parameter values for Washington (DC), Los Angeles, and London. The results support the efficiency of the large current fare subsidies; even starting with fares at 50 percent of operating costs, incremental fare reductions are welfare improving in almost all cases. These findings are robust to alternative assumptions and parameters. (JEL L92, R41, R42, R48) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.700 10.1257/aer.99.3.700 http://www.e-aer.org/data/june09/20070998_data.zip http://www.e-aer.org/data/june09/20070998_app.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Trade, Tragedy, and the Commons Brian R.CopelandU British Columbia M. ScottTaylorU Calgary 725 49 We develop a theory of resource management where the degree to which countries escape the tragedy of the commons, and hence the de facto property rights regime, is endogenously determined. Three forces determine success or failure in resource management: the regulator's enforcement power, the extent of harvesting capacity, and the ability of the resource to generate competitive returns without being extinguished. The model can explain heterogeneity across countries and resources in the effectiveness of resource management, and it predicts that changes in prices, population, and technology can cause transitions to better or worse management regimes. (JEL P14, Q21, Q22, Q23, Q32) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.725 10.1257/aer.99.3.725 American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Strategic Leniency and Cartel Enforcement Nathan H.MillerU CA, Berkeley 750 68 The cornerstone of cartel enforcement in the United States and elsewhere is a commitment to the lenient prosecution of early confessors. A burgeoning gametheoretical literature is ambiguous regarding the impacts of leniency. I develop a theoretical model of cartel behavior that provides empirical predictions and moment conditions, and apply the model to the complete set of indictments and information reports issued over a 20-year span. Statistical tests are consistent with the notion that leniency enhances deterrence and detection capabilities. The results have implications for market efficiency and enforcement efforts against cartels and other forms of organized crime. (JEL D43, L12, L13, K21) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.750 10.1257/aer.99.3.750 http://www.e-aer.org/data/june09/20070198_data.zip http://www.e-aer.org/data/june09/20070198_app.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Optimal Sticky Prices under Rational Inattention BartoszMaćkowiakEuropean Central Bank MirkoWiederholtNorthwestern U 769 803 This paper presents a model in which price setting firms decide what to pay attention to, subject to a constraint on information flow. When idiosyncratic conditions are more variable or more important than aggregate conditions, firms pay more attention to idiosyncratic conditions than to aggregate conditions. When we calibrate the model to match the large average absolute size of price changes observed in micro data, prices react fast and by large amounts to idiosyncratic shocks, but only slowly and by small amounts to nominal shocks. Nominal shocks have strong and persistent real effects. (JEL D21, D83, E31, E52) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.769 10.1257/aer.99.3.769 http://www.e-aer.org/data/june09/20050222_data.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles The Young, the Old, and the Restless: Demographics and Business Cycle Volatility NirJaimovichStanford U Henry E.SiuU British Columbia 804 26 We investigate the consequences of demographic change for business cycle analysis. We find that changes in the age composition of the labor force account for a significant fraction of the variation in cyclical volatility observed in the G7. Since World War II, these countries have experienced dramatic demographic changes, although details regarding timing and nature differ across countries. We exploit this variation to show that the workforce age composition has a large and significant effect on cyclical volatility. We relate our results to the recent decline in US macroeconomic volatility, finding that demographic change accounts for approximately one-fifth to one-third of this moderation. (JEL E32, J11) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.804 10.1257/aer.99.3.804 http://www.e-aer.org/data/june09/20070168_data.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Tricks with Hicks: The EASI Demand System ArthurLewbelBoston College KrishnaPendakurSimon Fraser U 827 63 We invent Implicit Marshallian demands, which combine desirable features of Hicksian and Marshallian demands. We propose and estimate the Exact Affine Stone Index (EASI) implicit Marshallian demand system. Like the Almost Ideal Demand (AID) system, EASI budget shares are linear in parameters given real expenditures. However, unlike the AID, EASI demands can have any rank and its Engel curves can have any shape over real expenditures. EASI error terms equal random utility parameters to account for unobserved preference heterogeneity. EASI demand functions can be estimated using GMM or three stage least squares, and, like AID, an approximate EASI model can be estimated by linear regression. (JEL D11, D12) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.827 10.1257/aer.99.3.827 http://www.e-aer.org/data/june09/20070297_data.zip http://www.e-aer.org/data/june09/20070297_app.pdf American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Observational Learning: Evidence from a Randomized Natural Field Experiment HongbinCaiPeking U YuyuChenPeking U HanmingFangDuke U 864 82 We report results from a randomized natural field experiment conducted in a restaurant dining setting to distinguish the observational learning effect from the saliency effect. We find that, when customers are given ranking information of the five most popular dishes, the demand for those dishes increases by 13 to 20 percent. We do not find a significant saliency effect. We also find modest evidence that the observational learning effects are stronger among infrequent customers, and that dining satisfaction is increased when customers are presented with the information of the top five dishes, but not when presented with only names of some sample dishes. (JEL C93, D83) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.864 10.1257/aer.99.3.864 http://www.e-aer.org/data/june09/20071220_data.zip http://www.e-aer.org/data/june09/20071220_app.pdf American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Misselling through Agents RomanInderstJohann Wolfgang Goethe U Frankfurt MarcoOttavianiNorthwestern U 883 908 This paper analyzes the implications of the inherent conflict between two tasks performed by direct marketing agents: prospecting for customers and advising on the product's "suitability" for the specific needs of customers. When structuring salesforce compensation, firms trade off the expected losses from "misselling" unsuitable products with the agency costs of providing marketing incentives. We characterize how the equilibrium amount of misselling (and thus the scope of policy intervention) depends on features of the agency problem including: the internal organization of a firm's sales process, the transparency of its commission structure, and the steepness of its agents' sales incentives. (JEL M31, M37, M52) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.883 10.1257/aer.99.3.883 American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Reference-Dependent Consumption Plans BotondKöszegiU CA, Berkeley MatthewRabinU CA, Berkeley 909 36 We develop a rational dynamic model in which people are loss averse over changes in beliefs about present and future consumption. Because changes in wealth are news about future consumption, preferences over money are reference-dependent. If news resonates more when about imminent consumption than when about future consumption, a decision maker might (to generate pleasant surprises) overconsume early relative to the optimal committed plan, increase immediate consumption following surprise wealth increases, and delay decreasing consumption following surprise losses. Since higher wealth mitigates the effect of bad news, people exhibit an unambiguous first-order precautionary-savings motive. (JEL D14, D81, D83, D91) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.909 10.1257/aer.99.3.909 http://www.e-aer.org/data/june09/20071253_app.pdf American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Evolution of Time Preferences and Attitudes toward Risk NickNetzerSocioeconomic Institute, U Zurich 937 55 This paper explores a general model of the evolution and adaption of hedonic utility. It is shown that optimal utility will be increasing strongly in regions where choices have to be made often and decision mistakes have a severe impact on fitness. Several applications are suggested. In the context of intertemporal preferences, the model offers an evolutionary explanation for the existence of conflicting short- and long-run interests that lead to dynamic inconsistency. Concerning attitudes toward risk, an evolutionary explanation is given for S-shaped value functions that adjust to the decision maker's environment. (JEL D81, D83) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.937 10.1257/aer.99.3.937 American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Cooperation and Competition in Intergenerational Experiments in the Field and the Laboratory GaryCharnessU CA, Santa Barbara Marie-ClaireVillevalU Lyon-GATE and IZA, Bonn 956 78 There is economic pressure to postpone the retirement age, but employers are still reluctant to employ older workers. We investigate the comparative behavior of juniors and seniors in experiments conducted both onsite with the employees of two large firms and in a conventional laboratory environment with students and retirees. We show that seniors are no more risk averse than juniors and are typically more cooperative; both juniors and working seniors respond strongly to competition. The implication is that it may be beneficial to define additional incentives near the end of the career to motivate and retain older workers. (JEL C90, J14, J26, M12, M51) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.956 10.1257/aer.99.3.956 http://www.e-aer.org/data/june09/20080175_data.zip http://www.e-aer.org/data/june09/20080175_app.pdf American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Articles Cooperation among Strangers under the Shadow of the Future GabrieleCameraU IA MarcoCasariPurdue U and U Bologna 979 1005 We study the emergence of norms of cooperation in experimental economies populated by strangers interacting indefinitely. Can these economies achieve full efficiency even without formal enforcement institutions? Which institutions for monitoring and enforcement facilitate cooperation? Finally, what classes of strategies do subjects employ? We find that, first, cooperation can be sustained even in anonymous settings; second, some type of monitoring and punishment institutions significantly promote cooperation; and, third, subjects mostly employ strategies that are selective in punishment. (JEL C71, C73, D12, Z13) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.979 10.1257/aer.99.3.979 http://www.e-aer.org/data/june09/20071231_data.zip http://www.e-aer.org/data/june09/20071231_app.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Shorter Papers Under the Weather: Health, Schooling, and Economic Consequences of Early-Life Rainfall SharonMacciniU MI DeanYangU MI 1006 26 We examine the effect of early-life rainfall on the health, education, and socioeconomic outcomes of Indonesian adults. We link historical rainfall for each individual's birth year and birth location with adult outcomes from the 2000 Indonesia Family Life Survey (IFLS). Higher early-life rainfall has large positive effects on the adult outcomes of women, but not of men. Women with 20 percent higher rainfall (relative to the local norm) are 0.57 centimeters taller, complete 0.22 more schooling grades, and live in households scoring 0.12 standard deviations higher on an asset index. Schooling attainment appears to mediate the impact on adult women's socioeconomic status. (JEL I12, I21, J16, O15) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.1006 10.1257/aer.99.3.1006 http://www.e-aer.org/data/june09/20060760_data.zip http://www.e-aer.org/data/june09/20060760_app.pdf American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Shorter Papers Anchoring Effects: Evidence from Art Auctions AlanBeggsU Oxford KathrynGraddyBrandeis U 1027 39 This paper shows that the price of a painting sold at an art auction and the experts' pre-sale valuations are anchored on the price at which the painting previously sold at auction. We are able to separate anchoring from rational learning by using the identifying strategy that the unobservable component of quality for a particular painting remains constant between the last auction sale and the current auction sale. We interpret these results as anchoring on the part of the buyers, with the sellers and auctioneers either anticipating anchoring on the part of the buyers or exhibiting anchoring effects themselves. (JEL D44, Z11) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.1027 10.1257/aer.99.3.1027 http://www.e-aer.org/data/june09/20050359_data.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Shorter Papers On the Welfare Cost of Inflation and the Recent Behavior of Money Demand Peter N.IrelandBoston College 1040 52 Post-1980 US data trace out a stable long-run money demand relationship of Cagan's semi-log form between the M1-income ratio and the nominal interest rate, with an interest semielasticity below 2. Integrating under this money demand curve yields estimates of the welfare costs of modest departures from Friedman's zero nominal interest rate rule for the optimum quantity of money that are quite small. The results suggest that the Federal Reserve's current policy, which generates low but still positive rates of inflation, provides an adequate approximation in welfare terms to the alternative of moving all the way to the Friedman rule. (JEL E31, E41, E52) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.1040 10.1257/aer.99.3.1040 http://www.e-aer.org/data/june09/20071203_data.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Shorter Papers Not All Oil Price Shocks Are Alike: Disentangling Demand and Supply Shocks in the Crude Oil Market LutzKilianU MI 1053 69 Shocks to the real price of oil may reflect oil supply shocks, shocks to the global demand for all industrial commodities, or demand shocks that are specific to the crude oil market. Each shock has different effects on the real price of oil and on US macroeconomic aggregates. Changes in the composition of shocks help explain why regressions of macroeconomic aggregates on oil prices tend to be unstable. Evidence that the recent surge in oil prices was driven primarily by global demand shocks helps explain why this shock so far has failed to cause a major recession in the United States. (JEL E31, E32, Q41, Q43) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.1053 10.1257/aer.99.3.1053 http://www.e-aer.org/data/june09/20070211_data.zip American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Shorter Papers Exclusive Dealing and Entry, When Buyers Compete: Comment JulianWrightNational U Singapore 1070 81 In a recent paper, Chiara Fumagalli and Massimo Motta (2006) challenge the idea that an incumbent can foreclose efficient entry in the face of scale economies by using exclusive contracts. They claim that inefficient exclusion does not arise when buyers are homogenous firms that compete downstream. However, when upstream firms can compete in two-part tariffs, their equilibrium analysis contains some errors. Fixing these errors, inefficient exclusion arises when scale economies are sufficiently large or the entrant's cost advantage is not too big. Inefficient exclusion arises to protect industry profits from competition. (JEL L11, L13, L14) http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.1070 10.1257/aer.99.3.1070 American Economic Association Nashville, TN 0002-8282 American Economic Review http://www.aeaweb.org/aer/ 99 3 June 2009 http://www.aeaweb.org/issue.php?journal=AER&volume=99&issue=3 Shorter Papers Corrigendum: Women, Wealth, and Mobility LenaEdlundColumbia U WojciechKopczukColumbia U 1082 1082 http://www.aeaweb.org/articles.php?doi=10.1257/aer.99.3.1082 10.1257/aer.99.3.1082