Power of the purse
Quantifying the Lasting Harm to the U.S. Economy from the Financial Crisis
Robert Hall
NBER Working Paper, May 2014
Abstract:
The financial crisis and ensuing Great Recession left the U.S. economy in an injured state. In 2013, output was 13 percent below its trend path from 1990 through 2007. Part of this shortfall — 2.2 percentage points out of the 13 — was the result of lingering slackness in the labor market in the form of abnormal unemployment and substandard weekly hours of work. The single biggest contributor was a shortfall in business capital, which accounted for 3.9 percentage points. The second largest was a shortfall of 3.5 percentage points in total factor productivity. The fourth was a shortfall of 2.4 percentage points in labor-force participation. I discuss these four sources of the injury in detail, focusing on identifying state variables that may or may not return to earlier growth paths. The conclusion is optimistic about the capital stock and slackness in the labor market and pessimistic about reversing the declines in total factor productivity and the part of the participation shortfall not associated with the weak labor market.
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Law, Focal Points, and Fiscal Discipline in the United States and the European Union
Daniel Kelemen & Terence Teo
American Political Science Review, May 2014, Pages 355-370
Abstract:
Many studies suggest that strict balanced budget rules can restrain sovereign debt and lower sovereign borrowing costs, even if those rules are never enforced in court. Why might public officials adhere to a rule that is practically never enforced in court? Existing literature points to a legal deterrence logic in which the threat of judicial enforcement deters sovereigns from violating the rules in the first place. By contrast, we argue that balanced budget rules work by coordinating decentralized punishment of sovereigns by bond markets, rather than by posing a credible threat of judicial enforcement. Therefore, the clarity of the focal point provided by the rule, rather than the strength of its judicial enforcement mechanisms, determines its effectiveness. We develop a formal model that captures the logic of our argument, and we assess this model using data on U.S. states. We then consider implications of our argument for the impact of the balanced budget rules recently imposed on eurozone states in the Fiscal Compact Treaty.
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What do firms do when dividend tax rates change? An examination of alternative payout responses
Michelle Hanlon & Jeffrey Hoopes
Journal of Financial Economics, forthcoming
Abstract:
This paper investigates whether investor-level taxes affect corporate payout policy decisions. We predict and find a surge of special dividends in the final months of 2010 and 2012, immediately before individual-level dividend tax rates were expected to increase. We also find evidence that immediately before the expected tax increases, firms altered the timing of their regular dividend payments by shifting what would normally be January regular dividend payments into the preceding December. To our knowledge this is the first evidence in the literature about changes in the timing of regular dividend payments in response to tax law changes. For both actions (specials and shifting), we find that it was more likely for a firm to respond to individual-level tax rates if insiders owned a relatively large amount of the firm. Overall, our paper provides evidence that managers consider individual-level taxes in making corporate payout decisions.
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Productivity and Potential Output Before, During, and After the Great Recession
John Fernald
NBER Working Paper, June 2014
Abstract:
U.S. labor and total-factor productivity growth slowed prior to the Great Recession. The timing rules out explanations that focus on disruptions during or since the recession, and industry and state data rule out “bubble economy” stories related to housing or finance. The slowdown is located in industries that produce information technology (IT) or that use IT intensively, consistent with a return to normal productivity growth after nearly a decade of exceptional IT-fueled gains. A calibrated growth model suggests trend productivity growth has returned close to its 1973-1995 pace. Slower underlying productivity growth implies less economic slack than recently estimated by the Congressional Budget Office. As of 2013, about ¾ of the shortfall of actual output from (overly optimistic) pre-recession trends reflects a reduction in the level of potential.
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Caroline Weber
Journal of Public Economics, September 2014, Pages 90–103
Abstract:
The elasticity of taxable income (ETI) is a central parameter for tax policy debates. This paper shows that mean reversion prevents most estimators employed in the literature from obtaining consistent estimates of the ETI. A new method is proposed that will resolve inconsistency due to mean reversion under testable assumptions regarding the degree of serial correlation in the error term. Using this procedure, I estimate an ETI of 0.858, which is about twice as large as the estimates found in the most frequently cited paper on this subject. The corresponding elasticity of broad income is 0.475.
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Defense Government Spending Is Contractionary, Civilian Government Spending Is Expansionary
Roberto Perotti
NBER Working Paper, May 2014
Abstract:
Impulse responses to government spending shocks in Standard Vector Autoregressions (SVARs) typically display "expansionary" features. However, SVARs can be subject to a "non-fundamentalness" problem. "Expectations - Augmented" VARs (EVARs), which use direct measures of forecasts of defense spending, typically display "contractionary" responses to a defense news shock. I show that, when properly specified, SVARs and EVARs give virtually identical results. The reason for the widespread, opposite view is that defense shocks have "contractionary" effects while civilian government spending shocks have "expansionary" effects. Existing EVARs and SVARs, however, include only total government spending. In addition, the former are typically estimated on samples that include WWII and the Korean war, when defense shocks prevailed, while the latter are estimated mostly on post-1953 samples, when civilian shocks prevailed.
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Expansionary Austerity? International Evidence
Jaime Guajardo, Daniel Leigh & Andrea Pescatori
Journal of the European Economic Association, forthcoming
Abstract:
This paper investigates the short-term effects of fiscal consolidation on economic activity in OECD economies. We examine contemporaneous policy documents to identify changes in fiscal policy motivated by a desire to reduce the budget deficit and not by responding to prospective economic conditions. Using this new dataset, our estimates suggest that fiscal consolidation has contractionary effects on private demand and GDP. By contrast, estimates based on conventional measures of the fiscal policy stance used in the literature support the expansionary fiscal contractions hypothesis but appear to be biased toward overstating expansionary effects.
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The 2007–2008 U.S. Recession: What Did the Real-Time Google Trends Data Tell the United States?
Tao Chen et al.
Contemporary Economic Policy, forthcoming
Abstract:
In the extant literature of business cycle predictions, the signals for business cycle turning points are generally issued with a lag of at least 5 months. In this paper, we make use of a novel and timely indicator — the Google search volume data — to help to improve the timeliness of business cycle turning point identification. We identify multiple query terms to capture the real-time public concern on the aggregate economy, the credit market, and the labor market condition. We incorporate the query indices in a Markov-switching framework and successfully “nowcast” the peak date within a month that the turning occurred.
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A General Rationale for a Governmental Role in the Relief of Large Risks
Steven Shavell
NBER Working Paper, June 2014
Abstract:
The government often provides relief against large risks, such as disasters. A simple, general rationale for this role of government is considered here that applies even when private contracting to share risks is not subject to market imperfections. Specifically, the optimal private sharing of risks will not result in complete coverage against them when they are sufficiently large. Hence, when such risks eventuate, the marginal utility to individuals of governmental relief may exceed the marginal value of public goods. Consequently, social welfare may be raised if the government reduces public goods expenditures and directs these freed resources toward individuals who have suffered losses.
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Yasuyuki Motoyama & Iris Hui
Economic Development Quarterly, forthcoming
Abstract:
State business climate rankings are popular and can be influential in policymaking. Past academic studies have criticized those rankings for being based on some subjective criteria and on state-level data. However, in this article, we propose, first, that a business climate is an individual perception, and second, that a business climate is a case-specific condition depending on industries and stages of firm development. Thus, it is critical to measure the business climate at the decentralized, individual level. We employ a newly released survey of over 3,600 small business owners and conduct hierarchical models to control both individual and state variables, and to examine within and between state covariates. Regression results demonstrate that most state rankings are null even for individual perception of business climate, and in fact some rankings are negatively associated. Moreover, contrary to the conventional understanding, personal income, corporate income, and sales taxes are not reflected in the perception, but property taxes are. These findings suggest a need for fundamental reconsideration of how policymakers use business climate rankings.
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Mansion Tax: The Effect of Transfer Taxes on the Residential Real Estate Market
Wojciech Kopczuk & David Munroe
NBER Working Paper, May 2014
Abstract:
Houses and apartments sold in New York and New Jersey at prices above $1 million are subject to the so-called 1% "mansion tax" imposed on the full value of the transaction. This policy generates a discontinuity (a "notch") in the overall tax liability. We rely on this and other discontinuities to analyze implications of transfer taxes in the real estate market. Using administrative records of property sales, we find robust evidence of substantial bunching and show that the incidence of this tax for transactions local to the discontinuity falls on sellers, may exceed the value of the tax, and is not explained by tax evasion (although supply-side quality adjustments may play a role). Above the notch, the volume of missing transactions exceeds those bunching below the notch. Interpreting our results in the context of an equilibrium bargaining model, we conclude that the market unravels in the neighborhood of the notch: its presence provides strong incentive for buyers and sellers in the proximity of the threshold not to transact. This effect, the identification and recognition of which is novel to this paper, is above and beyond the standard extensive margin response. When present, unraveling affects interpretation and estimation of bunching estimates. Finally, we show that the presence of the tax affects how the market operates away from the threshold --- taxation increases price reductions during the search process and in the bargaining stage and weakens the relationship between listing and sale prices. We interpret these results as demonstrating that taxation affects the ultimate allocation in this search market.
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Quasi-Experimental Analysis on the Effects of Adoption of a Value Added Tax
Alex Ufier
Economic Inquiry, forthcoming
Abstract:
Value added taxes (VATs) have become an important source of government funding in past decades, but little empirical work has been carried out on their macroeconomic impacts. As the decision to implement a VAT is endogenous, regression methods analyzing the impact of the policy choice will yield biased estimates. To solve this problem, I first model the VAT adoption decision for 192 countries using survival analysis. I then match adopters to non-adopters using propensity score matching. I find that VAT adoption is associated with an increase in growth and investment as well as lower inflation and government spending as a share of GDP.
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Monetary/Fiscal Policy Mix and Agents' Beliefs
Francesco Bianchi & Cosmin Ilut
NBER Working Paper, June 2014
Abstract:
We reinterpret post World War II US economic history using an estimated microfounded model that allows for changes in the monetary/fiscal policy mix. We find that the fiscal authority was the leading authority in the '60s and the '70s. The appointment of Volcker marked a change in the conduct of monetary policy, but inflation dropped only when fiscal policy accommodated this change two years later. In fact, a disinflationary attempt of the monetary authority leads to more inflation if not supported by the fiscal authority. If the monetary authority had always been the leading authority or if agents had been confident about the switch, the Great Inflation would not have occurred and debt would have been higher. This is because the rise in trend inflation and the decline in debt of the '70s were caused by a series of fiscal shocks that are inflationary only when monetary policy accommodates fiscal policy. The reversal in the debt-to-GDP ratio dynamics, the sudden drop in inflation, and the fall in output of the early '80s are explained by the switch in the policy mix itself. If such a switch had not occurred, inflation would have been high for another fifteen years. Regime changes account for the stickiness of inflation expectations during the '60s and the '70s and for the break in the persistence and volatility of inflation.
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State Income Taxes and Military Service Members' Legal Residency Choices
Whitney Afonso
Contemporary Economic Policy, forthcoming
Abstract:
Using military residency data from 1998 to 2005 across all 50 states, I find that income taxes deter legal residencies and that the effect grows as income increases. My results indicate that states with no income tax or with exemptions for military wages experience 100% and 39% more service member residencies, respectively, than states with an income tax. The influence of state tax policy increases with higher pay and tenure. My findings are in keeping with economic theory, which suggests that high income workers will migrate out of high tax areas and be replaced by low income workers.
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Trade and the Topography of the Spatial Economy
Treb Allen & Costas Arkolakis
Quarterly Journal of Economics, forthcoming
Abstract:
We develop a general equilibrium framework to determine the spatial distribution of economic activity on any surface with (nearly) any geography. Combining the gravity structure of trade with labor mobility, we provide conditions for the existence, uniqueness, and stability of a spatial economic equilibrium and derive a simple set of equations which govern the relationship between economic activity and the geography of the surface. We then use the framework to estimate the topography of trade costs, productivities and amenities in the United States. We find that geographic location accounts for at least twenty percent of the spatial variation in U.S. income. Finally, we calculate that the construction of the interstate highway system increased welfare by 1.1 to 1.4 percent, which is substantially larger than its cost.
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The “Amazon Tax”: Empirical Evidence from Amazon and Main Street Retailers
Brian Baugh, Itzhak Ben-David & Hoonsuk Park
NBER Working Paper, April 2014
Abstract:
Several states have recently implemented laws requiring the collection of sales tax on online purchases. In practice, however, only Amazon.com has been affected. We find that households living in these states reduce Amazon expenditures by 9.5%, implying an elasticity of –1.3. We find the effect to be more pronounced for large purchases, for which we estimate an elasticity of –3.2. Further, we find that the decline in Amazon purchases is offset by a 2.0% increase in purchases at local brick-and-mortar retailers and a 19.8% increase in purchases at the online operations of competing retailers.
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Carl Kitchens
Journal of Economic History, June 2014, Pages 389-419
Abstract:
I study the impacts of one of the largest regional development projects in American History, the Tennessee Valley Authority (TVA), on a variety of economic outcomes. The TVA has been noted as an example of how to develop a region's water power potential to stimulate growth. In what follows, I show using a county-level panel dataset, that the TVA had little impact on economic growth in the South. I attribute these results to the institutional history of the TVA and the contractual agreements it signed in an effort to expand its service territory.
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Averting Catastrophes: The Strange Economics of Scylla and Charybdis
Ian Martin & Robert Pindyck
NBER Working Paper, June 2014
Abstract:
How should we evaluate public policies or projects to avert, or reduce the likelihood of, a catastrophic event? Examples might include inspection and surveillance programs to avert nuclear terrorism, investments in vaccine technologies to help respond to a "mega-virus," or the construction of levees to avert major flooding. A policy to avert a particular catastrophe considered in isolation might be evaluated in a cost-benefit framework. But because society faces multiple potential catastrophes, simple cost-benefit analysis breaks down: Even if the benefit of averting each one exceeds the cost, we should not necessarily avert all of them. We explore the policy interdependence of catastrophic events, and show that considering these events in isolation can lead to policies that are far from optimal. We develop a rule for determining which events should be averted and which should not.
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Tax Havens and Disclosure Aggregation
Herita Akamah, Ole-Kristian Hope & Wayne
Thomas University of Oklahoma Working Paper, April 2014
Abstract:
Many are concerned with multinational firms’ ability to avoid taxes by shifting profits to low-tax geographic areas. Calls have been made to improve financial disclosures to better reveal these firms’ geographic tax-avoidance behavior. Currently, however, firms are afforded considerable discretion in their disclosure of financial information by geographic area. While some firms choose to provide country-level disclosures of financial information, most disclose geographic operations at a much more aggregated level, such as by continent or even a single total foreign area. We develop novel measures of geographic disclosure quality by manually matching the countries of firms’ foreign subsidiaries listed in Exhibit 21 of the Form 10-K to the aggregation level of geographic disclosures in the segment note. Using these hand-coded measures of 2,774 unique geographic titles disclosed by our sample firms, we find that firms with tax havens are more likely to aggregate their geographic disclosures (i.e., provide lower-quality disclosures). The evidence is consistent with managers attempting to conceal their tax-avoidance activities. We further find that the association between tax havens and disclosure aggregation is more severe for larger firms (i.e., firms with higher political costs) and for firms in natural-resources industries, in retail industries, or with low competition. This study offers evidence relevant to policy makers and others who are concerned with the potential role of financial reporting in helping to understand the tax-avoidance activities of multinational firms.
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The Economic Stimulus Payments of 2008 and the Aggregate Demand for Consumption
Christian Broda & Jonathan Parker
NBER Working Paper, May 2014
Abstract:
Using a survey of households in the Nielsen Consumer Panel and the randomized timing of disbursement of the 2008 Economic Stimulus Payments, we find that a household’s spending rose by ten percent the week it received a Payment and remained high cumulating to 1.5-3.8 percent of spending over three months. Our estimates imply partial-equilibrium increases in aggregate demand of 1.3 percent of consumption in the second quarter of 2008 and 0.6 percent in the third. Spending is concentrated among households with low wealth or low past income; a household’s spending did not increase significantly when it learned about its Payment.
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HOT or not: Driver elasticity to price on the MnPASS HOT lanes
Michael Janson & David Levinson
Research in Transportation Economics, June 2014, Pages 21–32
Abstract:
The Minnesota Department of Transportation (MnDOT) has added MnPASS High Occupancy Toll (HOT) lanes on two freeway corridors in the Twin Cities. While not the first HOT lanes in the country, the MnPASS lanes are the first implementation of road pricing in Minnesota and possess a dynamic pricing schedule. Tolls charged to single occupant vehicles (SOVs) are adjusted every 3 min according to HOT lane vehicle density. Given the infancy of systems like MnPASS, questions remain about drivers' responses to toll prices. Three field experiments were conducted on the corridors during which prices were changed. Data from the field experiments as well as two years of toll and traffic data were analyzed to measure driver responses to pricing changes. Driver elasticity to price was positive with magnitudes less than 1.0. This positive relationship between price and demand is in contrast with the previously held belief that raising the price would discourage demand. In addition, drivers consistently paid between approximately $60–120 per hour of travel time savings, much higher than the average value of time. Reasons for these results is discussed as well as the implications these results have on the pricing of HOT lanes.
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How Does Government Borrowing Affect Corporate Financing and Investment?
John Graham, Mark Leary & Michael Roberts
Duke University Working Paper, April 2014
Abstract:
Using a novel dataset of accounting and market information that spans most publicly traded nonfinancial firms over the last century, we find an economically large and robust negative relation between U.S. federal government debt and corporate debt and investment. A one standard deviation increase in Treasury debt is associated with a one third standard deviation reduction in corporate debt issuances, no significant change in corporate equity issuances, and a one third standard deviation reduction in corporate investment. These relations are more pronounced in larger, less risky firms whose debt is a closer substitute for Treasuries. The channel through which this effect operates is financial intermediaries, whose asset portfolios reveal a substitution between federal government debt and corporate debt. The relations between government debt and corporate policies, as well as the substitution between government and corporate debt by intermediaries, are stronger after 1970 when foreign demand increased competition for Treasury securities. In concert, our results suggest that large, financially healthy corporations act as liquidity providers by supplying relatively safe securities to investors when alternatives are in short supply, and that this financial strategy influences firms’ capital structures and investment policies.
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Transfer Payments and the Macroeconomy: The Effects of Social Security Benefit Changes, 1952-1991
Christina Romer & David Romer
NBER Working Paper, May 2014
Abstract:
From the early 1950s to the early 1990s, increases in Social Security benefits in the United States varied widely in size and timing, and were only rarely undertaken in response to short-run macroeconomic developments. This paper uses these benefit increases to investigate the macroeconomic effects of changes in transfer payments. It finds a large, immediate, and statistically significant response of consumption to permanent changes in transfers. The response appears to decline at longer horizons, however, and there is no clear evidence of effects on industrial production or employment. These effects differ sharply from the effects of relatively exogenous tax changes: the impact of transfers is faster, but much less persistent and dramatically smaller overall. Finally, we find strong statistical and narrative evidence of a sharply contractionary monetary policy response to permanent benefit increases that is not present for tax changes. This may account for the lower persistence of the consumption effects of transfers and their failure to spread to broader indicators of economic activity.
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Andrea Heuson & Gary Painter
Real Estate Economics, forthcoming
Abstract:
The Taxpayer Relief Act of 1997 (TRA97) replaced a one-time, post-age-55 capital gain exclusion with a larger gain exclusion amount that could be protected every two years without requiring that the taxpayer trades up in housing. This action had the potential to impact housing transactions for every existing homeowner, regardless of age, as well as future purchasers of housing. We analyze household-level data to determine if the repeated ability to exclude periodic recognized capital gains on housing from taxation shortened housing tenure significantly after TRA97 became effective. We next consider whether the decline was heterogeneous across age groups, across trading up and trading down and across geography. Given that the impact of TRA97 appears at first glance to be most profound for taxpayers close to 55 years of age, a somewhat surprising result of our research is that significant decreases in tenure are pervasive, appearing in all age ranges and in samples of homeowners who trade up and who trade down. Finally, we provide additional evidence at the aggregate level that TRA97 led to measurable changes in the price elasticity of housing turnover in the four geographic regions defined by the U.S. Census Bureau (Northeast, Midwest, South and West) and in states that are home to large metropolitan housing markets.
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Local Government Responses to Fiscal Stress: Evidence from the Public Education Sector
Ashlyn Aiko Nelson & Rekha Balu
Public Administration Review, forthcoming
Abstract:
This article investigates local government responses to fiscal stress through the lens of the K–12 public education sector, examining two major policy options available to school districts for managing fiscal hardship: (1) cutting costs, especially through layoffs, and (2) raising revenues locally through voter referenda. The article employs district-level administrative and survey data from California and Indiana to examine whether school districts exhibit features of a rational or natural system — in which their behaviors largely reflect fiscal pressures only — or whether they exhibit features of an open system in which nonfinancial factors also shape responses. In Indiana, district fiscal characteristics explain differences in cost-cutting and revenue-raising behaviors; there is little empirical evidence that school districts exhibit features of an open system. In California, both fiscal and environmental attributes, including poverty characteristics, average student achievement levels, and the enrollment of English learner students, explain school district behaviors.