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ResearchUPDATE
www.newyorkfed.org/research

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Number1,3,2012
2009
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Research and Statistics Group

www.newyorkfed.org/research
www.newyorkfed.org/research

Liberty Street Economics Blog Series
Examines Jobs Picture

ew York Fed economists recently pub
lished a string of consecutive posts on the
topic of U.S. labor market conditions,
producing the first themed series of the
Liberty Street Economics blog. Ten writers teamed up
to outline the issues affecting the jobs picture and
update readers on their latest research in the field.
They set the stage with a puzzle that has been a
focus of debate: What explains the surprisingly quick
drop in the unemployment rate at a time of relatively
modest GDP growth? Their investigation then moved
on to consider the possible paths for the unemploy
ment rate coming out of the recession.
At 8.3 percent in February, the unemployment
rate was down 0.8 percentage point from mid-2011
and markedly below its peak of 10.1 percent in
2009. In the lead post, “Prospects for the U.S. Labor
Market,” Jonathan McCarthy and Simon Potter note
that the last drop of this size —in 1984—came with
a 7 percent surge in real GDP growth, in contrast
to growth today “around trend at best” (about
2.5 percent).
This anomaly led McCarthy, Potter, and Ging Cee
Ng into a discussion in the second post about Okun’s
law (“Okun’s Law and Long Expansions”)—which
suggests a predictable relationship between GDP
growth and unemployment—and when it has and
has not held up. Continuing the series, Ayşegül Şahin
and Christina Patterson, in “The Bathtub Model of
Unemployment: The Importance of Labor Market
Flow Dynamics,” and Stefania Albanesi, Şahin, and
Joshua Abel, in “Reconciling Contrasting Signals in
the Labor Market: The Role of Participation,” looked

at how the unemployment rate is influenced by demo
graphics, labor force participation, and other factors.
Among the patterns they discussed is the contrast
between men’s steady decline in labor force participa
tion in the postwar period and women’s swing from
increasing to flattening and now declining
participation.
The blog series also identified other key issues
shaping recovery in the labor market, such as the
“speed and smoothness” with which laid-off
workers will be able to transition into new jobs. Şahin
and Richard Crump, in their post “Skills Mismatch,
Construction Workers, and the Labor Market,”
reported on their research into the surprisingly strong
job-finding abilities of construction workers. The
economists observed that, although facing an
unemployment rate of 16 percent, construction workers
have lately been better able than displaced workers as
a whole to find new work that fits their skills, and they
have done so without making greater concessions
than other workers.

Also in this issue…
U.S. firms retain competitiveness
in global markets.......................................................3
Top Blog Posts of Q1......................................................4
Most downloaded publications....................................5
Papers recently published by Research
Group economists.....................................................5
Papers presented at conferences...................................6
Staff Reports: New titles.................................................7
Publications and papers: January–March................ 13

Research UPDATE n Number 1, 2012
The Labor Market Series:

Economists and policymakers continue to debate
the extent to which the U.S. jobs picture is afflicted by
structural unemployment in the form of high levels
of “skills mismatch,” which keeps displaced workers
from attaining comparable jobs in other sectors. In
2011, New York Fed economists helped devise a
“Mismatch Index”; drawing on that index for the
labor market series, the blog authors argue that
“although mismatch rose considerably during the
Great Recession, that rise proved temporary.”
The final blog post in the series, “Conclusion:
How Low Will the Unemployment Rate Go?” by
McCarthy, Potter, and Şahin, covers the economists’
view of how far and fast the labor market might
recover.
Keep watch for a second themed series coming
soon on changes in banking since 1995.

for the U.S. Labor Market” by Jonathan
McCarthy and Simon Potter

n “Prospects

Law and Long Expansions” by Jonathan
McCarthy, Simon Potter, and Ging Cee Ng

n “Okun’s

Bathtub Model of Unemployment: The
Importance of Labor Market Flow Dynamics” by
Ayşegül Şahin and Christina Patterson

n “The

Contrasting Signals in the Labor
Market: The Role of Participation” by Stefania
Albanesi, Ayşegül Şahin, and Joshua Abel

n “Reconciling

Mismatch, Construction Workers, and
the Labor Market” by Richard Crump and
Ayşegül Şahin

n “Skills

Echoes: How the BLS Measured Up” by
Amy Farber and Andrew Haughwout

n “Historical

How Low Will the Unemployment Rate
Go?” by Jonathan McCarthy, Simon Potter, and
Ayşegül Şahin

n “Conclusion:

Publications and Other Media
n

The Economic Policy Review—a policy-oriented journal focusing on economic and financial market issues.

EPR Executive Summaries—online versions of selected Economic Policy Review articles, in abridged form.

Current Issues in Economics and Finance—concise studies of topical economic and financial issues.

Second District Highlights—a regional supplement to Current Issues.

n
n

Staff Reports—technical papers intended for publication in leading economic and finance journals,
available only online.
Publications and Other Research—an annual catalogue of our research output.
Liberty Street Economics—a blog that enables our economists to engage with the public on important
economic issues quickly and frequently.

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U.S. Firms Retain Competitiveness
in Global Markets

machinery and transportation products) whose
share of world trade was expanding. However, the
commodities sector, one of the primary drivers of
the decline, contributed to export share losses largely
through the declining weight of these goods in the
world export basket.
Mandel next pursues the notion that the slower
growth rate of the U.S. economy relative to that of its
competitors may account for part of the decline in the
export share. Noting that a large body of research has
demonstrated a link between the size of a nation’s
economy and the size of its international trade flows,
he conducts an empirical exercise in which he relates
the nation’s export market share to its share of world
GDP, geographic factors (such as the distance
between import and export markets), and relative
productivity. Mandel’s calculations show that a
reduction in the U.S. share of global output accounts
for fully half of the decline in the U.S. export share.
After “subtracting” the effects of these GDP dynamics
and geographic factors from his calculations, Mandel
views the residual as capturing the effects of a change
in U.S. relative productivity. By this measure, the
effects have been very modest: “Flagging relative
productivity may have played a role in export
contraction in the early 2000s, but it does not emerge
as a large factor in the decline of the U.S. share of
merchandise exports over the longer term.”
Overall, Mandel’s study shows that GDP dynamics
and the changing make-up of international exports
account for much of the decline in the U.S. export
share. Other factors—such as the outsourcing of
production processes to other countries and a drop in
commodity prices—are also seen as playing a role in
the export losses. By contrast, the author finds only
slight evidence for the notion that U.S. firms as a
group are experiencing a sharp drop in relative
productivity, or in their ability to compete with
foreign exporters more generally. n

he sharp drop in the U.S. share of world
goods trade since 2000 stems from a
variety of factors and does not signal a
broad-based decline in U.S. firms’ ability
to compete against foreign exporters, according to a
new article in Current Issues in Economics and Finance
(vol. 18, no. 1, “Why Is the U.S. Share of World
Merchandise Exports Shrinking?”).
Author Benjamin R. Mandel begins his analysis
by noting that the U.S. market share of world goods
exports fell from roughly 12 percent in the 1980s
and 1990s to only 8.5 percent in 2010. For many
observers, he remarks, this decline is a sign that the
productivity growth of U.S. exporting firms has not
kept pace with that of foreign firms exporting similar
goods. To investigate the factors behind the drop in
export share—and in particular to examine how large
a role the relative productivity of U.S. firms has
played—Mandel analyzes a detailed international
data set that breaks down world trade into several
hundred products.
Mandel first explores whether changes in the
composition of goods traded internationally might
help to explain the decline in the U.S. export share. “If
the rest of the world is increasingly trading goods that
the United States does not produce,” he argues, “the
U.S. export share will fall—even if U.S. firms remain
just as productive as their competitors in the goods
that they do export.” To test this possibility, Mandel
identifies the products that have contributed the most
to the declining U.S. export share. In each case, he
then calculates the extent to which U.S. manufac
turers of that product lost market share to foreign
producers and the extent to which the product itself
simply claimed a smaller fraction of world exports.
Mandel finds that compositional effects do indeed
account for a significant part of the decline in the U.S.
export share. To be sure, the nation lost ground to its
competitors in the export of some goods (such as

RESEARCH AND STATISTICS GROUP
3

Research UPDATE n Number 1, 2012

Top Blog Posts of Q1

ur Liberty Street Economics blog
publishes on economic topics twice a
week—more frequently when there’s a
post on a newly released report or on
a pressing topic.

The authors explain how making refinancing
“available on streamlined terms and with moderate
fees to all prime conforming borrowers who are
current on their payments” could help stabilize the
housing market and support economic growth.
They also explain why mortgage refinancing is
not—as some argue—a zero-sum game in which
the benefits to one group are exactly offset by the
costs to another.

Listed below are the top five posts in the first quarter.

“Grading Student Loans,” by Meta Brown, Andrew
Haughwout, Donghoon Lee, Maricar Mabutas,
and Wilbert van der Klaauw, March 5 –
13,128 downloads

The authors examine the overall student loan
debt market as of third-quarter 2011, giving
particular attention to changes from the second to
the third quarter and highlighting new findings by
age group.
n

Şahin and Patterson focus on the labor market
flow dynamics in an economic recovery to help understand how the unemployment rate may evolve.
n

“Forecasting with Internet Search Data,” by Rebecca
Hellerstein and Menno Middeldorp, January 4 –
6,582 downloads

“Prospects for the U.S. Labor Market,” by Jonathan
McCarthy and Simon Potter, March 26 –
3,498 downloads
In this first post of the labor market series, the
authors outline some of the themes examined in the
series and provide a brief summary of the conclu
sions. They also develop a simple framework to
place the unemployment rate in context with the
rest of the labor market.

Hellerstein and Middeldorp show that Internet
search counts can also predict some financial
market data releases, as well as future price move
ments in some financial markets.
n

“The Bathtub Model of Unemployment: The
Importance of Labor Market Flow Dynamics,” by
Ayşegül Şahin and Christina Patterson,
March 28 – 3,536 downloads

“Why Mortgage Refinancing Is Not a Zero-Sum
Game,” by Joseph Tracy and Joshua Wright,
January 11 – 4,964 downloads

http://libertystreeteconomics.newyorkfed.org

Follow Us on Twitter!
The Research Group has a Twitter feed, designed to offer the first word on news going on in the Group,
such as:
n new

publications and blog posts,

n updates

on economists’ work and speaking engagements,

n postings
n media

of key indexes and data,

coverage of our work.

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www.newyorkfed.org/research

Most Downloaded Publications

SSRN website, first-quarter 2012:

isted below are the most sought-after
Research Group articles and papers from the
New York Fed’s website and from the
Bank’s page on the Social Science Research
Network site (www.ssrn.com/link/FRB-New-York.html).

New York Fed website, first-quarter 2012:
n

“Why Are Banks Holding So Many Excess Reserves?”
by Todd Keister and James McAndrews (Staff
Reports, no. 380, July 2009) – 4,508 downloads
w

“Understanding the Securitization of Subprime
Mortgage Credit” by Adam B. Ashcraft and
Til Schuermann (Staff Reports, no. 318,
March 2008) – 4,401 downloads

“Understanding the Securitization of Subprime
Mortgage Credit,” by Adam B. Ashcraft and
Til Schuermann (Staff Reports, no. 318,
March 2008) – 370 downloads
“Corporate Governance and Banks: What Have We
Learned from the Financial Crisis?” by Hamid
Mehran, Alan Morrison, and Joel Shapiro
(Staff Reports, no. 502, June 2011) – 352 downloads
“Determinants and Impact of Sovereign Credit
Ratings,” by Richard Cantor and Frank Packer
(Economic Policy Review, vol. 2, no. 2,
October 1996) – 345 downloads

For lists of the top-ten downloads, visit www
.newyorkfed.org/research/top_downloaded/
topdownloads.html. n

“Shadow Banking,” by Zoltan Pozsar, Tobias Adrian,
Adam Ashcraft, and Hayley Boesky (Staff Reports,
no. 458, July 2010) – 2,955 downloads

Recently Published
Jaison Abel. 2012. “Specialized Knowledge and the
Geographic Concentration of Occupations,” with
Todd Gabe. Journal of Economic Geography 12, no. 2
(March): 435-53.

James Vickery. 2012. “Microinsurance: A Case Study
of the Indian Rainfall Index Insurance Market, with
Xavier Giné, Lev Menand, and Robert Townsend.
In Chetan Ghate, ed., The Oxford Handbook of the
Indian Economy, 167-94. Oxford: Oxford University
Press.

Mary Amiti. 2012. “Trade, Firms, and Wages: Theory
and Evidence,” with Donald Davis. Review of
Economic Studies 79, no. 1 (January): 1-36.

Tanju Yorulmazer. 2012. “Fire Sale FDI,” with Viral
Acharya and Hyun Song Shin. Korean Economic
Review 27, no. 2 (winter): 163-202. n

Andreas Fuster. 2012. “Investment Dynamics with
Natural Expectations,” with Benjamin Hebert and
David Laibson. International Journal of Central
Banking 8, suppl. 1 (January): 243-66.

RESEARCH AND STATISTICS GROUP
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Research UPDATE n Number 1, 2012

Papers Presented
“Agglomeration and Job Matching among College
Graduates,” Jaison Abel. Fifty-First Annual Meeting of
the Southern Regional Science Association, Charlotte,
North Carolina, March 23. With Richard Deitz.

“The International Roles of the Dollar,” Linda Goldberg.
Bretton Woods Committee Conference on Future of
the Dollar and the International Monetary System,
New York City, February 23.

“The Great Recession, Federal Stimulus, and New
York/New Jersey Schools,” Rajashri Chakrabarti.
Association for Education, Finance, and Policy
conference, Boston, Massachusetts, March 15. With
Elizabeth Setren and Sarah Sutherland.

“Liquidity Management of U.S. Global Banks: Internal
Capital Markets in the Great Recession,” Linda Goldberg.
Globalization and Monetary Policy Institute Conference
on Financial Frictions and Monetary Policy in an
Open Economy, Federal Reserve Bank of Dallas, Dallas,
Texas, March 17. With Nicola Cetorelli.

“Incentives and Responses under ‘No Child Left
Behind’: Credible Threats and the Role of Competition,”
Rajashri Chakrabarti. Association for Education,
Finance, and Policy conference, Boston, Massachusetts,
March 15.

“Vulnerable Banks,” Linda Goldberg. NBER Spring
International Finance and Macroeconomics Program
Meeting, Cambridge, Massachusetts, March 9.
“Commodity Prices, Commodity Currencies, and
Global Economic Conditions,” Jan Groen. Workshop
on Commodity Prices and Monetary Policy, Central
Bank of Chile, Santiago, Chile, January 10. With
Paolo Pesenti.

“Effect of Constraints on Tiebout Competition:
Evidence from the Michigan School Finance Reform,”
Rajashri Chakrabarti. Association for Education,
Finance, and Policy conference, Boston, Massachusetts,
March 16. With Joydeep Roy.

“Bailouts and Financial Fragility,” Todd Keister.
Indian Statistical Institute seminar, Delhi, India,
January 13. Also presented at a Bank of Mexico seminar,
Mexico City, Mexico, February 22, and the European
Central Bank, Frankfurt, Germany, March 21.

“Optimal Target Criteria for Stabilization Policy,”
Marc Giannoni. Joint Lunch Seminar Series of the
Center for Financial Studies, European Central Bank,
and Deutsche Bundesbank, Frankfurt, Germany,
February 29. With Michael Woodford. Also presented
at a Swiss National Bank seminar, Zurich, Switzerland,
March 1.

“Varieties and the Transfer Problem,” Paolo Pesenti.
Conference on Monetary Policy in a Global Setting:
China and the United States, Tsinghua University,
Beijing, China, March 27. With Giancarlo Corsetti
and Philippe Martin.

“Surges, Stops, Flight, and Retrenchment in Capital
Flows,” Linda Goldberg. One Hundred TwentyFourth Annual Meeting of the American Economic
Association, Chicago, Illinois, January 6.

“Anatomy of Welfare Reform Evaluation: Announcement
and Implementation Effects,” Wilbert van der Klaauw.
University of Rochester, Applied Economics Work
shop. Rochester, New York, March 27. With Richard
Blundell and Marco Francesconi.

“Are the Effects of Market News on Asset Prices and
Exchange Rates Changing?” Linda Goldberg. One
Hundred Twenty-Fourth Annual Meeting of the
American Economic Association, Chicago, Illinois,
January 7.

“MBS Ratings and the Mortgage Credit Boom,” James
Vickery. New York Area Real Estate Conference,
Baruch College, New York City, February 3. With
Adam Ashcraft and Paul Goldsmith-Pinkham.

“U.S. Branches of Foreign Banks in the Great Recession:
Diverse Internal and External Lending Responses,”
Linda Goldberg. One Hundred Twenty-Fourth
Annual Meeting of the American Economic
Association, Chicago, Illinois, January 8.

“On the Design of Contingent Capital with Market
Trigger,” Zhenyu Wang. University of Exeter Business
School seminar, Exeter, England, March 13. With
Suresh Sundaresan. n

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New Titles in the Staff Reports Series
Macroeconomics and Growth

The authors’ main finding is that increased price
flexibility would have been destabilizing for output
and employment.

No. 535, January 2012
Optimal Target Criteria for Stabilization Policy
Marc P. Giannoni and Michael Woodford

No. 541, January 2012
House Price Booms, Current Account Deficits,
and Low Interest Rates
Andrea Ferrero

This paper considers a general class of nonlinear
rational-expectations models in which policymakers
seek to maximize an objective function that may be
household expected utility. Giannoni and Woodford
show how to derive a target criterion that is
1) consistent with the model’s structural equations,
2) strong enough to imply a unique equilibrium, and
3) optimal, in the sense that a commitment to adjust
the policy instrument at all dates so as to satisfy the
target criterion maximizes the objective function. The
proposed optimal target criterion is a linear equation
that must be satisfied by the projected paths of certain
economically relevant “target variables.” While the
projected path of the economy requires information
about its current state, the target criterion itself can be
stated without reference to a complete description of
the state of the world. The authors illustrate the
application of the method to a nonlinear DSGE model
with staggered price setting, in which the objective of
policy is to maximize household expected utility.

One of the most striking features of the period before
the Great Recession is the strong positive correla
tion between house price appreciation and current
account deficits, not only in the United States but also
in other countries that have subsequently experienced
the highest degree of financial turmoil. A progressive
relaxation of credit standards can rationalize this
empirical observation. Lower collateral requirements
facilitate access to external funding and drive up
house prices. The current account turns negative
because households borrow from the rest of the
world. At the same time, however, the world real
interest rate counterfactually increases. The two key
ingredients that reconcile a demand-based explanation
of house price booms and current account deficits
with the evidence on real interest rates are nominal
interest rates lower than the predictions of a standard
monetary policy rule in leveraged economies and
foreign exchange rate pegs in saving countries.

No. 540, January 2012
Is Increased Price Flexibility Stabilizing? Redux
Saroj Bhattarai, Gauti Eggertsson, and Raphael Schoenle

No. 546, February 2012
Optimal Interest Rate Rules and Inflation
Stabilization versus Price-Level Stabilization
Marc P. Giannoni

Bhattarai, Eggertsson, and Schoenle study the impli
cations of increased price flexibility on aggregate out
put volatility in a dynamic stochastic general equilib
rium (DSGE) model. First, using a simplified version
of the model, they show analytically that the results
depend on the shocks driving the economy and the
systematic response of monetary policy to inflation:
More flexible prices amplify the effect of demand
shocks on output if interest rates do not respond
strongly to inflation, while higher flexibility amplifies
the effect of supply shocks on output if interest rates
are very responsive to inflation. Next, they estimate a
medium-scale DSGE model using post-WWII
U.S. data and Bayesian methods and, conditional on
the estimates of structural parameters and shocks,
ask: Would the U.S. economy have been more or less
stable had prices been more flexible than historically?

This paper compares the properties of interest rate
rules such as simple Taylor rules and rules that
respond to price-level fluctuations—called Wick
sellian rules—in a basic forward-looking model.
By introducing appropriate history dependence in
policy, Wicksellian rules perform better than optimal
Taylor rules in terms of welfare and robustness to
alternative shock processes, and they are less prone to
equilibrium indeterminacy. A simple Wicksellian rule
augmented with a high degree of interest rate inertia
resembles a robustly optimal rule—that is, a monetary
policy rule that implements the optimal plan and is
also completely robust to the specification of exogenous
shock processes.

RESEARCH AND STATISTICS GROUP
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Research UPDATE n Number 1, 2012
No. 547, February 2012
Long-Term Debt Pricing and Monetary Policy
Transmission under Imperfect Knowledge
Stefano Eusepi, Marc Giannoni, and Bruce Preston

expectations about the long run in the model. If
deficits trigger expectations of i) lower long-run
government spending, ii) higher long-run sales taxes,
or iii) higher future inflation, they are expansionary.
If deficits trigger expectations of higher long-run
labor taxes or lower long-run productivity, they are
contractionary.

This paper explores the effects of monetary policy
under imperfect knowledge and incomplete markets.
In this environment, the expectations hypothesis
of the yield curve need not hold, a situation called
unanchored financial market expectations. Whether
or not financial market expectations are anchored,
the private sector’s imperfect knowledge mitigates the
efficacy of optimal monetary policy. Under anchored
expectations, slow adjustment of interest rate beliefs
limits scope to adjust current interest rate policy in
response to evolving macroeconomic conditions.
Imperfect knowledge represents an additional distor
tion confronting policy, leading to greater inflation
and output volatility relative to rational expectations.
Under unanchored expectations, current interest rate
policy is divorced from interest rate expectations. This
permits aggressive adjustment in current interest rate
policy to stabilize inflation and output. However,
unanchored expectations are shown to raise signifi
cantly the probability of encountering the zero lower
bound constraint on nominal interest rates. The
longer the average maturity structure of the public
debt, the more severe is the constraint.

International
No. 537, January 2012
The Hitchhiker’s Guide to Missing Import Price
Changes and Pass-Through
Etienne Gagnon, Benjamin R. Mandel, and
Robert J. Vigfusson
A large body of empirical work has found that
exchange rate movements have only modest effects on
inflation. However, the response of an import price
index to exchange rate movements may be underesti
mated because some import price changes are missed
when constructing the index. Gagnon, Mandel, and
Vigfusson investigate downward biases that arise
when items experiencing a price change are especially
likely to exit or to enter the index. They show that,
in theoretical pricing models, entry and exit have
different implications for the timing and size of these
biases. Using Bureau of Labor Statistics microdata, the
authors derive empirical bounds on the magnitude of
these biases and construct alternative price indexes
that are less subject to selection effects. Their analysis
suggests that the biases induced by selective exits and
entries do not materially alter the literature’s view
that pass-through to U.S. import prices is low over
the short- to medium-term horizons that are most
useful for both forecasting and differentiating among
economic models.

No. 551, February 2012
Deficits, Public Debt Dynamics, and Tax and
Spending Multipliers
Matthew Denes, Gauti B. Eggertsson, and
Sophia Gilbukh
Cutting government spending on goods and services
increases the budget deficit if the nominal interest rate
is close to zero. This is the message of a simple but
standard New Keynesian DSGE model calibrated with
Bayesian methods. The cut in spending reduces
output and thus—holding rates for labor and sales
taxes constant—reduces revenues by even more than
what is saved by the spending cut. Similarly, increas
ing sales taxes can increase the budget deficit rather
than reduce it. Both results suggest limitations of
“austerity measures” in low interest rate economies
to cut budget deficits. Running budget deficits can
by itself be either expansionary or contractionary for
output, depending on how deficits interact with

No. 542 January 2012
Crime, House Prices, and Inequality:
The Effect of UPPs in Rio
Claudio Frischtak and Benjamin R. Mandel
Frischtak and Mandel use a recent policy experiment
in Rio de Janeiro, the installation of permanent police
stations in low-income communities (or favelas),
to quantify the relationship between a reduction in
crime and the change in the prices of nearby resi
dential real estate. Using a novel data set of detailed
property prices from an online classifieds website,

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they find that the new police stations (called UPPs)
had a substantial effect on the trajectory of property
values and certain crime statistics since the beginning
of the program in late 2008. The authors also find that
the extent of inequality among residential prices
decreased as a result of the policy. Both of these
empirical observations are consistent with a dynamic
model of property value in which historical crime
rates have persistent effects on the price of real estate.

income forecasts are positively related to subjective
inflation expectations. During the 2000s, consumers
believe inflation to be more persistent in the short
term, but temporary fluctuations in inflation have
less effect on income and long-term inflation expec
tations. Finally, the authors find evidence that sticky
expectations and the heterogeneity of new informa
tion received by consumers generate higher markups and inflation.

No. 545 February 2012
Follow the Money: Quantifying Domestic Effects
of Foreign Bank Shocks in the Great Recession
Nicola Cetorelli and Linda S. Goldberg

No. 538, January 2012
Precarious Slopes? The Great Recession, Federal
Stimulus, and New Jersey Schools
Rajashri Chakrabarti and Sarah Sutherland

Foreign banks pulled significant funding from their
U.S. branches during the Great Recession. Cetorelli
and Goldberg estimate that the average-sized branch
experienced a 12 percent net internal fund “withdrawal,”
with the fund transfer disproportionately bigger for
larger branches. This internal shock to the balance
sheets of U.S. branches of foreign banks had sizable
effects on their lending. On average, for each dollar
of funds transferred internally to the parent, branches
decreased lending supply by about forty to fifty cents.
However, the extent of the lending effects was very
different across branches, depending on their pre
crisis modes of operation in the United States.

Chakrabarti and Sutherland exploit unique paneldata and trend-shift analysis to analyze how New
Jersey school finances were affected during the Great
Recession and the ARRA federal stimulus period.
Their results show strong evidence of downward
shifts in both revenue and expenditure following the
recession. Federal stimulus seemed to have helped
in 2010; however, both revenue and expenditure still
declined. While total revenue declined, the various
components of revenue did not witness symmetric
changes. The infusion of funds with the federal
stimulus occurred simultaneously with statistically
and economically significant cuts in state and local
financing, especially the former. The authors’ results
also show a compositional shift in expenditures in
favor of categories that are linked most closely to
instruction, while several non-instruction categories,
including transportation and utilities, declined.
Heterogeneity analysis shows that high-poverty and
urban districts sustained the largest falls in the postrecession era, with Abbott Districts specifically falling
the furthest from prerecession trends.

Microeconomics
No. 536, January 2012

Heterogeneous Inflation Expectations, Learning,
and Market Outcomes
Carlos Madeira and Basit Zafar
Using the panel component of the Michigan Survey
of Consumers, Madeira and Zafar show that individ
uals, in particular women and ethnic minorities, are
highly heterogeneous in their expectations of infla
tion. The authors estimate a model of inflation expec
tations based on learning from experience that also
allows for heterogeneity in both private information
and updating. Their model vastly outperforms exist
ing models of inflation expectations in explaining the
heterogeneity in the data. They find that women,
ethnic minorities, and less-educated agents have a
higher degree of heterogeneity in their private
information, and are also slower to update their
expectations. In addition, they show that personal

No. 543, January 2012
The Price Is Right: Updating of Inflation
Expectations in a Randomized Price
Information Experiment
Olivier Armantier, Scott Nelson, Giorgio Topa,
Wilbert van der Klaauw, and Basit Zafar
This paper investigates how consumers form and
update their inflation expectations using a unique
“information” experiment embedded in a survey.
The authors elicit respondents’ expectations for
future inflation, then randomly provide a subset of

RESEARCH AND STATISTICS GROUP
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Research UPDATE n Number 1, 2012
No. 556, February 2012
The Supply Side of the Housing Boom and Bust
of the 2000s
Andrew Haughwout, Richard W. Peach, John Sporn,
and Joseph Tracy

respondents with inflation-relevant information,
and finally, re-elicit inflation expectations from all
respondents. This design creates unique panel data
that allow them to identify the effects of new informa
tion on respondents’ inflation expectations. The authors
find that respondents revise their inflation expectations
in response to information, and do so meaningfully:
revisions are proportional to the strength of the
information signal, and inversely proportional to
the precision of prior inflation expectations. They
also find systematic differences in updating across
demographic groups and by question wording,
underscoring how different types of information may
be more or less relevant for different groups, and how
the observed impact of information may depend on
methods used to elicit inflation expectations.

Much has been written about the demand side of the
boom and subsequent bust in housing construction
and prices over the 2000s, in particular, the innova
tions in mortgage finance and the loosening of
underwriting standards that greatly expanded the
pool of potential homebuyers. In this paper, the
authors take a closer look at developments on the
supply side of the housing market. Following a short
literature review, they begin with a descriptive review
of housing production, sales, and prices at the
national, regional, and state levels. They then look at
developments in the homebuilding industry over this
period. They also take a closer look at land markets
using a quarterly price index for metropolitan
statistical areas with both elastic and inelastic housing
supplies across the United States. An important
question is to what extent the supply side of the
market contributed to the boom/bust dynamics. A
second question is whether the significant changes in
the industrial organization of the homebuilding
industry exacerbated or ameliorated this supply impact.

No. 552, February 2012
Workforce Skills across the Urban-Rural Hierarchy
Jaison R. Abel, Todd M. Gabe, and Kevin Stolarick
This paper examines differences in the skill content
of work throughout the United States, ranging from
densely populated city centers to isolated and sparsely
populated rural areas. To do so, the authors classify
detailed geographic areas into categories along the
entire urban-rural hierarchy. An occupation-based
cluster analysis is then used to measure the types
of skills available in the regional workforce, which
allows for a broader measure of human capital than
is captured by conventional measures. Abel, Gabe,
and Stolarick find that the occupation clusters most
prevalent in urban areas—scientists, engineers, and
executives—are characterized by high levels of social
and resource-management skills, as well as the
ability to generate ideas and solve complex problems.
By contrast, the occupation clusters that are most
prevalent in rural areas—machinists, makers, and
laborers—are among the lowest in terms of required
skills. These differences in the skill content of work
shed light on the pattern of earnings observed across
the urban-rural hierarchy.

Banking and Finance
No. 539, January 2012
Corporate Governance of Financial Institutions
Hamid Mehran and Lindsay Mollineaux
Mehran and Mollineaux identify the tension created
by the dual demands of financial institutions to be
value-maximizing entities that also serve the public
interest. They highlight the importance of information
in addressing the public’s desire for banks to be safe
yet innovative. Regulators can choose several
approaches to increase market discipline and
information production. First, they can mandate
information production outside of markets through
increased regulatory disclosure. Second, they can
directly motivate potential producers of information
by changing their incentives. Traditional approaches
to bank governance may interfere with the information
content of prices. Thus, the lack of transparency in the
banking industry may be a symptom rather than the
primary cause of bad governance. The authors

federal reserve bank of new york
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www.newyorkfed.org/research
No. 550, February 2012
An Empirical Study of Trade Dynamics
in the Fed Funds Market
Gara Afonso and Ricardo Lagos

provide the examples of compensation and resolution.
Reforms that promote the quality of security prices
through information production can improve the
governance of financial institutions. Future research is
needed to examine the interactions between disclo
sure, information, and governance.

The authors use minute-by-minute daily transactionlevel payments data to document the crosssectional
and time-series behavior of the estimated prices and
quantities negotiated by commercial banks in the fed
funds market. They study the frequency and volume
of trade, the size distribution of loans, the distribution
of bilateral fed funds rates, and the intraday dynamics of
the reserve balances held by commercial banks. Afonso
and Lagos find evidence of the importance of the
liquidity provision achieved by commercial banks
that act as de facto intermediaries of fed funds.

No. 544, February 2012
Defaults and Losses on Commercial Real Estate
Bonds during the Great Depression Era
Tyler Wiggers and Adam B. Ashcraft
Wiggers and Ashcraft employ a unique data set of
public commercial real estate (CRE) bonds issued
during the Great Depression era (1920-32) to deter
mine their frequency of default and total loss given
default. Default rates on these bonds far exceeded
those originated in subsequent periods. The authors’
results confirm that making loans with higher loanto-value ratios results in higher rates of default and
loss. These results also support the business cycle’s
significance to the performance of CRE assets.
Despite the large number of defaults in the early
1930s, the losses, which typically occurred after 1940,
are comparable to those for contemporary loans,
largely due to the rapid recovery of the economy from
the Depression. This finding has relevance today, as
numerous entities have a large amount of subperforming CRE assets to work out. While the data
point to better loss performance the quicker a problem
loan is worked out, this may not hold true when there
is a rapid recovery around the corner.

No. 553, March 2012
The Private Premium in Public Bonds
Anna Kovner and Chenyang Wei
This paper is the first to document the presence of a
private premium in public bonds. Kovner and Wei
find that spreads are 31 basis points higher for public
bonds of private companies than for bonds of public
companies, even after controlling for observable
differences, including rating, financial performance,
industry, bond characteristics, and issuance timing.
The estimated private premium increases to 40 to
50 basis points when a propensity matching methodology
is used or when the authors control for fixed issuer
effects. Despite the premium pricing, bonds of private
companies are no more likely to default or be down
graded than are public bonds. They do not have worse
secondary market performance or higher credit
default swap spreads nor are they necessarily less
liquid. Bond investors appear to discount the value of
privately held equity. The effect does not come only
from the lack of a public market signal of asset
quality, because very small public companies also pay
high spreads.

No. 549, February 2012
Trade Dynamics in the Market for Federal Funds
Gara Afonso and Ricardo Lagos
Afonso and Lagos develop a model of the market
for federal funds that explicitly accounts for its two
distinctive features: banks have to search for a suitable
counterparty, and once they have met, both parties
negotiate the size of the loan and the repayment. The
theory is used to answer a number of positive and
normative questions: What are the determinants of
the fed funds rate? How does the market reallocate
funds? Is the market able to achieve an efficient
reallocation of funds? The authors also use the model
for theoretical and quantitative analyses of policy
issues facing modern central banks.

RESEARCH AND STATISTICS GROUP
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Research UPDATE n Number 1, 2012

Quantitative Methods

No. 555, March 2012
Securities Lending
Paul C. Lipson, Bradley K. Sabel, and Frank M. Keane

No. 548, February 2012
Leverage and Asset Prices: An Experiment
Marco Cipriani, Ana Fostel, and Daniel Houser

This paper, originally released in August 1989 as part
of a Federal Reserve Bank of New York series on the
U.S. securities markets, examines loans of Treasury
and agency securities in the domestic market. It high
lights some important institutional characteristics of
securities loan transactions, in particular the common
use of agents to arrange the terms of the loans. While
the authors note that this characteristic sets securi
ties lending apart from most repurchase agreement
(repo) transactions, which occur bilaterally between
a borrower and a lender, they observe that repo and
securities loan transactions ultimately serve the same
important economic purpose—to cover short posi
tions used for hedging or arbitrage in related cash
markets. The data used here, though largely informal,
were provided by knowledgeable market participants.

This is the first paper to test the asset pricing impli
cation of leverage in a laboratory. Cipriani, Fostel,
and Houser show that as theory predicts, leverage
increases asset prices: When an asset can be used as
collateral (that is, when the asset can be bought on
margin), its price goes up. This increase is significant,
and quantitatively close to what theory predicts.
However, important deviations from the theory arise
in the laboratory. First, the demand for the asset shifts
when it can be used as collateral, even though agents
do not exhaust their purchasing power when collat
eralized borrowing is not allowed. Second, the spread
between collateralizable and noncollateralizable assets
does not increase during crises, in contrast to what
theory predicts.

No. 557, March 2012
An Analysis of OTC Interest Rate Derivatives
Transactions: Implications for Public Reporting
Michael Fleming, John Jackson, Ada Li, Asani Sarkar,
and Patricia Zobel

No. 554, March 2012
DSGE Model-Based Forecasting
Marco Del Negro and Frank Schorfheide
Dynamic stochastic general equilibrium (DSGE)
models use modern macroeconomic theory to explain
and predict comovements of aggregate time series
over the business cycle and to perform policy analysis.
Del Negro and Schorfheide explain how to use DSGE
models for all three purposes—forecasting, storytelling,
and policy experiments—and review their forecasting
record. They also provide their own real-time assess
ment of the forecasting performance of the Smets and
Wouters (2007) model data up to 2011, compare it
with Blue Chip and Greenbook forecasts, and show
how it changes as they augment the standard set of
observables with external information from surveys
(nowcasts, interest rate forecasts, and expectations for
long-run inflation and output growth). The authors
explore methods of generating forecasts in the
presence of a zero-lower-bound constraint on nominal
interest rates and conditional on counterfactual interest
rate paths. Finally, they perform a postmortem of
DSGE model forecasts of the Great Recession and
show that forecasts from a version of the Smets-Wouters
model augmented by financial frictions, and using
spreads as an observable, compare well with Blue
Chip forecasts.

This paper examines the over-the-counter (OTC)
interest rate derivatives (IRD) market in order to
inform the design of post-trade price reporting. The
analysis uses a novel transaction-level data set to
examine trading activity, the composition of
market participants, levels of product standardization,
and market-making behavior. The authors find that
trading activity in the IRD market is dispersed across
a broad array of product types, currency denomina
tions, and maturities, leading to more than 10,500
observed unique product combinations. While a
select group of standard instruments trade with rela
tive frequency and may provide timely and pertinent
price information for market participants, many other
IRD instruments trade infrequently and with diverse
contract terms, limiting the impact on price forma
tion from the reporting of those transactions. None
theless, the authors find evidence of dealers hedging
rapidly after large interest rate swap trades, suggest
ing that, for this product, a price-reporting regime
could be designed in a manner that does not disrupt
market-making activity.

federal reserve bank of new york
12

www.newyorkfed.org/research

Research and Statistics Group
Publications and Papers: January–March 2012
No. 538, January 2012
Precarious Slopes? The Great Recession, Federal
Stimulus, and New Jersey Schools
Rajashri Chakrabarti and Sarah Sutherland

Publications are available at www.newyorkfed.org/
research/publication_annuals/index.html

ECONOMIC POLICY REVIEW,
VOL. 18, NO. 1

No. 539, January 2012
Corporate Governance of Financial Institutions
Hamid Mehran and Lindsay Mollineaux

Subprime Foreclosures and the 2005
Bankruptcy Reform
Donald P. Morgan, Benjamin Iverson,
and Matthew Botsch

No. 540, January 2012
Is Increased Price Flexibility Stabilizing? Redux
Saroj Bhattarai, Gauti Eggertsson, and Raphael Schoenle

The Microstructure of the TIPS Market
Michael J. Fleming and Neel Krishnan

No. 541, January 2012
House Price Booms, Current Account Deficits,
and Low Interest Rates
Andrea Ferrero

Settlement Liquidity and Monetary Policy
Implementation—Lessons from the Financial Crisis
Morten L. Bech, Antoine Martin, and
James McAndrews

No. 542, January 2012
Crime, House Prices, and Inequality:
The Effect of UPPs in Rio
Claudio Frischtak and Benjamin R. Mandel

CURRENT ISSUES IN ECONOMICS
AND FINANCE, VOL. 18
No.1
Why is the U.S. Share of World Merchandise
Exports Shrinking?
Benjamin R. Mandel

No.2
Policy Initiatives in the Global Recession:
What Did Forecasters Expect?
Carlos Carvalho, Stefano Eusepi, and Christian Grisse

No. 544, February 2012
Defaults and Losses on Commercial Real Estate
Bonds during the Great Depression Era
Tyler Wiggers and Adam B. Ashcraft

STAFF REPORTS
No. 535, January 2012
Optimal Target Criteria for Stabilization Policy
Marc P. Giannoni and Michael Woodford

No. 545, February 2012
Follow the Money: Quantifying Domestic Effects
of Foreign Bank Shocks in the Great Recession
Nicola Cetorelli and Linda S. Goldberg

No. 536, January 2012
Heterogeneous Inflation Expectations, Learning,
and Market Outcomes
Carlos Madeira and Basit Zafar

No. 546, February 2012
Optimal Interest Rate Rules and Inflation
Stabilization versus Price-Level Stabilization
Marc P. Giannoni

No. 537, January 2012
The Hitchhiker’s Guide to Missing Import Price
Changes and Pass-Through
Etienne Gagnon, Benjamin R. Mandel, and
Robert J. Vigfusson

No. 547, February 2012
Long-Term Debt Pricing and Monetary Policy
Transmission under Imperfect Knowledge
Stefano Eusepi, Marc Giannoni, and Bruce Preston

RESEARCH AND STATISTICS GROUP
13

Research UPDATE n Number 1, 2012

LIBERTY STREET ECONOMICS
BLOG

No. 548, February 2012
Leverage and Asset Prices: An Experiment
Marco Cipriani, Ana Fostel, and Daniel Houser

January 4
Forecasting with Internet Search Data
Rebecca Hellerstein and Menno Middeldorp

No. 549, February 2012
Trade Dynamics in the Market for Federal Funds
Gara Afonso and Ricardo Lagos
No. 550, February 2012
An Empirical Study of Trade Dynamics
in the Fed Funds Market
Gara Afonso and Ricardo Lagos

January 6
Historical Echoes: Henry George – NYC Mayoral
Candidate and Best-Selling, Self-Educated
Political Economist
Amy Farber, New York Fed Research Library

No. 551, February 2012
Deficits, Public Debt Dynamics, and Tax and
Spending Multipliers
Matthew Denes, Gauti B. Eggertsson, and
Sophia Gilbukh

January 9
Cash Assets of Foreign Banks: An Example
of Seasonal Adjustment Gone Awry
Adam Copeland, Todd Keister, and Parinitha Sastry
January 11
Why Mortgage Refinancing Is Not a Zero-Sum
Game
Joseph Tracy and Joshua Wright

No. 552, February 2012
Workforce Skills across the Urban-Rural Hierarchy
Jaison R. Abel, Todd M. Gabe, and Kevin Stolarick
No. 553, March 2012
The Private Premium in Public Bonds
Anna Kovner and Chenyang Wei

January 13
Historical Echoes: The Double Eagle Lands
at the New York Fed
Megan Cohen, New York Fed Research Library

No. 554, March 2012
DSGE Model-Based Forecasting
Marco Del Negro and Frank Schorfheide

January 30
How Did the Great Recession Affect New York
State’s Public Schools?
Rajashri Chakrabarti and Elizabeth Setren

No. 555, March 2012
Securities Lending
Paul C. Lipson, Bradley K. Sabel, and Frank M. Keane

February 1
Tough Decisions, Depleted Revenues: New Jersey’s
Education Finances during the Great Recession
Rajashri Chakrabarti and Sarah Sutherland

No. 556, March 2012
The Supply Side of the Housing Boom and Bust
of the 2000s
Andrew Haughwout, Richard W. Peach, John Sporn,
and Joseph Tracy

February 3
Historical Echoes: When Pigskins Fly – the Super
Bowl and Other “Predictors”
Mary Tao, New York Fed Research Library

No. 557, March 2012
An Analysis of OTC Interest Rate Derivatives
Transactions: Implications for Public Reporting
Michael Fleming, John Jackson, Ada Li, Asani Sarkar,
and Patricia Zobel

February 6
How Has the Business of International Banking
Changed?
Linda Goldberg
February 8
Do Payday Lenders Target Minorities?
Donald P. Morgan and Kevin J. Pan

federal reserve bank of new york
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www.newyorkfed.org/research
February 10
Historical Echoes: Return to Jekyll Island
(Not The Creature from)
Amy Farber, New York Fed Research Library

March 19
Failure Is No Longer a (Free) Option for Agency
Debt and Mortgage-Backed Securities
Michael Fleming

February 13
How Colleges and Universities Can Help Their
Local Economies
Jaison R. Abel and Richard Deitz

March 21
Just Released: January’s Indexes of Coincident
Economic Indicators Show Fairly Robust Activity
across the Region
Jason Bram and James Orr

February 15
Just Released: February’s Empire State
Manufacturing Survey Signals a Further Pickup
Jason Bram and Richard Deitz

The Changing Face of Foreclosures
Joshua Abel and Joseph Tracy
March 23
Just Released: Chairman Bernanke Returns
to His Academic Roots
Argia M. Sbordone

The Dodd-Frank Act’s Potential Effects
on the Credit Rating Industry
James Vickery

March 26
Prospects for the U.S. Labor Market
Jonathan McCarthy and Simon Potter

February 17
Historical Echoes: Anthropomorphism in the
Service of Child and Adult Financial Education
Amy Farber, New York Fed Research Library

March 27
Okun’s Law and Long Expansions
Jonathan McCarthy, Simon Potter, and Ging Cee Ng

February 22
Gulf War II Veterans Home Buyers Tax Credit
Richard Peach

March 28
The Bathtub Model of Unemployment:
The Importance of Labor Market Flow Dynamics
Ayşegül Şahin and Christina Patterson

February 24
Historical Echoes: American Consumerism,
Then and Now, with Product Timeline
Amy Farber, New York Fed Research Library

March 29
Skills Mismatch, Construction Workers,
and the Labor Market
Richard Crump and Ayşegül Şahin

February 27
How the High Level of Reserves Benefits
the Payment System
Morten Bech, Antoine Martin, and Jamie McAndrews

March 30
Just Released: Chairman Bernanke Returns
to His Academic Roots, Part 2
Argia M. Sbordone

February 29
Is Risk Rising in the Tri-Party Repo Market?
Antoine Martin

Historical Echoes: How the BLS Measured Up
Amy Farber and Andrew Haughwout

March 2
Historical Echoes: Gee Whiz? No, G6—The First
Modern International Economic Summit
Amy Farber, New York Fed Research Library

Reconciling Contrasting Signals in the Labor
Market: The Role of Participation
Stefania Albanesi, Ayşegül Şahin, and Joshua Abel

March 5
Grading Student Loans
Meta Brown, Andrew Haughwout, Donghoon Lee,
Maricar Mabutas, and Wilbert van der Klaauw

The views expressed in the publications, papers, and posts summarized in Research Update are those of the authors
and do not necessarily reflect the position of the Federal Reserve Bank of New York or the Federal Reserve System.
RESEARCH AND STATISTICS GROUP
15

Full text of Research Update : Number 1, 2012

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