Featured Publications

Skill-Biased Structural Change

Review of Economic Studies (2021)

School’s author: Juan Vizcaino

Using a broad panel of advanced economies we document that increases in GDP per capita are associated with a systematic shift in the composition of value added to sectors that are intensive in high-skill labour, a process we label as skill-biased structural change. It follows that further development in these economies leads to an increase in the relative demand for skilled labour. We develop a quantitative two-sector model of this process as a laboratory to assess the sources of the rise of the skill premium in the US and a set of ten other advanced economies, over the period 1977 to 2005.

For the US, we find that the sector-specific skill neutral component of technical change accounts for 18-24% of the overall increase of the skill premium due to technical change, and that the mechanism through which this component of technical change affects the skill premium is via skill biased structural change.

Simple tests for stock return predictability with good size and power properties

Journal of Econometrics (2021)

School’s authors: David Harvey and Steve Leybourne

We develop easy-to-implement tests for return predictability which, relative to extant tests in the literature, display attractive finite sample size control and power across a wide range of persistence and endogeneity levels for the predictor. Our approach is based on the standard regression t-ratio and a variant where the predictor is quasi-GLS (rather than OLS) demeaned. In the strongly persistent near-unit root environment, the limiting null distributions of these statistics depend on the endogeneity and local-to-unity parameters characterising the predictor.

Analysis of the asymptotic local power functions of feasible implementations of these two tests, based on asymptotically conservative critical values, motivates a switching procedure between the two, employing the quasi-GLS demeaned variant unless the magnitude of the estimated endogeneity correlation parameter is small. Additionally, if the data suggests the predictor is weakly persistent, our approach switches to the standard t-ratio test with reference to standard normal critical values.

The rhetoric of closed borders: Quotas, lax enforcement and illegal immigration

Journal of International Economics (2021)

School’s authors: Cecilia Testa and Giovanni Facchini

Governments do not always enforce their laws, even when they have the means of doing so, and lax enforcement is common in the domain of immigration policy. To explain this paradox we develop a political agency model where gains from migration are unevenly distributed, and an elected government chooses both quotas and their enforcement.

We show that distributional concerns can have perverse effects on migration policy since a utilitarian government may set a quota to appease the electorate, but then strategically under-invest in its enforcement. Under-investment is more likely, the larger the preference gap between median and average voter, and the higher the likelihood of a populist challenger gaining office.

Our analysis also indicates that redistributive taxation reducing the share of enforcement cost borne by the median voter exacerbate the problem, whereas a compensatory tax rebate financed through a tax on profits from migration alleviates the conflict of interest, thus reducing illegal immigration.

The association between gambling and financial, social and health outcomes in big financial data

Nature Human Behaviour (2021)

School’s author: John Gathergood

Gambling is an ordinary pastime for some people, but is associated with addiction and harmful outcomes for others. Evidence of these harms is limited to small sample, crosssectional self-reports, such as prevalence surveys. We examine the association between gambling as a proportion of monthly income and 31 financial, social, and health outcomes using anonymous data provided by a UK retail bank, aggregated for up to 6.5 million individuals over up to seven years.

Gambling is associated with higher financial distress and lower financial inclusion and planning, and negative lifestyle, health, well-being, and leisure outcomes. Gambling is associated with higher rates of future unemployment, physical disability, and, at the highest levels, substantially increased mortality. Gambling is persistent over time, growing over the sample period, and has higher negative associations among the heaviest gamblers. Our findings inform the debate over the relationship between gambling and life experiences across the population.

The Anatomy of Behavioural Responses to Social Assistance when Informal Employment is High

Journal of Public Economics (2021)

School’s author: Guillermo Cruces

The disincentive effects of social assistance programs on registered (or formal) employment are a first-order policy concern in developing and middle-income countries. We study the impact of a conditional cash transfer (CCT) program in Uruguay on the employment of adult members in beneficiary households in a context of high informality.

Our research design relies on the sharp discontinuity introduced by program eligibility rules around a poverty score threshold combined with longitudinal administrative data. We find reductions of about 6 percentage points (a 13% drop) in formal labour force participation among all beneficiaries and of 8.7 percentage points (a 19% drop) for single mothers. The implied elasticity of participation in the formal sector with respect to the net-of-tax rate is about 0.78 for the full sample and about 1.3 for single mothers. The reduction in labour supply is stronger among individuals who have a medium propensity to be formally employed, with a smaller reduction in the case of infra-marginal individuals. We also present suggestive evidence that the reduction in formal employment increases inactivity and informal work in equal proportions.

Finally, despite pervasive informality in the context of the Family Allowance assistance program (AFAM), the program’s marginal value of public funds of 0.61 implies an efficiency cost within the range of cash transfer programs targeted to families in the United States.

Dynamic Persuasion with Outside Information

American Economic Journal: Microeconomics (2021)

School’s author: Adrien Vigier

A principal seeks to persuade an agent to accept an offer of uncertain value before a deadline expires. The principal can generate information, but exerts no control over exogenous outside information. The combined effect of the deadline and outside information creates incentives for the principal to keep uncertainty high in the first periods so as to persuade the agent close to the deadline. We characterise the equilibrium, compare it to the single-player decision problem in which exogenous outside information is the agent's only source of information, and examine the welfare implications of our analysis.

Brexit Uncertainty and Trade Disintegration

Economic Journal (2020)

School’s author: Alejandro Graziano

We estimate the uncertainty effects of preferential trade disagreements. Increases in the probability of Britain’s exit from the European Union (Brexit) reduce bilateral export values and trade participation. These effects are increasing in trade policy risk across products. We estimate that at the average disagreement tariff of 4.5% the increase in the probability of Brexit after the referendum lowered EU–UK bilateral export values between 11–20%. Neither the EU nor UK exporters believed a trade war was likely.

Optimal similarity judgments in intertemporal choice (and beyond)

Journal of Economic Theory (2020)

School’s author: Silvia Sonderegger

We use a simple cost-benefit analysis to derive optimal similarity judgments – addressing the question: when should we expect a decision maker to distinguish between different time periods or different prizes?

Our key premise is that cognitive resources are costly and are to be deployed only where they really matter. We show that this simple insight can explain a number of observed anomalies, such as: (i) time inconsistency, (ii) magnitude effects, (iii) interval length effects. For each of these phenomena, our approach allows to identify the direction of the bias relative to the benchmark case where cognitive resources are costless.

Finally, we show that, when applied to choice under risk, the same insights predict anomalies such as the ratio and certainty effects, and rationalise Rabin's risk aversion paradox. This suggests that the theory may provide a parsimonious explanation of behavioural anomalies in different contexts.

Economic uncertainty before and during the Covid-19 pandemic

Journal of Public Economics (2020)

School’s authors: Julia Leather, Paul Mizen and Gregory Thwaites

We consider several economic uncertainty indicators for the US and UK before and during the Covid-19 pandemic: implied stock market volatility, newspaper-based policy uncertainty, Twitter chatter about economic uncertainty, subjective uncertainty about business growth, forecaster disagreement about future GDP growth, and a model-based measure of macro uncertainty.

Four results emerge. First, all indicators show huge uncertainty jumps in reaction to the pandemic and its economic fallout. Indeed, most indicators reach their highest values on record. Second, peak amplitudes differ greatly – from a 35% rise for the model-based measure of US economic uncertainty (relative to January 2020) to a 20-fold rise in forecaster disagreement about UK growth. Third, time paths also differ: Implied volatility rose rapidly from late February, peaked in mid-March, and fell back by late March as stock prices began to recover. In contrast, broader measures of uncertainty peaked later and then plateaued, as job losses mounted, highlighting differences between Wall Street and Main Street uncertainty measures. Fourth, in Cholesky-identified VAR models fit to monthly U.S. data, a Covid-size uncertainty shock foreshadows peak drops in industrial production of 12–19%.

Real‐Time Detection of Regimes of Predictability in the U.S. Equity Premium

Journal of Applied Econometrics (2020)

School’s author: David Harvey and Steve Leybourne

We propose new real‐time monitoring procedures for the emergence of end‐of‐sample predictive regimes using sequential implementations of standard (heteroskedasticity‐robust) regression t‐statistics for predictability applied over relatively short time periods. The procedures we develop can also be used for detecting historical regimes of temporary predictability. Our proposed methods are robust to both the degree of persistence and endogeneity of the regressors in the predictive regression and to certain forms of heteroskedasticity in the shocks.

We discuss how the monitoring procedures can be designed such that their false positive rate can be set by the practitioner at the start of the monitoring period using detection rules based on information obtained from the data in a training period. We use these new monitoring procedures to investigate the presence of regime changes in the predictability of the US equity premium at the 1‐month horizon by traditional macroeconomic and financial variables, and by binary technical analysis indicators.

Our results suggest that the 1‐month‐ahead equity premium has temporarily been predictable, displaying so‐called “pockets of predictability,” and that these episodes of predictability could have been detected in real time by practitioners using our proposed methodology.

Labour Responses, Regulation and Business Churn

Journal of Money, Credit and Banking (2020)

School’s author: Marta Aloi

We develop a model of sluggish firm entry to explain short‐run labour responses to technology shocks. We show that the labour response to technology and its persistence depend on the degree of returns to labour and the rate of firm entry. Existing empirical results support our theory based on short‐run labour responses across U.S. industries.

We derive closed‐form transition paths that show the result occurs because labour adjusts instantaneously while firms are sluggish, and closed‐form eigenvalues show that stricter entry regulation results in slower convergence to steady state. Finally, we show that our theoretical results hold in a quantitative model with capital accumulation and interest rate dynamics.

Risk taking and sharing when risk exposure is interdependent

Journal of Economic Behavior and Organization (2020)

School’s authors: Abigail Barr and Trudy Ownes

Using a specially designed experiment, we investigate whether and how interdependence in risk exposure, i.e., risk taking by some members of a potential risk sharing group affecting not only their own but also their co-members' risk exposure, affects both risk taking and ex post sharing. The experimental subjects were Sri Lankan small-holders who face interdependent risk and share when neighbours fall on hard times in everyday life.

We find that the Sri Lankan farmers reward socially responsible risk taking and, under some circumstances, punish socially irresponsible risk taking. Their behaviour is consistent with socially responsible risk taking being cost-dependent, although, here, the statistical evidence is inconclusive. Finally, social responsibility in risk taking and ex post sharing do not appear to be substitutes, rather, they appear to be co-determined.

Estimating and testing the multicountry endogenous growth model

Journal of International Economics (2020)

School’s author: Markus Eberhardt

We estimate Cobb-Douglas production functions that parameterize unobserved total factor productivity as a global technology process interacted with country-specific absorptive capacities. In contrast to the existing literature, we do not require proxies for these absorptive capacities but instead estimate them as time-varying stochastic processes.

Our implementation allows us to test the contrasting predictions of alternative growth models and our results for a panel of advanced economies support the multicountry endogenous growth model in that an enhancement in absorptive capacity raises a country's long-run productivity level but not its growth rate. This finding is confirmed in an extended model where we allow a set of policy variables (financial development, human capital, competition policy, and knowledge stock) to affect absorptive capacity, none of which induces permanent growth effects. The proxies for financial development and knowledge stock stand out for their significant level effects.

Who Acquires Information in Dealer Markets?

American Economic Review (2020)

School’s author: Adrien Vigier

We study information acquisition in dealer markets. We first identify a one-sided strategic complementarity in information acquisition: the more informed traders are the larger market makers' gain from becoming informed. When quotes are observable, this effect in turn induces a strategic complementarity in information acquisition amongst market makers.

We then derive the equilibrium pattern of information acquisition and examine the implications of our analysis for market liquidity and price discovery. We show that increasing the cost of information can decrease market liquidity and improve price discovery.

Cross-country spillovers from macroprudential regulation: Reciprocity and leakage

Journal of International Money and Finance (2020)

School’s author: Margarita Rubio

In a globally interconnected banking system, there can be spillovers from domestic macroprudential policies to foreign banks and vice versa, for example, through the presence of foreign branches in the domestic economy. The lack of reciprocity of some macroprudential instruments may result in an increase in bank flows to those banks with lower regulatory levels, a phenomenon known as “leakage.” This may decrease the effectiveness of macroprudential policies in the pursuit of financial stability.

To explore this topic, I consider a two-country DSGE model with housing and credit constraints. Borrowers can choose whether to borrow from domestic or foreign banks. Macroprudential policies are conducted at a national level and are represented by a countercyclical rule on the loan-to-value ratio.

Results show that when there are some sort of reciprocity agreements on macroprudential policies across countries, financial stability and welfare gains are larger than in a situation of non-reciprocity. An optimal policy analysis shows that, in order to enhance the effectiveness of macroprudential policies, reciprocity mechanisms are desirable although the foreign macroprudential rule does not need to be as aggressive as the domestic one.

Micro to Macro: Optimal Trade Policy with Firm Heterogeneity

Econometrica (2020)

School’s author: Andres Rodriguez-Clare

The empirical observation that "large firms tend to export, whereas small firms do not" has transformed the way economists think about the determinants of international trade. Yet, it has had surprisingly little impact on how economists think about trade policy. Under very general conditions, we show that from the point of view of a country that unilaterally imposes trade taxes to maximise domestic welfare, the self-selection of heterogeneous firms into exports calls for import subsidies on the least profitable foreign firms. In contrast, our analysis does not provide any rationale for export subsidies or taxes on the least profitable domestic firms.

Trade liberalisation, input intermediaries and firm productivity: Evidence from China

Journal of International Economics (2020)

School’s author: Richard Kneller 

We investigate theoretically and empirically the role of wholesalers in mediating the productivity effects of trade liberalisation. Intermediaries provide indirect access to foreign produced inputs. The productivity effects of input tariff cuts on firms that do not directly import therefore depends on the extent that wholesalers are a feature of input supply within an industry. Using firm level data from China, we document that wholesalers play no such role for direct importers. However, other firms experience productivity gains from reducing input tariffs if trade intermediation of foreign inputs within their sector is high. They suffer efficiency losses otherwise.

How Do Consumers Avoid Penalty Fees? Evidence from Credit Cards

Management Science (2020)

School’s author: John Gathergood

Using data from multiple card issuers, we show that the most common penalty fee type incurred by credit card holders, late payment fees, declines sharply over the first few months of card life. This phenomenon is wholly due to some consumers adopting automatic payments after a late payment event, thereby insuring themselves against future late payment fees. Nonadopters, who remain on manual-only payments, experience an unchanged high likelihood of future fees, despite exhibiting ample levels of available liquidity.

Our results show that heterogeneity in adopting account management features of financial products, such as automatic payments, is important for understanding who avoids financial mistakes.

Learning about analysts

Journal of Economic Theory (2020)

School’s author: Adrien Vigier

We examine an analyst with career concerns making cheap talk recommendations to a sequence of traders, each of whom possesses private information concerning the analyst's ability. The recommendations of the analyst influence asset prices that are then used to evaluate the analyst. An endogeneity problem thus arises. In particular, if the reputation of the analyst is sufficiently high then an incompetent but strategic analyst is able to momentarily hide her type. An equilibrium in which the market eventually learns the analyst type always exists. However, under some conditions, an equilibrium also exists in which the incompetent analyst is able to hide her type forever.

Altruism, fast and slow? Evidence from a meta-analysis and a new experiment

Experimental Economics (2020)

School’s author: Trudy Owens

Can we use the lens of dual-system theories to explain altruistic behaviour? In recent years, this question has attracted the interest of both economists and psychologists. We contribute to this emerging literature by reporting the results of a meta-study of the literature and a new experiment.

Our meta-study is based on 22 experimental studies conducted with more than 12,000 subjects. We show that the overall effect of manipulating cognitive resources to promote the "intuitive" system at the expense of the "deliberative" system is very close to zero. One reason for this null result could be that promoting intuition has heterogeneous effects on altruism across different subgroups of subjects or contexts. Another reason could be that there simply is no real effect and that previously reported single results are false positives.

We explore the role of heterogeneity both by performing a mediator analysis of the meta-analytic effect and by conducting a new experiment designed to circumvent the issue of potential heterogeneity in the direction of the effect of promoting intuition. In both cases, we find little evidence that heterogeneity explains the absence of an overall effect of intuition on altruism. Taken together, our results offer little support for dual-system theories of altruistic behaviour.