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Business Review

Fourth Quarter 2013

Download the entire issue PDF (36.77 MB, 35 pages)

Debt Dilution: When It Is a Major Problem and How to Deal with It

Today we recognize sovereign default, which was once largely confined to developing economies, as a threat not only to investors and to the defaulting country's economic and political stability but also to the global financial system. Burcu Eyigungor explains that a major reason that countries are prone to debt crises is a phenomenon called debt dilution. Full article PDF (238 KB, 8 pages).

The Economics of Small Open Economies

In recent years, the threat of sovereign debt crises has led investors to demand higher yields on bonds issued by heavily indebted developed countries such as Greece, Ireland, Spain, and Portugal. Pablo Guerron-Quintana explains why small open economies in both the developed and developing worlds share certain funding constraints and considers what lessons developed economies may draw from the experiences of their developing counterparts. Full article PDF (403 KB, 10 pages)

Breaking the Ice: Government Interventions in Frozen Markets

When subprime mortgage defaults started mounting in 2007, financial institutions found themselves unable to profitably sell off these soured investments or raise new equity. As these institutions struggled to reduce their leverage, consumers and firms alike found it increasingly difficult to borrow, which helped trigger a deep recession. Within the context of two popular explanations for the freeze — asymmetric information and debt overhang — Benjamin Lester discusses the costs and benefits of policies aimed at thawing markets in a crisis, including direct asset purchases, equity injections, and public-private risk-sharing programs. Full article PDF (216 KB, 87 pages).

Research Rap

Abstracts of the latest working papers produced by the Research Department of the Federal Reserve Bank of Philadelphia. PDF (692 KB, 8 pages).

Third Quarter 2013

Download the entire issue PDF (3.16 MB, 39 pages)

The Economics of Student Loan Borrowing and Repayment

Media reports and policymakers’ concerns about rising student loan balances and defaults have greatly intensified in recent years. Wenli Li sheds light on the economics behind these trends and discusses the implications for the broader economy. Full article PDF (603 KB, 10 pages).

Clusters of Knowledge: R&D Proximity and the Spillover Effect

Innovation, a key to economic growth, does not happen in a vacuum. Economists have studied the knowledge spillovers that occur when firms locate near one another. Yet, these spillovers have proved hard to empirically verify. Gerald A. Carlino and Jake K. Carr explain what they found through a more accurate way to measure the geographic concentration of research and development labs. Full article PDF (1.42 MB, 12 pages)

The Promise and Challenges of Bank Capital Reform

The failure and bailout of prominent financial institutions amid the crisis of 2007-09, and the effect these events had on the economy as a whole, have led policymakers to rethink how the global financial system is regulated. Ronel Elul explains the history behind bank capital regulation and how ongoing regulatory changes might help prevent future crises. Full article PDF (256 KB, 8 pages).

Research Rap

Abstracts of the latest working papers produced by the Research Department of the Federal Reserve Bank of Philadelphia. PDF (334 KB, 4 pages).

Second Quarter 2013

A particularly troublesome feature of the most recent recession has been the painfully slow growth in employment during the recovery. For employment growth to accelerate, economists believe that firms need to invest in new productive capacity. This view is typically couched in terms of the need to reallocate jobs away from crisis-depressed sectors into other sectors. But doing so requires an expansion in productive capacity in those other sectors. Tepid employment growth is a sign that this investment in new productive capacity has not been forthcoming. One reason for the reluctance to undertake productive investment following a financial crisis is debt overhang, a situation in which the existence of prior debt acts as a disincentive to new investment. There are other explanations that, to varying degrees, account for the current reluctance of U.S. corporations to invest. In “Debt Overhang: Why Recovery from a Financial Crisis Can Be Slow,” PDF (9 pages, 239 KB) Satyajit Chatterjee focuses on the debt overhang problem.

The past 10 years or so have seen the development of a new class of models that are proving useful for monetary policy: dynamic stochastic general equilibrium (DSGE) models. Many central banks around the world, including the Swedish central bank, the European Central Bank, the Norwegian central bank, and the Federal Reserve, use these models in formulating monetary policy. In “DSGE Models and Their Use in Monetary Policy,” PDF (184 KB, 9 pages) Michael Dotsey discusses the major features of DSGE models and why these models are useful to monetary policymakers. He outlines the general way in which they are used in conjunction with other tools commonly employed by monetary policymakers and points out the promise of using these models as well as the pitfalls.

The Great Recession had a large negative impact on the U.S. economy. Asset prices, most notably stock and house prices, declined substantially, resulting in a loss in wealth for many American households. In “The Diverse Impacts of the Great Recession,” PDF (11 pages, 291 KB) Makoto Nakajima documents how diverse households were affected in a variety of dimensions during the Great Recession, in particular between 2007 and 2009, using newly available data from the 2007–2009 Survey of Consumer Finances. He discusses why it is important to look at the data on households, rather than focusing on the aggregate data, and he reviews some recent studies that look at the recession’s diverse effects on different types of households.

See also the latest issue of Research Rap. PDF (93 KB, 2 pages)

First Quarter 2013

The collapse and rebound in U.S. international trade from 2008 to 2010 was quite stunning. Over this period, the fluctuations in international trade were bigger than the fluctuations in either production of or expenditures on traded goods. These relatively large fluctuations in international trade were surprising to some, since international trade had been growing at a very fast pace for quite a long time. They were equally surprising for trade theorists, since these movements in trade arise in standard models of international trade only when the costs of international trade rise and fall substantially. In “The Great Trade Collapse (and Recovery),” PDF (403 KB, 9 pages) George Alessandria places these recent fluctuations in international trade in historical context. He then considers some explanations for the relatively large fluctuations in trade related to the nature of trade, protectionism, and financial constraints.

A balanced budget amendment is a constitutional rule requiring that the government collect enough revenue to finance its expenditures every year. The motivation for introducing such a rule is the desire to restrict deficit spending and limit increases in government debt. However, policymakers strongly disagree about the rule’s coverage and provisions. In particular, they disagree on how to define the terms revenue and expenditures and under which conditions exceptions to the rule should be allowed. In “The Political Economy of Balanced Budget Amendments,” PDF (462 KB, 9 pages) Marina Azzimonti provides an overview of the arguments raised by proponents and opponents to the balanced budget amendment, emphasizing its economic consequences. She then describes recent findings in the academic literature that analyze the impact of similar rules at the state level. Finally, she summarizes theoretical findings that aim to compute the impact of a balanced budget rule on economic and policy variables, together with its effects on consumers’ welfare.

The financial crisis of 2007–2008 left in its wake new responsibilities for regulators to monitor the economy for risks to financial stability. The new task of monitoring financial stability includes tracking the risks of financial instruments and learning where these risks are located within the financial marketplace. One way to do this is to track the quantities of financial instruments and which institutions hold them. In “What You Don’t Know Can Hurt You: Keeping Track of Risks in the Financial System,” PDF (193 KB, 9 pages) Leonard Nakamura discusses some limitations of the current data and the current data framework and the extent to which we can use the Flow of Funds for understanding and monitoring the risk of the broad range of financial instruments, focusing on residential mortgages as an example.

See also the latest issue of Research Rap. PDF (105 KB, 3 pages)

  • Last updated: December 16, 2013

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