Working papers

The Role of Learning for Asset Prices and Business Cycles (pdf)

The importance of financial frictions for the business cycle is widely recognized, but what is less recognized is that the results obtained from studying these frictions depend heavily on the underlying asset pricing theory. I examine the implications of learning-based asset pricing for business cycles with financial frictions. I construct a model in which stock market valuations affect firms’ ability to access credit, and in which investors rely on past observation to predict the future as in Adam, Marcet and Nicolini (2015). Learning greatly improves asset price properties such as return volatility and predictability. In combination with financial frictions, a powerful feedback loop emerges between beliefs, stock prices and real activity, leading to substantial amplification of shocks. The model-implied subjective expectations exhibit forecast error predictability that closely matches survey data on subjective expectations. A reaction of monetary policy to asset prices is found to be welfare-improving under learning but not under rational expectations.

Unemployment Insurance and International Risk Sharing, with Stéphane Moyen and Nikolai Stähler (pdf)

We discuss how cross-country unemployment insurance can be used to improve international risk sharing. We use a two-country business cycle model with incomplete financial markets and frictional labor markets where the unemployment insurance scheme operates across both countries. Cross-country insurance through the unemployment insurance system can be achieved without affecting unemployment outcomes. The Ramsey-optimal policy however prescribes a more countercyclical replacement rate when international risk sharing concerns enter the unemployment insurance trade-off. We calibrate our model to Eurozone data and find that optimal stabilizing transfers through the unemployment insurance system are sizable and mainly stabilize consumption in the periphery countries, while optimal replacement rates are countercylical overall. We also find that debt-financed national policies are a poor substitute for fiscal transfers.

A Likelihood-Based Comparison of Macro
Asset Pricing Models, with Andrew Chen and Rebecca Wasyk (pdf)

We estimate asset pricing models with multiple risks: long-run growth, long-run volatility, habit, and a residual. The Bayesian estimation accounts for the entire likelihood of consumption, dividends, and the price-dividend ratio. We find that the residual represents at least 80% of the variance of the price-dividend ratio. Moreover, it tracks most recognizable features of stock market history such as the 1990's boom and bust. Long run risks and habit contribute primarily in crises. The dominance of the residual comes from the low correlation between asset prices and real growth and volatility. We discuss theories which are consistent with our results.

The Effect of Asset Price Learning in RBC and Labour Search Models (pdf)

It is plausible that subjective investor beliefs play a role in determining asset prices, but do they also affect the business cycle? I add learning about stock prices to the canonical real business cycle and the labour search and matching models. In so doing, I develop a new method to model small departures from rational expectations, which I call conditionally model-consistent expectations. Adding learning to the real business cycle model improves some asset price properties but leads to counterfactual comovement between consumption, output and stock prices. The search model with learning however has realistic business cycle and asset price properties and a sizeable amount of amplification. In particular, adding learning substantially reduces the need to rely on wage rigidity to explain the observed magnitude of unemployment fluctuations.

Work in Progress

Stabilizing Asset Price Expectations, with Robert Tetlow

Testing the Rational Expectations Hypothesis in Real Time