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