Two papers on Chinese Growth

January 20, 2020

Population Aging, Credit Market Frictions, and Chinese Economic Growth

By Michael Dotsey, Wenli Li and Fang Yang

We build a unified framework to quantitatively examine population aging and credit market frictions in contributing to Chinese economic growth between 1977 and 2014. We find that demographic changes together with endogenous human capital accumulation account for a large part of the rise in per capita output growth, especially after 2007, as well as some of the rise in savings. Credit policy changes initially alleviate the capital misallocation between private and public firms and lead to significant increases in both savings and output growth. Later, they distort capital allocation. While contributing to further increase in savings, the distortion slows down economic growth. Among factors that we consider, increased life expectancy and financial development in the form of reduced intermediation cost are the most important in driving the dynamics of savings and growth.

Deregulation as a Source of China’s Economic Growth

By Shiyuan Pan, Kai Xu and Kai Zhao

We develop a two-sector growth model of vertical structure in which the upstream sector features Cournot competition and produces intermediate goods that are used in the downstream sector for the production of final goods. In such a vertical structure, we show that deregulation and increased market competition in the upstream sector does not only increase its own productivity, but also has a substantial spillover effect on the productivity of the downstream sector through affecting factor prices. We calibrate the model to the Chinese economy and use the calibrated model to quantitatively evaluate the extent to which deregulation in the upstream market in China from 1998 to 2007 accounts for the rapid economic growth over the same period. Our quantitative experiments suggest that deregulation in the upstream market in China from 1998 to 2007 can account for a significant fraction of China’s economic growth during this period partly due to the significant spillover effect it has on the downstream sector. In addition, our model can also match several relevant observations in China during the same period including high and rising returns to capital, declining markups.

In this week’s crop of new papers on NEP-DGE, two on the same topic with seemingly very different explanations of Chinese growth. But as the papers individually note, the earlier growth is likely more due to deregulation (which has to stop at some point), while the later one is due to demographics. The demographic factor will become more interesting soon, as ageing plus stagnant or even declining population will put China in a similar situation to Japan.

The Unintended Consequences of Meritocratic Government Hiring

January 13, 2020

By Athanasios Geromichalos and Ioannis Kospentaris

In an attempt to mitigate the negative effects of clientelism, many governments around the world have adopted meritocratic hiring of public employees. This paper challenges the effectiveness of this common practice by showing that meritocratic government hiring can have unintended negative consequences on macroeconomic aggregates. In many countries, public employees enjoy considerable job security and generous compensation schemes; as a result, many talented workers choose to work for the public sector, which deprives the private sector of productive potential employees. This, in turn, reduces firms’ incentives to create jobs, increases unemployment, and lowers GDP. To quantify the effects of this novel channel, we extend the standard Diamond-Mortensen-Pissarides model to incorporate workers of heterogeneous productivity and a government that fills public sector jobs based on merit. We calibrate the model to aggregate data from Greece and perform a series of counterfactual exercises. We find that the adverse effects of our mechanism on the economy’s TFP, GDP, and unemployment are sizable.

The brightest minds will go where the best money is to be had. In a corrupt society, they will be the best at exploiting rents. They will go where the private gain is the highest. Is this where the social gain is the highest? If this is the case for the public sector, then I am fine with the perks of working there. The problem is that it has always been very difficult to measure this social gain, but it is obviously not high if you have a corrupt public sector.

I wonder, though whether the same reasoning could be applied to other sectors. For example in the United States, Wall Street has been attracting the best talent for years up to the Financial Crisis. Now it seems to be Silicon Valley. Are we better off now? Could one improve by attracting the best talent to the public sector?

Flexibility or certainty? The aggregate effects of casual jobs on labour markets

January 8, 2020

By Rachel Scarfe

There is much debate about the extent to which governments should regulate labour markets. One discussion concerns casual jobs, where firms do not need to guarantee workers certain, fixed, hours of work and instead “call-up” workers as and when needed. These jobs, sometimes known as “zero-hours”, “contingent” or “on-demand, provide flexibility for firms to change the size of their workforce cheaply and quickly and for workers to choose whether to supply labour in every period. This flexibility comes at the expense of certainty for both firms and workers. In this paper I develop a search and matching model incorporating casual jobs, which I use to evaluate the effect of labour market policies on aggregate outcomes. I find that a ban on casual jobs leads to higher unemployment, but also to higher production and aggregate worker utility. I also consider the effect of a higher minimum wage for casual jobs. I find that the effects are limited. These results are due to an offsetting mechanism: although higher wages lead to higher unemployment, as firms offer more full-time jobs, the number of workers actually called-up to work increases.

Interesting question, execution and results. The question now is how to deal with the trade-off between unemployment and production/utility when setting policy.

One EMU Fiscal Policy for the EURO

December 23, 2019

By Alexandre Lucas Cole, Chiara Guerello and Guido Traficante

We build a two-country New-Keynesian DSGE model of a Currency Union to study the effects of fiscal policy coordination, by evaluating the stabilization properties and welfare implications of different fiscal policy scenarios. Our main findings are that a government spending rule which targets the net exports gap rather than the domestic output gap produces more stable dynamics and that consolidating government budget constraints across countries with symmetric tax rate movements provides greater stabilization. A key role is played by the trade elasticity which determines the impact of the terms of trade on net exports. In fact, when goods are complements, the stabilization properties of coordinating fiscal policies are no longer supported. These findings point out to possible policy prescriptions for the Euro Area: to coordinate fiscal policies by reducing international demand imbalances, either by stabilizing trade flows across countries or by creating some form of Fiscal Union or both.

This paper addresses an important policy question, yet I am not ready to advocate the policy prescription. The reason is that I find symmetric two-country models too restrictive, especially when you want to talk about the Eurozone, where economies differ a lot in size and bilateral trade balance matters only in few cases. Build at least a three-country model with economies differing in size (and import propensity). You lose the convenience of the two-country symmetry, but you gain relevance.

Waiting for the Prince Charming: Fixed-Term Contracts as Stopgaps

December 20, 2019

By Normann Rion

In this paper, I build a simple Mortensen-Pissarides model embedding a dual labor market. I derive conditions for the existence of an equilibrium with coexisting strongly protected open-ended contracts and exogeneously short fixed-term contracts. I also study dynamics after a reform on employment protection legislation. Temporary contracts play the role of fillers while permanent contracts are used to lock up high-productivity matches. High firing costs favor the emergence of a dual equilibrium. Employment protection legislation encourages the resort to temporary employment in job creation. This scheme is intertwined with a general-equilibrium effect: permanent contracts represent the bulk of employed workers and a more stringent employment protection reduces aggregate job destruction. This pushes down unemployment and in turn reduces job creation ows through temporary contracts. The model is calibrated to match the French labor market. Policy experiments demonstrate that there is no joint gain in employment and social welfare through reforms on firing costs around the baseline economy. The optimal policy consists in implementing a unique open-ended contract with a strong cut in firing costs. Increases in firing costs within a dual labor market lead to a sluggish adjustment, while large cuts in firing costs lead to a quick one. The adjustment time of the labor market is highly non-monotonous between these two extremes. Policy-related uncertainty significantly strengthens fixed-term employment on behalf of open-ended employment. Considering extensions, I draw conclusions on the inability of a large class of random-matching models to mimic the distribution of temporary contracts’ duration while maintaining possible the expiring temporary contracts’ conversion into permanent contracts.

This is a very cool paper that highlights one of the major ills of the French labor market and what to do about it. However, as the paper nicely demonstrates, the transition dynamics are important. In particular, some reforms involve a temporary increase in unemployment, and we all now how difficult transitions work out in France.

Risk-sensitive preferences and age-dependent risk aversion

December 12, 2019

By Phitawat Poonpolkul

People in different age groups have shown to differ in their degrees of risk aversion. This study investigates the macroeconomic implications of population aging when households are assumed to be increasingly risk-averse in future utility when they age. The model incorporates risk-sensitive preferences used in Hansen & Sargent (1995), which is the only recursive preferences that can separate risk aversion and intertemporal elasticity of substitution while being monotonic, into a 16-generation discrete-time OLG model with undiversifiable income risk. Compared to a time-additive counterpart, risk-sensitive preferences capture precautionary saving motive that exacerbates adverse responses of aggregate macroeconomic variables under a population aging scenario through demographic re-weighting and life-cycle redistribution channels. Varying risk aversion also allows households to internalize future uncertainties when evaluating their welfare impacts of demographic change, resulting in non-monotonic welfare dynamics with higher welfare loss under a high-risk environment and vice versa. Risk-sensitive preferences with age-dependent risk aversion can play an important role in optimal policy settings by introducing uncertainties into the welfare impact analysis, while taking into account more realistic risk-taking behavior of different age cohorts.

Making this kind of differentiation does not matter in most setups, but when we are taking precautionary savings over the life cycle, it definitively does. Add a major financial-market based recession in there, and you could get some major policy conclusions.

Labor Market Frictions and Lowest Low Fertility

December 7, 2019

By Nezih Guner, Ezgi Kaya and Virginia Sánchez Marcos

The total fertility rate is well below its replacement level of 2.1 children in high- income countries. Why do women choose such low fertility levels? We study how labor market frictions affect the fertility of college-educated women. We focus on two frictions: uncertainty created by dual labor markets (the coexistence of jobs with temporary and open-ended contracts) and inflexibility of work schedules. Using rich administrative data from the Spanish Social Security records, we show that women are less likely to be promoted to permanent jobs than men. Temporary contracts are also associated with a lower probability of first birth. With Time Use data, we also show that women with children are less likely to work in jobs with split-shift schedules, which come with a fixed time cost. We then build a life-cycle model in which married women decide whether to work or not, how many children to have, and when to have them. In the model, women face a trade-off between having children early and waiting and building their careers. We show that reforms that reduce the labor market duality and eliminate split-shift schedules increase the completed fertility of college-educated from 1.52 to 1.88. These reforms enable women to have more children and have them early in their life-cycle. They also increase the labor force participation of women and eliminate the employment gap between mothers and non-mothers.

Women face clearly hurdles in making their joint fertility and job choices that men do not face. The labor market has clearly not been accommodative in that respect. This suggests one way to facilitate fertility while improving career prospects: forbidding split-shift schedules, that is, jobs with a very long lunch break that are quite common in Spain. Sometimes, removing some options improves other choices.