Abstracts of Published Papers


The Role of Labor Markets for Euro Area Monetary Policy (2009), with Kai Christoffel and Tobias Linzert.

In this paper, we explore the role of labor markets for monetary policy in the euro area in a New Keynesian model in which labor markets are characterized by search and matching frictions. We first investigate to which extent a more flexible labor market would alter the business cycle behavior and the transmission of monetary policy. We find that while a lower degree of wage rigidity makes monetary policy more effective, i.e. a monetary policy shock transmits faster onto inflation, the importance of other labor market rigidities for the transmission of shocks is rather limited. Second, having estimated the model by Bayesian techniques we analyze to which extent labor market shocks, such as disturbances in the vacancy posting process, shocks to the separation rate and variations in bargaining power are important determinants of business cycle fluctuations. Our results point primarily towards disturbances in the bargaining process as a significant contributor to inflation and output fluctuations. In sum, the paper supports current central bank practice which appears to put considerable effort into monitoring euro area wage dynamics and which appears to treat some of the other labor market information as less important for monetary policy.

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Insurance Policies for Monetary Policy in the Euro Area (2009), with Volker Wieland. Journal of the European Economic Association, forthcoming.

In this paper, we aim to design a monetary policy for the euro area that is robust to the high degree of model uncertainty at the start of monetary union and allows for learning about model probabilities. To this end, we compare and ultimately combine Bayesian and worst-case analysis using four reference models estimated with pre-EMU synthetic data. We start by computing the cost of insurance against model uncertainty, that is, the relative performance of worst-case or minimax policy versus Bayesian policy. While maximum insurance comes at moderate costs, we highlight three shortcomings of this worst-case insurance policy: (i) prior beliefs that would rationalize it from a Bayesian perspective indicate that such insurance is strongly oriented toward the model with highest baseline losses; (ii) the minimax policy is not as tolerant of small perturbations of policy parameters as the Bayesian policy; and (iii) the minimax policy offers no avenue for incorporating posterior model probabilities derived from data available since monetary union. Thus, we propose preferences for robust policy design that reflect a mixture of the Bayesian and minimax approaches. We show how the incoming EMU data may then be used to update model probabilities, and investigate the implications for policy.

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The Elasticity of the Unemployment Rate with respect to Benefits (2007), with Kai Christoffel, Economics Letters, forthcoming.

If the Mortensen and Pissarides model with efficient bargaining is calibrated to replicate the fluctuations of unemployment over the business cycle, it implies a far too strong rise of the un- employment rate when unemployment benefits rise. This paper explores an alternative, right-to- manage bargaining scheme. This also generates the right degree of fluctuations of unemployment but at the same time implies a reasonable elasticity of unemployment with respect to benefits.

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Is the New Keynesian Phillips Curve Flat? (2007), with Gernot Mueller and Sarah Stoelting, Economics Letters, forthcoming.

Microeconomic evidence implies frequent price adjustments while macroeconometric evidence based on GMM estimation points to a flat New Keynesian Phillips curve (NKPC). This paper suggests a resolution: GMM estimates of the NKPC may be biased because of autocorrelated cost-push shocks. We perform Monte Carlo experiments using an empirically plausible New Keynesian model as data-generating process and find that GMM estimates of the NKPC imply average price durations of 12 quarters while the true value is only 2 quarters.

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Resuscitating the Wage Channel in Models with Unemployment Fluctuations (2008), with Kai Christoffel. Journal of Monetary Economics, 2008, 55(5), p. 865-887.

Higher wages all else equal translate into higher inflation. More rigid wages imply a weaker response of inflation to shocks. This view of the wage channel is deeply entrenched in central banks' views and models of their economies. In this paper, we present a model with equilibrium unemployment which has three distinctive properties. First, using a search and matching model with right-to-manage wage bargaining a proper wage channel obtains. Second, accounting for fixed costs associated with maintaining an existing job greatly magnifies profit fluctuations for any given degree of wage fluctuations, which allows the model to reproduce the fluctuations of unemployment over the business cycle. And third, the model implies a reasonable elasticity of steady state unemployment with respect to changes in benefits. The calibration of the model implies low profits, but does not require a small gap between the value of working and the value of unemployment for the worker.

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Value-at-Risk Prediction: A Comparison of Alternative Strategies (2006), with Stefan Mittnik and Marc Paolella. Journal of Financial Econometrics 4(1), pp. 53-89.

Given the growing need for managing financial risk, risk prediction plays an increasing role in banking and finance. In this study we compare the out-of-sample performance of existing methods and some new models for predicting value-at-risk (VaR) in a univariate context. Usingmore than 30 years of the daily return data on the NASDAQ Composite Index, we find that most approaches perform inadequately, although several models are acceptable under current regulatory assessment rules for model adequacy. A hybrid method, combining a heavy-tailed generalized autoregressive conditionally heteroskedastic (GARCH) filter with an extreme value theory-based approach, performs best overall, closely followed by a variant on a filtered historical simulation, and a new model based on heteroskedasticmixture distributions. Conditional autoregressive VaR (CAViaR) models perform inadequately, though an extension to a particular CAViaR model is shown to outperform the others.

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Optimal Monetary Policy Rules for the Euro Area (2005), with Alistair Dieppe and Peter McAdam.
Journal of Common Market Studies, 2005, 43(3), p. 507-537.

In this article, we analyse the conduct of optimal monetary policy for the new euro area. The aggregate euro area economy is modelled to have relatively sluggish adjustment properties and a private sector with mainly backward-looking expectations. In this economy, we assume that the central bank searches for its best-performing monetary policy rule, e.g. the optimal weight to give to inflation stabilization compared to that of output, the optimal degree of forward-looking in the planning horizon, and so on. We first find that the optimal degree of gradualism in interest rate-setting needs only be relatively mild and that the central bank should incorporate new information quickly into policy-making. Second, there is substantial gain from implementing and communicating quite forward-looking policies. The optimal forecast horizon for inflation ranges around six quarters. In contrast to deliberately simple rule-based policy recommendations, fully optimal policy is a complicated response to many different economic indicators. With regard to this we find, third, that optimal policy should be based on a broad information set, even if the resulting policy framework is hard to communicate to the outside world. Thus, the article contributes to the debate on optimal monetary policy for the euro area, as well as to the conduct of monetary policy in face of substantial persistence in the transmission mechanism.

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Working papers

 


Inflation Dynamics with Labour Market Matching: Assessing Alternative Specifications (2009), with Kai Christoffel, James Costain, Gregory de Walque, Tobias Linzert, Stephen Millard, and Olivier Pierrard.

This paper reviews recent approaches to modeling the labour market and assesses their implications for inflation dynamics through both their effect on marginal cost and on price-setting behavior. In a search and matching environment, we consider the following modeling setups: right-to-manage bargaining vs. efficient bargaining, wage stickiness in new and existing matches, interactions at the firm level between price and wage-setting, alternative forms of hiring frictions, search on-the-job and endogenous job separation. We find that most speci.cations imply too little real rigidity and, so, too volatile inflation. Models with wage stickiness and right-to-manage bargaining or with firm-specific labour emerge as the most promising candidates.

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The (Un)Importance of Unemployment Fluctuations for Welfare (2008), with Philip Jung.

This paper studies the cost of business cycles within a real business cycle model with search and matching frictions in the labor market. We endogenously link both the cyclical fluctuations and the mean level of unemployment to the aggregate business cycle risk. The key result of the paper is that business cycles are costly: Fluctuations over the cycle induce a higher average unemployment rate since employment is non-linear in the job-finding rate and the past unemployment rate. We show this analytically for a special case of the model. We then calibrate the model to U.S. data. For the calibrated model, too, business cycles cause higher average unemployment; the welfare cost of business cycles can easily be an order of magnitude larger than Lucas' (1987) estimate. The cost of business cycles is the higher the lower the value of non-employment, or, respectively, the lower the disutility of work. The ensuing cost of business cycles rises further when workers' skills depreciate during unemployment.

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Real Price and Wage Rigidities in a Model with Matching Frictions (2007).

This paper incorporates a search and matching framework into the (Calvo-staggered) price setting sector. Matching frictions lead price setting firms to negotiate wage rates with their employees. The negotiation of wages substantially increases strategic complementarity in price setting among suppliers of differentiated goods. This leads to an increase in real rigidities as in Woodford (2003) which reduces implied price durations for a given estimate of the slope of the Phillips curve thus reconciling macro- and micro-evidence. A novel result of the paper is that the same factors which induce smooth inflation also dampen the adjustment of wages in response to shocks. In the search and matching framework this is key for explaining the highly responsive nature of vacancies in the data. Another interesting finding for the Phillips curve is that inflation is not only driven by an output gap but also by an employment gap -- a feature usually neglected in empirical research. The modified model matches impulse responses of an SVAR for post Volcker-disinflation US~data very well.

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Identifying the Role of Labor Markets for Monetary Policy in an Estimated DSGE Model (2006), with Kai Christoffel and Tobias Linzert.

We focus on a quantitative assessment of rigid labor markets in an environment of stable monetary policy. We ask how wages and labor market shocks feed into the inflation process and derive monetary policy implications. Towards that aim, we structurally model matching frictions and rigid wages in line with an optimizing rationale in a New Keynesian closed economy DSGE model. We estimate the model using Bayesian techniques for German data from the late 1970s to present. Given the pre-euro heterogeneity in wage bargaining we take this as the first-best approximation at hand for modelling monetary policy in the presence of labor market frictions in the current European regime. In our framework, we find that labor market structure is of prime importance for the evolution of the business cycle, and for monetary policy in particular. Yet shocks originating in the labor market itself may contain only limited information for the conduct of stabilization policy.

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