Firm-specific investment, sticky prices and the Taylor principle

According to the Taylor principle a central bank should adjust the nominal interest rate by more than one-for-one in response to changes in current inflation. Most of the existing literature supports the view that by following this simple recommendation a central bank can avoid being a source of unnecessary fluctuations in economic activity. The present paper shows that this conclusion is not robust with respect to the modelling of capital accumulation. We use our insights to discuss the desirability of alternative interest raterules. Our results suggest a reinterpretation of monetary policy under Volcker and Greenspan: The empirically plausible characterization of monetary policy can explain the stabilization of macroeconomic outcomes observed in the early eighties for the US economy. The Taylor principle in itself cannot.

The determinants of pricing in pharmaceuticals: Are U.S. prices really higher than those of Canada?

This paper studies price determination in pharmaceutical markets using data for 25 countries, six years and a comprehensive list of products from the MIDAS IMS database. We show that market power and the quality of the product has a significantly positive impact of prices. The nationality of the producer appears to have a small and often insignificant impact on prices, which suggests that countries which regulates prices have relatively little power to do it in a way that advances narrow national interest. We produce a theoretical explanation for this phenomenon based on the fact that low negotiated prices in a country would have a knock-on effect in other markets, and is thus strongly resisted by producers.Another key finding is that the U.S. has prices that are not significantly higher than those of countries with similar income levels. This, together with the former observation on the effect of the nationality of producers casts doubt on the ability of countries to pursue "free-riding" regulation.

A decomposition formula for option prices in the Heston model and applications to option pricing approximation

By means of classical Itô's calculus we decompose option prices asthe sum of the classical Black-Scholes formula with volatility parameterequal to the root-mean-square future average volatility plus a term dueby correlation and a term due to the volatility of the volatility. Thisdecomposition allows us to develop first and second-order approximationformulas for option prices and implied volatilities in the Heston volatilityframework, as well as to study their accuracy. Numerical examples aregiven.

A simple access pricing rule to achieve the Ramsey outcome for interconnected networks

This paper considers a general and informationally efficient approach to determine the optimal access pricing rule for interconnected networks. It shows that there exists a simple rule that achieves the Ramsey outcome as the unique equilibrium when networks compete in linear prices without network-based price discrimination. The approach is informationally efficient in the sense that the regulator is required to know only the marginal cost structure, i.e. the marginal cost of making and terminating a call. The approach is general in that access prices can depend not only on the marginal costs but also on the retail prices, which can be observed by consumers and therefore by the regulator as well. In particular, I consider the set of linear access pricing rules which includes any fixed access price, the Efficient Component Pricing Rule (ECPR) and the Modified ECPR as special cases. I show that in this set, there is a unique rule that implements the Ramsey outcome as the unique equilibrium independently of the underlying demand conditions.

Composition of electricity generation portfolios, pivotal dynamics and market prices

We use a simulation model to study how the diversification of electricity generation portfoliosinfluences wholesale prices. We find that technological diversification generally leads to lower market prices but that the relationship is mediated by the supply to demand ratio. In each demand case there is a threshold where pivotal dynamics change. Pivotal dynamics pre- and post-threshold are the cause of non-linearities in the influence of diversification on market prices. The findings are robust to our choice of behavioural parameters and match close-form solutions where those are available.

Pitfalls in the modeling of forward-looking price setting and investment decisions

The present paper makes progress in explaining the role of capital for inflation and output dynamics. We followWoodford (2003, Ch. 5) in assuming Calvo pricing combined with a convex capital adjustment cost at the firm level. Our main result is that capital accumulation affects inflation dynamics primarily through its impact on the marginal cost. This mechanism is much simpler than the one implied by the analysis in Woodford's text. The reason is that his analysis suffers from a conceptual mistake, as we show. The latter obscures the economic mechanism through which capital affects inflation and output dynamics in the Calvo model, as discussed in Woodford (2004).

Money and prices in models of bounded rationality in high inflation economies

This paper studies the short run correlation of inflation and money growth. We study whether a model of learning can do better than a model of rational expectations, we focus our study on countries of high inflation. We take the money process as an exogenous variable, estimated from the data through a switching regime process. We findthat the rational expectations model and the model of learning both offer very good explanations for the joint behavior of money and prices.

Poor, hungry and ignorant: Numeracy and the impact of high food prices in industrializing Britain, 1780-1850

This paper uses the ability to recall one s age correctly as an indicator of numeracy.We show that low levels of nutrition impaired numeracy in industrializing England, 1780-1850.Numeracy declined markedly among those born during the war years, especially where wheatwas dear. England s nascent welfare state mitigated the negative effect of high food prices oncognitive skills. Nutrition during early development mattered for labor market outcomes:individuals born in periods or countries with high age heaping were more likely to sort intooccupations with limited intellectual requirements.

Drug innovation, prices and health

This article tries to reconcile economic-industrial policy with health policy when dealing with biomedical innovation and welfare state sustainability. Better health accounts for an increasingly large proportion of welfare improvements. Explanation is given to the welfare losses coming from the fact than industrial and health policy tend to ignore each other. Drug s prices reflecting their relative relative effectiveness send the right signal to the industry rewarding innovation with impact on quantity and quality of life- and to the buyers of health care services.The level of drug s public reimbursement indicates the social willingness to pay of the different national health systems, not only by means of inclusion, or rejection, in the basket of services covered, but especially establishing the proportion of the price that is going to be financed publicly.Reference pricing for therapeutic equivalents as the upper limit of the social willingness to pay- and two-tiered co-payments for users (avoidable and inversely related with the incremental effectiveness of de drug) are deemed appropriate for those countries concerned at the same time with increasing their productivity and maintaining its welfare state. Profits drive R&D but not its location. There is no intrinsic contradiction between high productivity and a consolidated National Health Service (welfare state) as the European Nordic Countries are telling us every day.

How well do individuals predict the selling prices of their homes?

Self-reported home values are widely used as a measure of housing wealth by researchers employing a variety of data sets and studying a number of different individual and household level decisions. The accuracy of this measure is an open empirical question, and requires some type of market assessment of the values reported. In this research, we study the predictive power of self-reported housing wealth when estimating sales prices utilizing the Health and Retirement Study. We find that homeowners, on average, overestimate the value of their properties by between 5% and 10%. More importantly, we are the first to document a strong correlation between accuracy and the economic conditions at the time of the purchase of the property (measured by the prevalent interest rate, the growth of household income, and the growth of median housing prices). While most individuals overestimate the value of their properties, those who bought during more difficult economic times tend to be more accurate, and in some cases even underestimate the value of their house. These results establish a surprisingly strong, likely permanent, and in many cases long-lived, effect of the initial conditions surrounding the purchases of properties, on how individuals value them. This cyclicality of the overestimation of house prices can provide some explanations for the difficulties currently faced by many homeowners, who were expecting large appreciations in home value to rescue them in case of increases in interest rates which could jeopardize their ability to live up to their financial commitments.

How important are tobacco prices in the propensity to start and quit smoking? An analysis of smoking histories from the Spanish National Health Survey

This paper analyses the effect of tobacco prices on the propensity tostart and quit smoking using a pool of the 1993, 1995 and 1997 editionsof the Spanish National Health Surveys. The estimates for severalparametric models of the hazard rate for starting and quitting suggestthat i) The public health measures applied as of 1992 have had asignificative effect on both reducing the hazard of starting andincreasing the hazard of quitting, ii) Prices have a very weak effect onthe hazard of starting in the male population and no significant effectin the female population, iii) The price floor of cigarrettes, proxiedby the average price of a pack of black cigarrettes, has a significanteffect on the quitting hazard which is robust across specifications andapplies to both men and women. The implied price elasticity of the timeup to quitting is situated around -1.4.

Increasing returns, imperfect competition and factor prices

We show how, in general equilibrium models featuring increasing returns, imperfectcompetition and endogenous markups, changes in the scale of economic activity affectincome distribution across factors. Whenever final goods are gross-substitutes (gross-complements), a scale expansion raises (lowers) the relative reward of the scarce factoror the factor used intensively in the sector characterized by a higher degree of product differentiation and higher fixed costs. Under very reasonable hypothesis, our theory suggests that scale is skill-biased. This result provides a microfoundation for the secular increase in the relative demand for skilled labor. Moreover, it constitutes an important link among major explanations for the rise in wage inequality: skill-biased technical change, capital-skill complementarities and international trade. We provide new evidence on the mechanism underlying the skill bias of scale.

Inflation dynamics: A structural econometric analysis

We develop and estimate a structural model of inflation that allowsfor a fraction of firms that use a backward looking rule to setprices. The model nests the purely forward looking New KeynesianPhillips curve as a particular case. We use measures of marginalcosts as the relevant determinant of inflation, as the theorysuggests, instead of an ad-hoc output gap. Real marginal costsare a significant and quantitatively important determinant ofinflation. Backward looking price setting, while statisticallysignificant, is not quantitatively important. Thus, we concludethat the New Keynesian Phillips curve provides a good firstapproximation to the dynamics of inflation.

The marginal propensity to spend on adult children

We examine how much of an extra dollar of parental lifetime resources willultimately be passed on to adult children in the form of inter vivostransfers and bequests. We infer bequests from the stock of wealth late inlife. We use mortality rates and age specific estimates of the response oftransfers and wealth to permanent income to compute the expected presentdiscounted values of these responses to permanent income. Our estimatesimply parents pass on between 2 and 3 cents out of an extra dollar ofexpected lifetime resources in bequests and about 2 cents in transfers.The estimates increase with parental income and are smaller for nonwhites.They imply that about 15 percent of the effect of parental income onlifetime resources of adult children is through transfers and bequestsand about 85 percent is through the intergenerational correlation inearnings, although these estimates are sensitive to assumptions about theintergenerational earnings correlation, taxes, and the number of children.We compare our estimates to the implications of alternative computablebenchmark models of savings behavior in order to assess the likelyimportance of intended bequests for the wealth/income relationship.

A retail benchmarking approach to efficient two-way access pricing

We study a retail benchmarking approach to determine access prices for interconnected networks. Instead of considering fixed access charges as in the existing literature, we study access pricing rules that determine the access price that network i pays to network j as a linear function of the marginal costs and the retail prices set by both networks. In the case of competition in linear prices, we show that there is a unique linear rule that implements the Ramsey outcome as the unique equilibrium, independently of the underlying demand conditions. In the case of competition in two-part tariffs, we consider a class of access pricing rules, similar to the optimal one under linear prices but based on average retail prices. We show that firms choose the variable price equal to the marginal cost under this class of rules. Therefore, the regulator (or the competition authority) can choose one among the rules to pursue additional objectives such as consumer surplus, network coverage or investment: for instance, we show that both static and dynamic e±ciency can be achieved at the same time.