Working Papers Series

Papers below are in pdf.

2007

WP 07-22
Cointegrating Regressions with Messy Regressors: Missingness, Mixed Frequency, and Measurement Error
J. Isaac Miller

We consider a cointegrating regression in which the integrated regressors are messy in the sense that they contain data that may be mismeasured, missing, observed at mixed frequencies, or have other irregularities that cause the econometrician to observe them with mildly nonstationary noise. Least squares estimation of the cointegrating vector is consistent. Existing prototypical variance-based estimation techniques, such as canonical cointegrating regression (CCR), are both consistent and asymptotically mixed normal. This result is robust to weakly dependent but possibly nonstationary disturbances.

JEL Codes: C13, C14, C32
Keywords: cointegration, canonical cointegrating regression, near-epoch dependence, messy data, missing data, mixed-frequency data, measurement error, interpolation

WP 07-21
Asymmetric Information and Bank Runs
Chao Gu

It is known that sunspots can trigger panic-based bank runs and that the optimal banking contract can tolerate panic-based runs. The existing literature assumes that these sunspots are based on a publicly observed, extrinsic randomizing device. In this paper, I extend the analysis of panic-based runs to include an asymmetric-information, extrinsic randomizing device. Depositors observe different, but correlated, signals on the stability of the bank. I find that if the signals that depositors obtain are highly correlated, there exists a correlated equilibrium for some demand deposit contracts. In this equilibrium, a full bank run, a partial bank run, or non-bank run occurs depending on the realization of the signals. Computed examples indicate that in some economies, a demand-deposit contract that tolerates bank runs and partial bank runs is optimal, whereas in some other economies a run-proof contract is optimal.

JEL Codes: D82, G21, P11
Keywords: Bank runs, randomizing device, sunspot equilibrium, correlated equilibrium, imperfect information.

WP 07-20
The Impact of Welfare Reform on Leaver Characteristics, Employment and Recidivism: An Analysis of Maryland and Missouri
Peter R. Mueser, David W. Stevens and Kenneth R. Troske

State and federal reforms of the 1990s transformed the U.S. cash assistance program for single parents and their children. Despite an extensive literature examining these changes and their impacts, there have been few studies that consider the effects of these reforms from the perspective of the recent period. The analysis here focuses on the characteristics and employment of welfare recipients in Maryland and Missouri, 1991-2004. We find that there has been only modest change in the observable characteristics of those entering, remaining on or leaving welfare, but the importance of employment has grown for each of these groups. We also examine the dynamics of employment and welfare recidivism, comparing cohorts of leavers prior to and after welfare reform. We find that after welfare reform leavers are much more likely to be working. Although in Maryland those working have earnings that are somewhat below employed leavers prior to reform, in Missouri earnings for employed leavers are unchanged. In both states, the types of jobs leavers hold have not changed substantially, and leavers are less likely to return to welfare following reform.

JEL Codes: I380
Keywords: welfare reform

WP 07-19
The Role of Temporary Help Employment in Low-wage Worker Advancement
Carolyn J. Heinrich, Peter R. Mueser, and Kenneth R. Troske

We examine the effects of temporary help service employment on later earnings and employment for individuals participating in three federal programs providing supportive services to those facing employment difficulties. The programs include Temporary Assistance for Needy Families, whose participants are seriously disadvantaged; a job training program with a highly heterogeneous population of participants; and employment exchange services, whose participants consist of Unemployment Insurance claimants and individuals seeking assistant in obtaining employment. We undertake our analyses for two periods: the late 1990s, a time of very strong economic growth, and shortly after 2000, a time of relative stagnation. Our results suggest that temporary help service firms may facilitate quicker access to jobs for those seeking employment assistance and impart substantial benefits as transitional employment, especially for individuals whose alternatives are severely limited. Those who do not move out of temporary help jobs, however, face substantially poorer prospects, and we observe that nonwhites are more likely than whites to remain in THS positions in the two years following program participation. Our results are robust to program and time period.

JEL Codes: J48, J26, J68
Keywords: temporary help, mediated employment, program evaluation

WP 07-18
Behavioral Foundations for Conditional Markov Models of Aggregate Data
Douglas J. Miller

Conditional Markov chain models of observed aggregate share–type data have been
used by economic researchers for several years, but the classes of models commonly
used in practice are often criticized as being purely ad hoc because they are not derived
from micro–behavioral foundations. The primary purpose of this paper is to show that
the estimating equations commonly used to estimate these conditional Markov chain
models may be derived from the assumed statistical properties of an agent–specific discrete
decision process. Thus, any conditional Markov chain model estimated from these
estimating equations may be compatible with some underlying agent–specific decision
process. The secondary purpose of this paper is to use an information theoretic approach
to derive a new class of conditional Markov chain models from this set of estimating
equations. The proposed modeling framework is based on the behavioral foundations
but does not require specific assumptions about the utility function or other components
of the agent–specific discrete decision process. The asymptotic properties of the
proposed estimators are developed to facilitate model selection procedures and classical
tests of behavioral hypotheses.

JEL Codes: C40, C51
Keywords: controlled stochastic process, Fréchet derivative, first–order Markov chain,
Cressie–Read power divergence criterion

WP 07-17
An Information Theoretic Approach to Flexible Stochastic Frontier Models
Douglas J. Miller

Parametric stochastic frontier models have a long history in applied production eco- nomics, but the class of tractible parametric models is relatively small. Consequently, researchers have recently considered non–parametric alternatives such as kernel den- sity estimators, functional approximations, and data envelopment analysis (DEA). The purpose of this paper is to present an information theoretic approach to constructing more flexible classes of parametric stochastic frontier models. Further, the proposed class of models nests all of the commonly used parametric methods as special cases, and the proposed modeling framework provides a comprehensive means to conduct model specification tests. The modeling framework is also extended to develop information theoretic measures of mean technical efficiency and to construct a profile likelihood estimator of the stochastic frontier model.

JEL Codes: C13, C21, C51
Keywords: Kullback–Leibler information criterion, output distance function, profile likelihood, stochastic frontier, technical efficiency

WP 07-16
Herding and Bank Runs
Chao Gu

Traditional models of bank runs do not allow for herding effects, because in these models withdrawal decisions are assumed to be made simultaneously. I extend the banking model to allow a depositor to choose his withdrawal time. When he withdraws depends on his liquidity type (patient or impatient), his private, noisy signal about the quality of the bank's portfolio, and the withdrawal histories of the other depositors. In some cases, the optimal banking contract permits herding runs. Some of these "runs" are efficient in that the bank is liquidated before the portfolio worsens. Others are not efficient; these are cases in which the herd is misled.

JEL Codes: C73, D82, E59, G21
Keywords: Bank runs, herding, imperfect information, perfect Bayesian equilibrium, optimal bank contract, sequential-move game, fundamental-based bank runs.

WP 07-15
Real and Virtual Competition
Oksana Loginova

Although the Internet reduces market frictions by making it easier for consumers to obtain information about prices and product offerings, goods sold by electronic firms are not perfect substitutes for otherwise identical goods sold by conventional stores. Online purchases, due to non-zero shipping time, are associated with waiting costs, and they do not allow consumers to inspect the product prior to purchase. Visiting a conventional store, on the other hand, involves positive travelling costs. A model extending the circular city paradigm with two types of firms, conventional and electronic, is studied. Under the benchmark setting with only conventional firms in the market, each consumer visits the nearest store and purchases the product there. When electronic firms enter the market, an intriguing type of market segmentation may arise. First, each consumer travels to the nearest conventional store to "try on'' the product. Second, conventional retailers increase their prices and sell the good only to consumers who discover that they have high valuations; consumers with low valuations return "home'' and order the good online. In spite of the increased competition from Internet retailers, welfare decreases.

JEL Codes: D43, D81, and L11
Keywords: Electronic Commerce, Oligopoly Pricing, Market Segmentation, Spatial Competition

WP 07-14
Excess Sensitivity in Consumption without Liquidity Constraint: Evidence from Monthly Household Panel Data
Shawn Ni & Youn Seol

The monthly salaries and allowances of Korean government employees are known in advance but vary greatly throughout the year. Using a large Korean monthly panel data set from 1994 to 2003, we examine how nondurable consumption expenditure in households headed by government employees responds to predictable income changes. We find excess sensitivity in consumption during the pre-Asian financial crisis era in households headed by young government employees with low liquid assets or low income. These household features are commonly associated with liquidity constraints. Further analysis shows that despite the apparent association, liquidity constraint is not the most convincing explanation for the excess sensitivity. Instead, the empirical finding is consistent with the theory that certain households deviate from consumption smoothing when the effort involved exceeds the welfare gained.

JEL Codes: D12, E21
Keywords: household consumption, excess sensitivityhousehold consumption, excess sensitivity

WP 07-13
Teacher Quality and Dropout Outcomes in a Large, Urban School District
Cory Koedel

Recent research shows that variation in teacher quality has large effects on student performance. However, this research is based entirely on student test scores. This paper evaluates teacher quality in terms of another educational outcome of great interest – graduation. Using a unique instrumental variables approach to identify teacher effects, I find that differences in teacher quality have large effects on graduation outcomes. Because teacher effects on graduation outcomes will be more pronounced for students who are on the graduation margin, the results imply an avenue through which high-quality teachers are more productive with disadvantaged students.

JEL Codes: I20, I21 and J24
Keywords: Teacher Quality, Teacher Evaluation, Dropouts, Graduation Outcomes, Multiple Endogenous Treatments

WP 07-12
The Evolving Food Chain: Competitive Effects of Wal-Mart?s Entry into the Supermarket Industry
Emek Basker & Michael Noel

We analyze the effect of Wal-Mart?s entry into the grocery market using a unique store-level price panel data set. We use OLS and two IV specifications to estimate the effect of Wal-Mart?s entry on competitors? prices of 24 grocery items across several categories. Wal-Mart?s price advantage over competitors for these products averages approximately 10%. On average, competitors? response to Wal-Mart?s entry is a price reduction of 1?1.2%, mostly due to smaller-scale competitors: the response of the ?big three? supermarket chains (Albertson?s, Safeway, and Kroger) is less than half that size. We confirm our results using a falsification exercises, in which we test for Wal-Mart?s effect on prices of services that it does not provide, such as movie tickets and dry cleaning services.

JEL Codes: L11, L13, L81
Keywords: Wal-Mart, Retail Prices, Supermarkets, Price Competition

forthcoming in Journal of Economics and Management Strategy

WP 07-11
Does a Seller Really Want Another Bidder?
Ronald M. Harstad

Jeremy I. Bulow and Paul D. Klemperer (AER, 1996) argue that the usual concerns of auction design miss the big picture, and show that a simple English auction without a reserve price and N + 1 bidders attains expected revenue in excess of any auction with N bidders. The issue of how this additional bidder might be attracted is not treated in their model. In fact, that an auction can convince another bidder it is worth his while to compete carries a critical message about expected revenue. In those many markets where potential bidders decide whether to compete in an auction based on the expected probability of bidding, Bulow and Klemperer's conclusion is shown here to be overturned. I explore the symmetric equilibrium of a model where potential bidders first decide whether to participate in an auction, and then participants select bidding strategies. Expected revenue is increased by some degree of bidder discouragement, in that it is never optimal to have all N potential bidders participate with probability one, even for very small N.

JEL Codes: D44; D82; C72
Keywords: affiliated-values auctions, auction revenue, number of bidders, increased competition, endegenous bidder participation

WP 07-10
Wal-Mart as Catalyst to U.S.-China Trade
Emek Basker & Pham Hoang Van

Retail chains and the volume of imports of consumer goods from developing countries have grown sharply over the past 25 years. Wal-Mart?s sales, which currently account for 15% of U.S. imports of consumer goods from China, grew 90-fold over this period, while U.S. imports from China increased 30-fold. We relate these trends using a model in which scale economies in retail interact with scale economies in the import process. Combined, these scale economies amplify the effects of technological change and trade liberalization, creating a two-way relationship between the chain?s size and its sourcing choice. Falling trade barriers increase imports not only through direct reduction of input costs but also through an expanded chain and higher investment in technology. Calculations based on our model suggest that the existence of the chain more than doubles the sensitivity of imports to tariff reductions. Technological innovations account for approximately 60% of Wal-Mart?s growth from 1984?2004 and reductions in input cost, due to tariff reductions and changes in sourcing, account for 40% of this growth.

JEL Codes: L11, L81, F12
Keywords: Wal-Mart, Trade, Economies of Scale, China, Technological Change, Retail Chain

WP 07-09
Heterogeneous Information and Investment under Uncertainty
Shawn Ni & Ronald A. Ratti

A sudden change in investment environment shifts objective uncertainty (characterized by parameters that determine the distribution of returns) and at the same time heightens subjective uncertainty (about the data generating parameters) unevenly across investors. For a given state of economy, the uncertainty facing the investor is the sum of the uncertainty in the data and the uncertainty of the investor?s assessment of the expected return distribution. In this model the option value of waiting to invest depends not only on the objective uncertainty as in the traditional theory but varies systematically with investor information and Bayesian updating of outlook for the project. Simulation of the model suggests that during a state characterized by greater uncertainty and higher potential expected return investment will be by an abnormally high percentage of informed investors and may increase overall. For over 10,000 instances of firm-level FDI data for Korea from 1996 to 2001, regression results are consistent with the hypothesis that disproportionably more FDI is made by experienced (hence more informed) investors during heightened uncertainty.

JEL Codes: D8, E22, F21
Keywords: uncertainty, investor information, option value, Bayesian updating, FDI

WP 07-08
Re-Examining the Role of Teacher Quality In the Educational Production Function
Cory Koedel & Julian R. Betts

This study uses administrative data linking students and teachers at the classroom level to estimate teacher value-added to student test scores. We find that variation in teacher quality is an important contributor to student achievement – more important than has been implied by previous work. This result is attributable, at least in part, to the lack of a ceiling effect in the testing instrument used to measure teacher quality. We also show that teacher qualifications are almost entirely unable to predict value-added. Motivated by this result, we consider whether it is feasible to incorporate value-added into evaluation or merit pay programs.

JEL Codes: I20, I21, J24
Keywords: teacher quality, educational production, teacher value-added, value-added, test-score ceiling effects, teacher evaluation, teacher accountability, elementary school

WP 07-07
Teacher Quality and Educational Production in Secondary School
Cory Koedel

This study uses administrative data linking students and teachers at the classroom level to evaluate teacher quality and joint production in secondary school. Teacher quality is measured by value-added to student test scores in math and reading. Although empirical research has struggled to link observable teacher qualifications to student achievement, teacher quality measured by student performance varies significantly and has important effects on educational outcomes. I identify which teacher inputs affect which test-score outputs in secondary school and find strong evidence of joint production. The results from this study are applicable to incentive design and teacher accountability.

JEL Codes: I20, I21, J24
Keywords: teacher quality, educational production, joint production, teacher value-added, value-added, teacher evaluation, secondary school

Updated substantially as WP-0808

WP 07-06
When Good Instruments Go Bad
Emek Basker

This note examines the instrumental variables method used by Neumark, Zhang, and Ciccarella (2005) to analyze Wal-Mart's effect on retail labor markets, and exposes major flaws in that methodology. Neumark, Zhang, and Ciccarella use an interaction between distance from Wal-Mart's headquarters and time effects to predict Wal-Mart's presence in a county, and find that each Wal-Mart store destroys, on average, approximately 200 retail jobs. These findings are in stark contrast to Basker (2005) who found a small, but positive and statistically significant, effect on jobs. I show that the IV estimates obtained by Neumark, Zhang, and Ciccarella confound Wal-Mart's causal effect with other factors. To illustrate the problem, I show that their methodology implies a large impact of Wal-Mart not only on retail employment but also on county manufacturing employment. Reduced-form estimates of the regressions show statistically and economically indistinguishable effects in counties with and without Wal-Mart presence, implying that other factors are most likely driving the results.

JEL Codes: C21, J21, L81
Keywords: Instrumental Variables, Wal-Mart, Retail Employment

WP 07-05
Networks, Standards and Intellectual Property Rights
Johannes Moenius and Vitor Trindade

This paper reviews issues that lie at the intersection between intellectual property rights (IPR) and network effects, especially in the context of the global economy. Some of the relevant questions are: (1) How do IPR influence the provision of goods exhibiting network effects? (2) How do network effects in turn influence the creation of intellectual property? And (3) how do aspects of the global economy interact with both IPR and network effects? We synthesize what is known from the existing literature to answer these questions.

JEL Codes: D85, F12, F13, F14, L14, O34
Keywords: Intellectual Property Rights, Network Effects, Globalization, Standards, Social Networks, Software Piracy
forthcoming as a chapter in: Intellectual Property, Growth, and Trade (Frontiers in Economic Research Series, Amsterdam: Elsevier-North Holland), Keith E. Maskus, editor, 2007.

WP 07-04
Money, output and the payment system: Optimal monetary policy in a model with hidden effort
Joydeep Bhattacharya, Joseph H. Haslag and Antoine Martin

We propose a new explanation for the observed difference in the cost of intraday and overnight liquidity. We argue that the low cost of intraday liquidity is an application of the Friedman rule in an environment where a deviation of the Friedman rule is optimal with respect to overnight liquidity. In our environment the cost of overnight liquidity affects output while the cost of intraday liquidity only redistributes resources between money holders and non-money holders. We show that it is optimal to set a high overnight rate to reduce the incentives to overuse money. In contrast, intraday liquidity should have a low cost to provide risk-sharing.

JEL Codes: E31; E51; E58
Keywords: Friedman rule; monetary policy; random-relocation models

WP 07-03
Why Are Firms Sometimes Unwilling to Reduce Costs?
X. Henry Wang and Jingang Zhao

This paper establishes three new results for multiproduct oligopolies: 1) it presents the first explicit expression of Nash equilibria for asymmetric multiproduct oligopolies; 2) it shows that reducing a multiproduct firm’s cost in Bertrand oligopolies will reduce its profits if the cost-reducing unit is sufficiently small; and 3) it demonstrates that a multiproduct firm has no incentive to eliminate a product whose sales are zero. Because a single-product firm whose sales are zero is indifferent between exiting and staying, and its cost reductions always increase its profits, our results are unique to the multiproduct firm, and they suggest that extending oligopoly studies from a single product to multi-products could be as significant as the extension of calculus from a single variable to multi-variables.

JEL Codes: C63, D43, L13
Keywords: Effect of cost reduction, multiproduct oligopoly, price competition, quantity competition

WP 07-02
Using State Administrative Data to Measure Program Performance
Peter R. Mueser, Kenneth R. Troske and Alexey Gorislavsky

We use administrative data from Missouri to examine the sensitivity of earnings impact estimates for a job training program based on alternative nonexperimental methods. We consider regression adjustment, Mahalanobis distance matching, and various methods using propensity score matching, examining both cross-sectional estimates and difference-in-difference estimates. Specification tests suggest that the difference-in-difference estimator may provide a better measure of program impact. We find that propensity score matching is most effective, but the detailed implementation is not of critical importance. Our analyses demonstrate that existing data can be used to obtain useful estimates of program impact.

JEL Codes: C14, C21, C52
Keywords: program evaluation, training programs, matching

updated from WP 05-20
forthcoming in Review of Economic and Statistics

WP 07-01
When Do Input Prices Matter For Make-Or-Buy Decisions?
David Mandy

We investigate input pricing regimes that induce efficient make-or-buy decisions by entrants when there is constant returns in the production of the input(s) and simultaneous noncooperative price competition in downstream retail markets. A necessary and sufficient condition for efficient make-or-buy decisions is derived. This condition shows that input prices are relevant for make-or-buy decisions except under restrictive and often unverifiable assumptions on the demand structure, and that the least informationally-demanding way to ensure efficient make-or-buy decisions is to price inputs at marginal cost. The extent to which input prices can depart from marginal cost while still inducing efficient make-or-buy decisions depends on the relative efficiency of the incumbent and the demand displacement ratio, with significant departures possible even for modest efficiency differences when products are nearly homogeneous.

JEL Codes: G15, F31, F34
Keywords: Input Pricing Policy, Productive Efficiency
forthcoming in Journal of Regulatory Economics