Discussion of Monetary Policy According to HANK Lee E. Ohanian UCLA Phoenix Prize Conference Honoring Bob Lucas October 7, 2016 Ohanian (UCLA) Discussion of HANK 10/6/2016 1 / 15
Summary Interesting, Creative, and Provocative Paper! Different approach for analyzing policy in economies with large impediments to trade Differs from CEE, Smets-Wouters, Woodford, Clarida-Gali-Gertler, etc. Centerpiece of models above is New Keynesian IS curve": intertemporal substitution E t σ{c t+1 c t } = i t E t π t+1 (1) Ohanian (UCLA) Discussion of HANK 10/6/2016 2 / 15
Summary HANK Doesn t Have Strong Intertemporal Substitution HANK reminiscent of a much older literature: C = b Y, 0 < b < 1 (2) Ohanian (UCLA) Discussion of HANK 10/6/2016 3 / 15
Summary HANK s Alternative to Strong Intertemporal Substitution HANK s 4 impediments to trade Costly nominal price adjustment Individual income shocks + household borrowing constraint (Incomplete markets - Bewley et al) Costly to borrow - wedge between borrowing & saving rate Costly to accumulate or decumulate productive assets Ohanian (UCLA) Discussion of HANK 10/6/2016 4 / 15
Summary Monetary Policy as Fiscal Policy? Monetary policy (changing nominal interest rate) is effectively fiscal policy Fiscal policy, because monetary policy changes tightness of gov t budget constraint Changes in gov t budget can have big (non-ricardian) effects Ohanian (UCLA) Discussion of HANK 10/6/2016 5 / 15
Comments Should We Abandon Models with Significant Intertemporal Substitution? No - estimating EIS requires several maintained assumptions Separable, identical utility functions, no home production, no learning-by-doing, consumers face same intertemporal prices,... Mao (1987) - Estimated EIS biased down, assuming separable utility Estimated EIS zero when true EIS (nonseparable utility) is around 2 Many studies in literature subject to this potential problem Consumers choose remarkably different portfolios Pistaferri et al (2015) - 90/10 percentile difference of individual asset returns ranges between 3.2 percent to 7.5 percent Ohanian (UCLA) Discussion of HANK 10/6/2016 6 / 15
Comments Perhaps Not Surprising that EIS Estimates Vary Widely Range of EIS estimates all over the map - literally... Havranek et al (2015) summarize 2,375 estimates of IES from datasets from 104 countries 3.1 (Austria) to -0.4 (Switzerland) Ohanian (UCLA) Discussion of HANK 10/6/2016 7 / 15
Comments What about Excess Sensitivity of Consumption? Evidence of excess sensitivity for fairly small changes in budget sets, but... Jappelli and Pistaferri - bigger changes in budget sets dont appear to be puzzle (retirement, kids going to college) Reasonable to pursue research in standard models and KMV approach Ohanian (UCLA) Discussion of HANK 10/6/2016 8 / 15
Comments Costly Trading and Wealthy "Hand-to-Mouth" Consumers Two assets: high return (business, illiquid) & low return (liquid) Illiquid asset return compensates investors for high transaction costs Borrowing limit & high borrowing rate (8%) Many households hold no or very few liquid assets Households thus choose to be constrained This generates "Wealthy Hand-to-Mouth" consumers Ohanian (UCLA) Discussion of HANK 10/6/2016 9 / 15
Wealth distributions: Liquid wealth 1 0.8 Model 2004 SCF Liquid wealth Lorenz curve 0.6 0.4 0.2 0 Top 10% share: SCF 2004: 86%, Model: 75% Top 1% share: SCF 2004: 47%, Model: 18% Gini coefficient: SCF 2004: 0.98, Model: 0.86-0.2 0 0.2 0.4 0.6 0.8 1 20
Comments Who are the Wealthy Hand-to-Mouth Consumers? Ohanian (UCLA) Discussion of HANK 10/6/2016 10 / 15
Model generates high and heterogeneous MPCs 0.5 0.45 0.4 Fraction of lump sum transfer consumed One quarter Two quarters One year 0.4 Quarterly MPC $500 0.35 0.3 0.3 0.25 0.2 0.2 0.1 0.15 0.1 0.05 0 0 200 400 600 800 1000 Amount of transfer ($) Quarterly MPC out of $500 = 16% 0 400 300 20 200 10 100 0-10 0 Liquid Wealth ($000) Illiquid Wealth ($000) 22
Comments Is Illiquidity Really as Big of a Problem as in the Model? Calibrate asset transaction cost function to capture liquid/illiquid shares and fraction of "hand-to-mouth" consumers trading cost =.04 d +.96 d max{a, ā} 1.4 max{a, ā} (3) $800 cost for $3,000 transaction from $100,000 in illiquid assets $14,000 cost for $25,000 transaction from $100,00 in illiquid assets Generates "Wealthy Hand-to-Mouth Consumers" They exhibit high MPC for small shocks These are the consumers who provide the action in the model Ohanian (UCLA) Discussion of HANK 10/6/2016 10 / 15
Comments This Economy Wants a Better Transactions Technology Society indeed produced a very effi cient transaction technology Before May 1, 1975 - very expensive to buy and sell assets Securities industry was a cartel with fixed comission rates $2,400 comission to buy/sell 500 shares of a blue chip stock May 1, 1975 ("May Day"), Deregulation drives down trading costs Ohanian (UCLA) Discussion of HANK 10/6/2016 11 / 15
Comments Today s Trading Costs can be Negligible Today, technological change & competition has reduced marginal cost to near zero Fidelity, Vanguard, Schwab, E-trade are low cost providers 1998 Schwab transaction cost = $90 2006 Schwab transaction cost = $22 Today, trading cost ranges between $0 to $7.95 S & P 500 expense ratio about.05% Ohanian (UCLA) Discussion of HANK 10/6/2016 12 / 15
Comments Isn t Housing More Illiquid? What about housing? Low cost home equity credit lines Lending Tree offers 4.3% ($25,000 line) to 3% ($150,000) Can borrow up to $50,000 on 403(b)/457 plans for 5 years Can borrow against private business Model would perform differently with less costly transactions Ohanian (UCLA) Discussion of HANK 10/6/2016 14 / 16
Comments Does Fiscal Policy Have Big (Non-Ricardian) Effects? Interesting to use model to study World War II Enormous changes in gov t budget at this time G rises by 400%, debt rises to 100 percent of output, and... Big postwar deflation sharply reduces real value of debt Neoclassical model (McGrattan-Ohanian, 2010 IER) consistent with WWII Interesting project: Feed WWII into HANK Ohanian (UCLA) Discussion of HANK 10/6/2016 15 / 16
Gross Federal Debt Held by the Public as Percent of Gross Domestic Product 110 100 90 80 Percent of GDP 70 60 50 40 30 20 1940 1942 1944 1946 1948 1950 1952 1954 1956 1958 1960 1962 1964 1966 1968 1970 Source: Federal Reserve Bank of St. Louis, US. Office of Management and Budget fred.stlouisfed.org myf.red/g/7ytc
Figure 33 Real Detrended GNP, Private Consumption, and Private Investment, 1 (Benchmark Deterministic Model) 1.5 0.7 0.3 1.4 1.3 0.6 0.2 1.2 GNP 1.1 1.0 0.5 Consumption 0.1 Investment 0.9 0.8 1940 1942 1944 1946 0.4 1940 1942 1944 1946 0.0 1940 194 Legend U.S. Data Model Note: Data series are divided by the 1946 real detrended level of GNP less military compensation.
Comments Conclusion Fascinating paper - congrats to authors! Interesting tests to conduct for HANK: Big changes over time in asset market transaction costs and credit availability Effect of big historical changes in fiscal policy Effect of changes in bankruptcy laws Paper highlights importance of understanding individual portfolios Looking forward to seeing more Ohanian (UCLA) Discussion of HANK 10/6/2016 16 / 16