Latest publications from

Pushing On a String: US Monetary Policy is Less Powerful in Recessions

Silvana Tenreyro Gregory Thwaites

CEPDP1218. May 2013.We estimate the impulse response of key US macro series to the monetary policy shocks identified by Romer and Romer (2004), allowing the response to depend flexibly on the state of the business cycle. We find strong evidence that the effects of monetary policy on real and nominal variables are more powerful in expansions than in recessions. The magnitude of the difference is particularly large in durables expenditure and business investment. The effect is not attributable to differences in the response of fiscal variables or the external finance premium. We find some evidence that contractionary policy shocks have more powerful effects than expansionary shocks. But contractionary shocks have not been more common in booms, so this asymmetry cannot explain our main finding.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1218.pdf

The Financial Resource Curse

Gianluca Benigno Luca Fornaro

CEPDP1217. May 2013.This paper presents a model of financial resource curse, i.e. episodes of abundant access to foreign capital coupled with weak productivity growth. We study a two-sector, tradable and non-tradable, small open economy. The tradable sector is the engine of growth, and productivity growth is increasing in the amount of labor employed by firms in the tradable sector. A period of large capital inflows, triggered by a fall in the interest rate, is associated with a consumption boom. While the increase in tradable consumption is financed through foreign borrowing, the increase in non-tradable consumption requires a shift of productive resources toward the non-tradable sector at the expenses of the tradable sector. The result is stagnant productivity growth. We show that capital controls can be welfare-enhancing and can be used as a second best policy tool to mitigate the misallocation of resources during an episode of financial resource curse.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1217.pdf

Innovation, Reallocation and Growth

Daron Acemoglu Ufuk Akcigit Nicholas Bloom William R. Kerr

CEPDP1216. May 2013.We build a model of firm-level innovation, productivity growth and reallocation featuring endogenous entry and exit. A key feature is the selection between high- and low-type firms, which differ in terms of their innovative capacity. We estimate the parameters of the model using detailed US Census micro data on firm-level output, R&D and patenting. The model provides a good fit to the dynamics of firm entry and exit, output and R&D, and its implied elasticities are in the ballpark of a range of micro estimates. We find industrial policy subsidizing either the R&D or the continued operation of incumbents reduces growth and welfare. For example, a subsidy to incumbent R&D equivalent to 5% of GDP reduces welfare by about 1.5% because it deters entry of new high-type firms. On the contrary, substantial improvements (of the order of 5% improvement in welfare) are possible if the continued operation of incumbents is taxed while at the same time R&D by incumbents and new entrants is subsidized. This is because of a strong selection effect: R&D resources (skilled labor) are inefficiently used by low-type incumbent firms. Subsidies to incumbents encourage the survival and expansion of these firms at the expense of potential high-type entrants. We show that optimal policy encourages the exit of low-type firms and supports R&D by high-type incumbents and entry.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1216.pdf

Has Job Polarization Squeezed the Middle Class? Evidence from the Allocation of Talents

Michael J. Boehm

CEPDP1215. May 2013.Over the last two decades, earnings in the United States increased at the top and at the bottom of the wage distribution but not in the middle - the intensely debated middle class squeeze. At the same time there was a substantial decline of employment in middle-skill production and clerical occupations - so-called job polarization. I study whether job polarization has caused the middle class squeeze. So far little evidence exists about this because the endogenous selection of skills into occupations prevents credible identification of polarization’s effect on wages. I solve the selection-bias problem by studying the changes in returns to occupation-specific skills instead of the changes in occupational wages using data over the two cohorts of the National Longitudinal Study of Youth (NLSY). This data features multidimensional and pre-determined test scores, which predict occupational sorting and thus measure relative occupation-specific skills. My estimation equations are derived from the Roy (1951) model over two cross-sections with job polarization amounting to a shift in the occupation-specific skill prices. In line with polarization, I find that a one percentage point higher propensity to enter high- (low-) as opposed to middle-skill occupations is associated with a .29 (.70) percent increase in expected wages over time. I then compute a counterfactual wage distribution using my estimates of the shifts in occupation-specific skill prices and show that it matches the increase at the top of the wage distribution but fails to explain the increase at the bottom. Thus, despite the strong association of job polarization with changes in the returns to occupation-specific skills, there remains room for alternative (e.g. policy related) explanations about the increase in the lower part of the wage distribution.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1215.pdf

The Marginal Income Effect of Education on Happiness: Estimating the Direct and Indirect Effects of Compulsory Schooling on Well-Being in Australia

Warn N. Lekfuangfu Nattavudh Powdthavee Mark Wooden

CEPDP1214. May 2013.Many economists and educators favour public support for education on the premise that education improves the overall well-being of citizens. However, little is known about the causal pathways through which education shapes people’s subjective well-being (SWB). This paper explores the direct and indirect well-being effects of extra schooling induced through compulsory schooling laws in Australia. We find the net effect of schooling on later SWB to be positive, though this effect is larger and statistically more robust for men than for women. We then show that the compulsory schooling effect on male’s SWB is indirect and is mediated through income.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1214.pdf

Mental Health: The New Frontier for Labour Economics

Richard Layard

CEPDP1213. May 2013.This lecture argues that mental health is a major factor of production. It is the biggest single influence on life satisfaction, with mental health eight years earlier a more powerful explanatory factor than current income. Mental health also affects earnings and educational success. But, most strikingly, it affects employment and physical health. In advanced countries mental health problems are the main illness of working age – amounting to 40% of all illness under 65. They account for over one third of disability and absenteeism in advanced countries. They can also cause or exacerbate physical illness. It is estimated that in the absence of mental illness, the costs of physical healthcare for chronic diseases would be one third lower. The good news is that cost-effective treatments for the most common mental illnesses now exist (both drugs and psychological therapy). But only a quarter of those who suffer are in treatment. Yet psychological therapy, such as cognitive behavioural therapy, if more widely available would pay for itself in savings on benefits and lost taxes. The lecture ends by illustrating how rational policy can be made using life-course models of wellbeing. Such policies should include a much greater role for the treatment and prevention of mental illness.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1213.pdf

The Geography of Inter-State Resource Wars

Francesco Caselli Massimo Morelli Dominic Rohner

CEPDP1212. May 2013.We establish a theoretical as well as empirical framework to assess the role of resource endowments and their geographic location for inter-State conflict. The main predictions of the theory are that conflict tends to be more likely when at least one country has natural resources; when the resources in the resource-endowed country are closer to the border; and, in the case where both countries have natural resources, when the resources are located asymmetrically vis-a-vis the border. We test these predictions on a novel dataset featuring oilfield distances from bilateral borders. The empirical analysis shows that the presence and location of oil are significant and quantitatively important predictors of inter-State conflicts after WW2.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1212.pdf

Estimating Bayesian Decision Problems with Heterogeneous Priors

Stephen Hansen Michael McMahon

CEPDP1211. May 2013.In many areas of economics there is a growing interest in how expertise and preferences drive individual and group decision making under uncertainty. Increasingly, we wish to estimate such models to quantify which of these drive decision making. In this paper we propose a new channel through which we can empirically identify expertise and preference parameters by using variation in decisions over heterogeneous priors. Relative to existing estimation approaches, our “Prior-Based Identification” extends the possible environments which can be estimated, and also substantially improves the accuracy and precision of estimates in those environments which can be estimated using existing methods.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1211.pdf

Unemployment in the Great Recession

Christopher A. Pissarides

CEPDP1210. May 2013.This paper studies the responses of unemployment in Germany, the United States and Britain to the Great Recession of 2008-09 by making use of Beveridge curve analysis, and in the entire OECD with other techniques. It is shown that Britain suffered from recession but no structural problems; the United States suffered from structural unemployment during the recovery; Germany exhibited a much better performance both during and after the recession. The rise in OECD unemployment is broken down into parts due to aggregate activity, the construction sector and a residual attributed to policies and institutions, which is used to reach conclusions about policy.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1210.pdf

Debt and Incomplete Financial Markets: A Case for Nominal GDP Targeting

Kevin D. Sheedy

CEPDP1209. May 2013.Financial markets are incomplete, thus for many agents borrowing is possible only by accepting a financial contract that specifies a fixed repayment. However, the future income that will repay this debt is uncertain, so risk can be inefficiently distributed. This paper argues that a monetary policy of nominal GDP targeting can improve the functioning of incomplete financial markets when incomplete contracts are written in terms of money. By insulating agents' nominal incomes from aggregate real shocks, this policy effectively completes the market by stabilizing the ratio of debt to income. The paper argues that the objective of nominal GDP should receive substantial weight even in an environment with other frictions that have been used to justify a policy of strict inflation targeting.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1209.pdf

Decision–Making and Implementation in Teams

Jordi Blanes i Vidal Marc Möller

CEPDP1208. May 2013.We use a mechanism–design approach to study a team whose members choose a joint project and exert individual efforts to execute it. Members have private information about the qualities of alternative projects. Information sharing is obstructed by a trade–off between adaptation and motivation. We determine the conditions under which first–best project and effort choices are implementable and show that these conditions can become relaxed as the team grows in size. This contrasts with the common argument (based on free–riding) that efficiency is harder to achieve in larger teams. We also characterize the second–best mechanism and find that decision–making may be biased either in favor or against the team’s initially preferred alternative.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1208.pdf

Concentration Versus Re-Matching? Evidence About the Locational Effects of Commuting Costs

Michael J. Boehm

CEPDP1207. May 2013.Using administrative employer-employee data from Germany, I exploit two reductions of tax breaks for commuting in 2003/4 and 2006/7 to estimate commuting costs’ effect on the decision to switch job and move house. Standard theory predicts that higher commuting costs should lead to increased concentration in urban centers. However, I find that re-matching of existing jobs and houses to reduce commuting distances is much more prevalent in the data. With these estimates I calculate the effect of a complete abolition of the tax breaks on overall travel distance, fuel usage, greenhouse gas emissions, the tax base, and the de-population of the countryside.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1207.pdf

Monopolistic Competition and Optimum Product Selection: Why and How Heterogeneity Matters

Antonella Nocco Gianmarco I. P. Ottaviano Matteo Salto

CEPDP1206. April 2013.After some decades of relative oblivion, the interest in the optimality properties of monopolistic competition has recently re-emerged due to the availability of an appropriate and parsimonious framework to deal with firm heterogeneity. Within this framework we show that non-separable utility, variable demand elasticity and endogenous firm heterogeneity cause the market equilibrium to err in many ways, concerning the number of products, the size and the choice of producers, the overall size of the monopolistically competitive sector. More crucially with respect to the existing literature, we also show that the extent of the errors depends on the degree of firm heterogeneity. In particular, the inefficiency of the market equilibrium seems to be largest when selection among heterogeneous firms is needed most, that is, when there are relatively many firms with low productivity and relatively few firms with high productivity.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1206.pdf

Patents and Cumulative Innovation: Causal Evidence from the Courts

Alberto Galasso Mark Schankerman

CEPDP1205. April 2013.Cumulative innovation is central to economic growth. Do patent rights facilitate or impede such follow-on innovation? This paper studies the effect of removing patent protection through court invalidation on the subsequent research related to the focal patent, as measured by later citations. We exploit random allocation of judges at the U.S. Court of Appeal for the Federal Circuit to control for the endogeneity of patent invalidation. We find that patent invalidation leads to a 50 percent increase in subsequent citations to the focal patent, on average, but the impact is highly heterogeneous. Patent rights appear to block follow-on innovation only in the technology fields of computers, electronics and medical instruments. Moreover, the effect is entirely driven by invalidation of patents owned by large patentees that triggers entry of small innovators, suggesting that patents may impede the ‘democratization’ of innovation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1205.pdf

Gender Gaps and the Rise of the Service Economy

L. Rachel Ngai Barbara Petrongolo

CEPDP1204. April 2013.This paper explains the narrowing of gender gaps in wages and market hours in recent decades by the growth of the service economy. We propose a model with three sectors: goods, services and home production. Women have a comparative advantage in the production of services in the market and at home. The growth of the services sector, in turn driven by structural transformation and marketization of home services, acts as a gender-biased demand shift and leads to a rise in women’s wages and market hours relative to men. Quantitatively, the model accounts for an important share of the observed rise in women’s relative wage and market hours and the fall in men’s market hours.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1204.pdf

Relational Knowledge Transfers

Luis Garicano Luis Rayo

CEPDP1203. April 2013.An expert must train a novice. The novice initially has no cash, so he can only pay the expert with the accumulated surplus from his production. At any time, the novice can leave the relationship with his acquired knowledge and produce on his own. The sole reason he does not is the prospect of learning in future periods. The profit-maximizing relationship is structured as an apprenticeship, in which all production generated during training is used to compensate the expert. Knowledge transfer takes a simple form. In the first period, the expert gifts the novice a positive level of knowledge, which is independent of the players’ discount rate. After that, the novice’s total value of knowledge grows at the players’ discount rate until all knowledge has been transferred. The inefficiencies that arise from this contract are caused by the expert’s artificially slowing down the rate of knowledge transfer rather than by her reducing the total amount of knowledge eventually transferred. We show that these inefficiencies are larger the more patient the players are. Finally, we study the impact of knowledge externalities across players.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1203.pdf

Smoking, Income and Subjective Well-Being: Evidence from Smoking Bans

Abel Brodeur

CEPDP1202. April 2013.This paper investigates the effects of local smoking bans on different outcomes using county and time variation over the last 20 years in the US. First, I find no evidence that local smoking bans in bars, restaurants and workplaces decrease the prevalence of smoking. The estimates are very small and not statistically significant. Well-being is also affected by these policies: public smoking bans make smokers who do not quit more satisfied with their life. I verify the robustness of this result throughout, and validate my findings with two distinct data sources. I discuss and test the mechanisms behind this seemingly paradoxical relationship. The evidence suggests that smokers adapt to bans since the impact on satisfaction is negative just before the implementation and positive afterward. Last, I found evidence that smokers do not favor the implementation of smoking bans. Yet, once they are exposed to a public smoking ban, they are less opposed to those policies. Together the evidence suggests that current smokers are time-inconsistent and benefit from smoking policies.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1202.pdf

The Surprisingly Dire Situation of Children's Education in Rural West Africa: Results from the CREO Study in Guinea-Bissau

CEPDP1201. April 2013.We conducted a survey covering 20% of villages with 200-1000 population in rural Guinea-Bissau. We interviewed household heads, care-givers of children, and their teachers and schools. We analysed results from 9,947 children, aged 7-17, tested for literacy and numeracy competency. Only 27% of children were able to add two single digits, and just 19% were able to read and comprehend a simple word. Our unannounced school checks found 72% of enrolled children in grades 1-4 attending their schools, but the schools were poorly equipped. Teachers were present at 86% of schools visited. Despite surveying 351 schools, we found no examples of successful schools where children reached reasonable levels of literacy and numeracy for age. Our evidence suggests that interventions that raise school quality in these villages, rather than those which target enrolment, may be most important to generate very sharp improvements in children’s educational outcomes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1201.pdf

Firm Heterogeneity and Aggregate Welfare

Marc J. Melitz Stephen J. Redding

CEPDP1200. April 2013.We examine how firm heterogeneity influences aggregate welfare through endogenous firm selection. We consider a homogeneous firm model that is a special case of a heterogeneous firm model with a degenerate productivity distribution. Keeping all structural parameters besides the productivity distribution the same, we show that the two models have different aggregate welfare implications, with larger welfare gains from reductions in trade costs in the heterogenous firm model. Calibrating parameters to key U.S. aggregate and firm statistics, we find these differences in aggregate welfare to be quantitatively important (up to a few percentage points of GDP). Under the assumption of a Pareto productivity distribution, the two models can be calibrated to the same observed trade share, trade elasticity with respect to variable trade costs, and hence welfare gains from trade (as shown by Arkolakis, Costinot and Rodriguez-Clare, 2012); but this requires assuming different elasticities of substitution between varieties and different fixed and variable trade costs across the two models.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1200.pdf

Outsourcing and the Rise in Services

Giuseppe Berlingieri

CEPDP1199. April 2013.This paper investigates the impact of outsourcing on sectoral reallocation in the U.S. over the period 1947-2007, and on the rise in services in particular. Roughly 40% of the growth of the service sector comes from professional and business services. This is an unusual industry as more than 90% of its output is an intermediate input to other firms, and it is where most of the service outsourcing activity is concentrated. These facts are essential to understanding the structure of the economy: professional and business services have experienced an almost fourfold increase in their forward linkage, the largest change in input-output linkages over the past 60 years. Using a simple gross output accounting framework, I calculate the contribution of the change in the composition of intermediates and their sourcing mode to the reallocation of employment across sectors. I find that the evolution of the input-output structure accounts for up to 33% of the increase in service employment, and professional and business services outsourcing alone contributes almost half of that amount.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1199.pdf

The Great Stagnation: What Can Policymakers Do?

Sushil B. Wadhwani

CEPDP1198. April 2013.Although the economic recovery in the UK has been disappointing, it is inappropriate to either assert that Japan’s two lost decades illustrate the ineffectiveness of stimulative monetary policy or that the UK is predestined to perform as badly as Japan. Recall that the UK has, so far, avoided the deflation that held back the Japanese economy. One could, instead, argue that Japan illustrates the pitfalls associated with insufficiently aggressive monetary policy. Hence, it is appropriate to consider how we might make monetary policy more effective in the UK.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1198.pdf

Fast-Tracking 'Green' Patent Applications: An Empirical Analysis

Antoine Dechezleprêtre

CEPDP1197. March 2013.This paper presents the first empirical analysis of programmes to fast-track ‘green’ patent applications in place in seven Intellectual Property offices around the world. We find that only a small share of green patent applications (between 1% and 20% depending on the patent office) request accelerated examination, suggesting that patent applicants have a strong incentive to keep their patent applications in the examination process for as long as possible. Fast-tracking programmes reduce the examination process by several years compared to patents going through normal examination procedure and have seemingly accelerated the diffusion of technological knowledge in green technologies. In addition, we find that applicants require accelerated examination for patents of relatively higher value and that fast-tracking programmes seem to be particularly appealing to start-up companies in the green technology sector that are currently raising capital but still generate small revenue.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1197.pdf

Where the Streets Have a Name: Income Comparisons in the US

Abel Brodeur Sarah Flèche

CEPDP1196. March 2013.This paper analyses how neighbors' income affect agents' well-being using unprecedented data from the BRFSS and the City of Somerville. We conduct a multi-scale approach at the county, ZIP code and street-levels and find that the association between well-being and neighbors' income follows an inverted U-shaped pattern in the size of the area. We find a negative relationship between well-being and neighbors' income in the county of residence, but the opposite at the ZIP code-level. Our results are consistent with the fact that agents enjoy living in a rich ZIP code but also having poor faraway neighbors since they have preferences for high social status. We test explicitly this interpretation by including amenities and the relative rank in the local income distribution in our model. At the street-level, we find a negative association between neighbors' income and self-reported well-being indicating the presence of income comparisons between very close neighbors.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1196.pdf

Really Uncertain Business Cycles

Nicholas Bloom Max Floetotto Nir Jaimovich Itay Saporta-Eksten Stephen Terry

CEPDP1195. March 2013.We propose uncertainty shocks as a new shock that drives business cycles. First, we demonstrate that microeconomic uncertainty is robustly countercyclical, rising sharply during recessions, particularly during the Great Recession of 2007-2009. Second, we quantify the impact of time-varying uncertainty on the economy in a dynamic stochastic general equilibrium model with heterogeneous firms. We find that reasonably calibrated uncertainty shocks can explain drops and rebounds in GDP of around 3%. Moreover, we show that increased uncertainty alters the relative impact of government policies, making them initially less effective and then subsequently more effective.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1195.pdf

Does Working from Home Work? Evidence from a Chinese Experiment

Nicholas Bloom James Liang John Roberts Zhichun Jenny Ying

CEPDP1194. March 2013.About 10% of US employees now regularly work from home (WFH), but there are concerns this can lead to “shirking from home.” We report the results of a WFH experiment at CTrip, a 16,000-employee, NASDAQ-listed Chinese travel agency. Call center employees who volunteered to WFH were randomly assigned to work from home or in the office for 9 months. Home working led to a 13% performance increase, of which about 9% was from working more minutes per shift (fewer breaks and sick-days) and 4% from more calls per minute (attributed to a quieter working environment). Home workers also reported improved work satisfaction and experienced less turnover, but their promotion rate conditional on performance fell. Due to the success of the experiment, CTrip rolled-out the option to WFH to the whole firm and allowed the experimental employees to re-select between the home or office. Interestingly, over half of them switched, which led to the gains from WFH almost doubling to 22%. This highlights the benefits of learning and selection effects when adopting modern management practices like WFH.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1194.pdf

What are the Channels for Technology Sourcing? Panel Data Evidence from German Companies

Dietmar Harhoff Elisabeth Mueller John Van Reenen

CEPDP1193. March 2013.Innovation processes within corporations increasingly tap into international technology sources, yet little is known about the relative contribution of different types of innovation channels. We investigate the effectiveness of different types of international technology sourcing activities using survey information on German companies complemented with information from the European Patent Office. German firms with inventors based in the US disproportionately benefit from R&D knowledge located in the US. The positive influence on total factor productivity is larger if the research of the inventors results in co-applications of patents with US companies. Moreover, research cooperation with American suppliers also enables German firms to better tap into US R&D, but cooperation with customers and competitors does not appear to aid technology sourcing. The results suggest that the “brain drain” to the US can have upsides for corporations tapping into American know-how.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1193.pdf

CEO Incentive Contracts in China: Why Does City Location Matter?

Alex Bryson John Forth Minghai Zhou

CEPDP1192. February 2013.CEO incentive contracts are commonplace in China but their incidence varies significantly across Chinese cities. We show that city and provincial policy experiments help explain this variance. We examine the role of two policy experiments: the use of Special Economic Zones (SEZs) to attract foreign direct investment (FDI), and the rate at which state owned enterprises (SOEs) were privatised. CEO incentive contracts are negatively correlated with foreign ownership and with the introduction of FDI via SEZs. However, the SEZ effect disappears having accounted for the city-level composition of firms and executives. Rapid SOE privatisation is associated with higher city and firm-level adoption of CEO incentive contracts, irrespective of the firm's own current ownership status. The positive effect of privatisation is robust to various estimation techniques and model specifications.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1192.pdf

When the Cat is Near, the Mice Won't Play: The Effect of External Examiners in Italian Schools

Marco Bertoni Giorgio Brunello Lorenzo Rocco

CEPDP1191. February 2013.We use a natural experiment to show that the presence of an external examiner has both a direct and an indirect negative effect on the performance of monitored classes in standardized educational tests. The direct effect is the difference in the test performance between classes of the same school with and without external examiners. The indirect effect is the difference in performance between un-monitored classes in schools with an external examiner and un-monitored classes in schools without external monitoring. We find that the overall effect of having an external examiner in the class is to reduce the proportion of correct answers by 5.5 to 8.5% - depending on the grade and the test - with respect to classes in schools with no external monitor. The direct and indirect effects range between 4.3 and 6.6% and between 1.2 and 1.9% respectively. Using additional supporting evidence, we argue that the negative impact of the presence of an external examiner on measured test scores is due to reduced cheating (by students and/or teachers) rather than to the negative effects of anxiety or distraction from having a stranger in the class.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1191.pdf

Moving Up and Sliding Down: An Empirical Assessment of the Effect of Social Mobility on Subjective Wellbeing

Paul Dolan Grace Lordan

CEPDP1190. February 2013.Many people remain in the same income group as their parents and this is a cause of much discussion and some concern. In this work, we examine how intergenerational mobility affects subjective wellbeing (SWB) using the British Cohort Study. Our SWB measures encapsulate life satisfaction and mental health. We find that relative income mobility is a significant predictor of life satisfaction and mental health whether people move upward or downward. For absolute income, mobility is only a predictor of SWB and mental health outcomes if the person moves downward. We also explore pathways through which income mobility can impact on these outcomes. In particular, we present evidence that suggests much of the effect of income mobility on SWB is due to changes in the perception of financial security. But those who slide down are still less satisfied with their lives over and above any effect of financial insecurity. Overall, there is an asymmetric effect of income mobility: the losses of sliding on down are larger than the gains of moving up.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1190.pdf

A Trapped Factors Model of Innovation

Nicholas Bloom Paul Romer Stephen Terry John Van Reenen

CEPDP1189. February 2013.When will reducing trade barriers against a low wage country cause innovation to increase in high wage regions like the US or EU? We develop a model where factors of production have costs of adjustment and so are partially “trapped” in producing old goods. Trade liberalization with a low wage country reduces the profitability of old goods and so the opportunity cost of innovating falls. Interestingly, the “China shock” is more likely to induce innovation than liberalization with high wage countries. These implications are consistent with a range of recent empirical evidence on the impact of China and offers a new mechanism for positive welfare effects of trade liberalization over and above the standard benefits of specialization and market expansion. Calibrations of our model to the recent experience of the US with China suggests that there will be faster long-run growth through innovation in the US and that, in the short run, this is magnified by the trapped factor effect.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1189.pdf

Survive Another Day: Does Uncertain Financing Affect the Composition of Investment?

Luis Garicano Claudia Steinwender

CEPDP1188. February 2013.We expect firms that face financial constraints to prioritize shorter term investments over longer term ones. Using a high quality panel data set, and a difference-in-differences approach to control for demand effects, we study whether this has been indeed the case after the sharp deterioration of the financial conditions for firms in the European periphery. Specifically, we compare Spanish manufacturing firms which are foreign owned (and thus have alternative financing channels) to those which are Spanish owned (and thus financially constrained) along a large number of dimensions before and after the financial crisis. We show that, allowing for firm fixed effects to control for unobserved heterogeneity and for industry specific time effects, firms which are capital constrained reduce employment substantially more (by 6%); reduce investment drastically (by 19%); and reduce very substantially process innovation and information technology investment; but they increase their information technology outsourcing and do not significantly reduce advertising. This suggests lack of access to financing is indeed forcing Spanish owned firms to cut future oriented investments in order to survive for another day. Our findings are robust to a number of alternative approaches to control for unobserved, time varying heterogeneity, e.g. inverse propensity score reweighting, or comparing only within multinationals.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1188.pdf

Are You Happy While You Work?

Alex Bryson George MacKerron

CEPDP1187. February 2013.Recent work in psychology and economics has investigated ways in which individuals experience their lives. This literature includes influences on individuals’ momentary happiness. We contribute to this literature using a new data source, Mappiness (www.mappiness.org.uk), which permits individuals to record their wellbeing via a smartphone. The data contain more than a million observations on tens of thousands of individuals in the UK, collected since August 2010. We explore the links between individuals’ wellbeing measured momentarily at random points in time and their experiences of paid work. We explore variation in wellbeing within-individual over time having accounted for fixed unobservable differences across people. We quantify the effects of working on individuals’ affect relative to other activities they perform. We consider the effects of working on two aspects of affect: happiness and relaxation. We find paid work is ranked lower than any of the other 39 activities individuals engage in, with the exception of being sick in bed. Although controlling for other factors, including person fixed effects, reduces the size of the association its rank position remains the same and the effect is still equivalent to a 7-8% reduction in happiness relative to circumstances in which one is not working. Paid work has a similar though slightly larger negative impact on being relaxed. However, precisely how unhappy or anxious one is while working depends on the circumstances. Wellbeing at work varies significantly with where you work (at home, at work, elsewhere); whether you are combining work with other activities; whether you are alone or with others; and the time of day or night you are working.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1187.pdf

Task Specialization in U.S. Cities from 1880-2000

Guy Michaels Ferdinand Rauch Stephen J. Redding

CEPDP1186. February 2013.We develop a new methodology for quantifying the tasks undertaken within occupations using 3,000 verbs from around 12,000 occupational descriptions in the Dictionary of Occupational Titles (DOTs). Using micro-data from the United States from 1880-2000, we find an increase in the employment share of interactive occupations within sectors over time that is larger in metro areas than non-metro areas. We provide evidence that this increase in the interactiveness of employment is related to the dissemination of improvements in transport and communication technologies. Our findings highlight a change in the nature of agglomeration over time towards an increased emphasis on human interaction.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1186.pdf

Long and Short-Term Effects of the Financial Crisis on Labour Productivity, Capital and Output

Nicholas Oulton María Sebastiá-Barriel

CEPDP1185. January 2013.The behaviour of labour productivity in the United Kingdom since the onset of the recession in early 2008 constitutes a puzzle. Over four years after the recession began labour productivity is still below its previous peak level. This paper considers the hypothesis that economic capacity can be permanently damaged by financial crises. A model which allows a financial crisis to have both a short-run effect on the growth rate of labour productivity and a long-run effect on its level is estimated on a panel of 61 countries over 1955-2010. The main finding is that a banking crisis as defined by Reinhart and Rogoff on average reduces the short-run growth rate of labour productivity by between 0.6% and 0.7% per year and the long-run level by between 0.84% and 1.1% (depending on the method of estimation), for each year that the crisis lasts. A banking crisis also reduces the long-run level of capital per worker by an average of about 1%. The effect on GDP per capita is about double the effect on GDP per worker since there is a long-run, negative effect on the employment ratio.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1185.pdf

Free Trade Aggreements and the Consolidation of Democracy

Xuepeng Liu Emanuel Ornelas

CEPDP1184. January 2013.We study the relationship between participation in free trade agreements (FTAs) and the sustainability of democracy. Our model shows that FTAs can critically reduce the incentive of authoritarian groups to seek power by destroying protectionist rents, thus making democracies last longer. This gives governments in unstable democracies an extra motive to form FTAs. Hence, greater democratic instability induces governments to boost their FTA commitments. In a dataset with 116 countries over 1960-2007, we find robust support for these predictions. They help to rationalize the rapid simultaneous growth of regionalism and of worldwide democratization since the late 1980s.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1184.pdf

Heterogeneous Firms and Trade

Marc J. Melitz Stephen J. Redding

CEPDP1183. December 2012.This paper reviews the new approach to international trade based on firm heterogeneity in differentiated product markets. This approach explains a variety of features exhibited in disaggregated trade data, including the higher productivity of exporters relative to non-exporters, within-industry reallocations of resources following trade liberalization, and patterns of trade participation across firms and destination markets. Accounting for these empirical patterns reveals new mechanisms through which the aggregate economy is affected by trade liberalization, including endogenous increases in average industry and firm productivity.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1183.pdf

China's Pure Exporter Subsidies

Fabrice Defever Alejandro Riaño

CEPDP1182. December 2012.One third of Chinese exporters sell more than ninety percent of their production abroad. We argue that this distinctive pattern is attributable to a wide range of subsidies that provide incentives to these “pure exporters”. We propose a heterogeneous firm model in which firms exporting all their output receive an ad-valorem sales subsidy. Using microdata on manufacturing firms matched with custom transactions for the years 2000-2006, we measure sizable differences in productivity and paid taxes between pure exporters and domestic firms and between pure and regular exporters, in line with the predictions of our model. Embedding a pure-exporter subsidy in a two-country general equilibrium environment, we show that this instrument is worse from a welfare standpoint than a standard export subsidy, partly because it increases protection of the domestic market. A counterfactual analysis suggests that eliminating these subsidies would result in a welfare gain for China comparable to halving its trade costs.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1182.pdf

Productivity As If Space Mattered: An Application to Factor Markets Across China

Wenya Cheng John Morrow Kitjawat Tacharoen

CEPDP1181. December 2012.Optimal production decisions depend on local market characteristics. This paper develops a model to explain firm labor demand and firm density across regions. Firms vary in their technology to combine imperfectly substitutable worker types, and locate across regions with distinct distributions of workers and wages. Firm technologies which best match regional labor markets explain both productivity differences and firm density. Estimating structural model parameters is simple and relies on a two stage OLS procedure. The first stage estimates local market conditions using firm employment and regional data, while the second incorporates regional costs into production function estimation. The method is applied to Chinese manufacturing, population census and geographic data to estimate local market costs and production technologies. In line with the model, we find that labor markets which provide cost advantages explain substantial differences in firm productivity. Furthermore, regions which have lower optimal hiring costs attract more firms per capita.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1181.pdf

Pride and Prejudice: Using Ethnic-Sounding Names and Inter-Ethnic Marriages to Identify Labor Market Discrimination

Dror Brenner Yona Rubinstein

CEPDP1180. December 2012.We use non-random sorting into interethnic marriage and salient differences between Sephardic and Ashkenazi surnames to evaluate the causal impact of Sephardic affiliation on wages. Using the 1995 Israeli Census, we estimate the effect of a Sephardic affiliation on wages. We first compare the wages of Israeli Jewish males born to Sephardic fathers and Ashkenazi mothers (SA), who are more likely to carry a Sephardic surname, with the wages of Israeli Jewish males born to Ashkenazi fathers and Sephardic mothers (AS). We find that SA workers earn significantly less than their AS counterparts. We then exploit the custom of women to adopt their husbands. surnames to disentangle actual ethnicity from the ethnicity perceived by the market. Consistent with our interpretation of the results for males, we find that it is father-in-law’s ethnicity - rather than father’s ethnicity - that shapes female wage rates, yet only for daughters of interethnic couples and others with mild skin tone who have equal chances to be perceived either as an Ashkenazi or as a Sephardic group member.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1180.pdf

Free to Choose? Reform and Demand Response in the English National Health Service

Martin Gaynor Carol Propper Stephan Seiler

CEPDP1179. November 2012.The impacts of choice in public services are controversial. We exploit a reform in the English National Health Service to assess the impact of relaxing constraints on patient choice. We estimate a demand model to evaluate whether increased choice increased demand elasticity faced by hospitals with regard to clinical quality and waiting time for an important surgical procedure. We find substantial impacts of the removal of restrictions. Patients became more responsive to clinical quality. Sicker patients and better informed patients were more affected. We leverage our model to calculate potential benefits. We find increased demand responsiveness led to a significant reduction in mortality and an increase in patient welfare. The elasticity of demand faced by hospitals increased post-reform, giving hospitals potentially large incentives to improve their quality of care and find suggestive evidence that hospitals responded strongly to the enhanced incentives due to increased demand elasticity. The results suggests greater choice can enhance quality.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1179.pdf

Carbon Taxes, Path Dependency and Directed Technical Change: Evidence from the Auto Industry

CEPDP1178. November 2012.Can directed technical change be used to combat climate change? We construct new firm-level panel data on auto industry innovation distinguishing between “dirty” (internal combustion engine) and “clean” (e.g. electric and hybrid) patents across 80 countries over several decades. We show that firms tend to innovate relatively more in clean technologies when they face higher tax-inclusive fuel prices. Furthermore, there is path dependence in the type of innovation both from aggregate spillovers and from the firm's own innovation history. Using our model we simulate the increases in carbon taxes needed to allow clean to overtake dirty technologies.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1178.pdf

Minimum Wages and Wage Inequality: Some Theory and an Application to the UK

Tim Butcher Richard Dickens Alan Manning

CEPDP1177. November 2012.Research suggests that, at the levels set in countries like the US and the UK, minimum wages have little effect on employment but do have impacts on wage inequality. However we lack models that can explain these facts – this paper presents one based on imperfect labour markets. The paper also investigates the impact of the UK’s National Minimum Wage on wage inequality finding it can explain a sizeable part of the evolution of wage inequality in the bottom half of the distribution in the period 1998-2010. We also present evidence that the impact of the NMW reaches up to 40% above the NMW in 2010 which corresponds to the 25th percentile. These spillovers are larger in low-wage segments.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1177.pdf

Estimating the Influence of Life Satisfaction and Positive Affect on Later Income Using Sibling Fixed-Effects

Jan-Emmanuel De Neve Andrew J. Oswald

CEPDP1176. November 2012.The question of whether there is a connection between income and psychological well-being is a long-studied issue across the social, psychological, and behavioral sciences. Much research has found that richer people tend to be happier. However, relatively little attention has been paid to whether happier individuals perform better financially in the first place. This possibility of reverse causality is arguably understudied. Using data from a large US representative panel we show that adolescents and young adults who report higher life satisfaction or positive affect grow up to earn significantly higher levels of income later in life. We focus on earnings approximately one decade after the person’s well-being is measured; we exploit the availability of sibling clusters to introduce family fixed-effects; we account for the human capacity to imagine later socio-economic outcomes and to anticipate the resulting feelings in current wellbeing. The study’s results are robust to the inclusion of controls such as education, IQ, physical health, height, self-esteem, and later happiness. We consider how psychological well-being may influence income. Sobel-Goodman mediation tests reveal direct and indirect effects that carry the influence from happiness to income. Significant mediating pathways include a higher probability of obtaining a college degree, getting hired and promoted, having higher degrees of optimism and extraversion, and less neuroticism.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1176.pdf

The Enduring Impact of Childhood Experience on Mental Health: Evidence Using Instrumented Co-Twin Data

Rachel Berner Shalem Francesca Cornaglia Jan-Emmanuel De Neve

CEPDP1175. November 2012.The question of whether there is a lasting effect of childhood experience on mental health has eluded causal measurement. We draw upon identical twin data and econometric instrumentation to provide an unbiased answer. We find that 55% of a one standard deviation change in mental health due to idiosyncratic experience at age 9 will still be present three years later. Extending the analysis, we find such persistence to vary with age at impact, gender, and mental health sub-categories. This investigation allows us to get a grasp on the degree to which childhood events influence health and socio-economic outcomes by way of their lagged effect on subsequent mental health. A better understanding of the evolution of mental health also helps identifying when mental health issues can be most effectively treated.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1175.pdf

Selection Effects with Heterogeneous Firms

Monika Mrázová J. Peter Neary

CEPDP1174. October 2012.We provide a general characterization of which firms will select alternative ways of serving a market. If and only if firms' maximum profits are supermodular in production and marketaccess costs, more efficient firms will select into the activity with lower market-access costs. Our result applies in a range of models and under a variety of assumptions about market structure. We show that supermodularity holds in many cases but not in all. Exceptions include FDI (both horizontal and vertical) when demands are “sub-convex” (i.e., less convex than CES), fixed costs that vary with access mode, and R&D with threshold effects.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1174.pdf

Resilience to Economic Shocks and the Long Reach of Childhood Bullying

Nattavudh Powdthavee

CEPDP1173. October 2012.This paper investigates whether people’s ability to withstand and adapt to one of the most important economic shocks – job loss – is determined early on in childhood. Using nationally representative longitudinal data that tracks almost 3,000 children into adulthood, we show that the negative effect of unemployment on mental health and life satisfaction is almost four times larger for workers who had been bullied a lot in their early life. We also find zero adaptation to unemployment for these individuals over time. Although the results should be viewed as illustrative and more research is needed, their potential implications for economists and policy makers are discussed.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1173.pdf

Optimal Policy for Macro-Financial Stability

Gianluca Benigno Huigang Chen Chris Otrok Alessandro Rebucci Eric Young

CEPDP1172. October 2012.In this paper we study whether policy makers should wait to intervene until a financial crisis strikes or rather act in a preemptive manner. We study this question in a relatively simple dynamic stochastic general equilibrium model in which crises are endogenous events induced by the presence of an occasionally binding borrowing constraint as in Mendoza (2010). First, we show that the same set of taxes that replicates the constrained social planner allocation could be used optimally by a Ramsey planner to achieve the first best unconstrained equilibrium: in both cases without any precautionary intervention. Second, we show that the extent to which policymakers should intervene in a preemptive manner depends critically on the set of policy tools available and what these instruments can achieve when a crisis strikes. For example, in the context of our model, we find that, if the policy tools is constrained so that the first best cannot be achieved and the policy make r has access to only one tax instrument, it is always desirable to intervene before the crisis regardless of the instrument used. If however the policy maker has access to two instruments, it is optimal to act only during crisis times. Third and finally, we propose a computational algorithm to solve Markov-Perfect optimal policy for problems in which the policy function is not differentiable.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1172.pdf

The Careers of Immigrants

Ana Damas de Matos

CEPDP1171. October 2012.I use a unique linked employer employee panel covering all wage earners in the private sector in Portugal to shed new light on the careers of immigrants. During the first ten years in the country immigrants close one third of the initial immigrant-native wage gap. I show that one third of this wage catch-up is accounted for by firm heterogeneity: Immigrants remain in the same occupations but get jobs with better paying _rms. Over time immigrants move to larger, more productive firms and with a higher share of native workers. These patterns are similar for all the recent immigrants irrespective of their origin and in particular of whether their mother tongue is the host country's language. Motivated by these new stylized facts, I suggest an economic assimilation mechanism which highlights imperfect information about immigrant productivity. I build an employer learning model with firm heterogeneity and complementarities between worker and firm type. The initial uncertainty over immigrants' productivity prevents them from getting access to the best jobs. Over time, productivity is revealed and immigrants obtain better firm matches. I derive predictions on the immigrant wage distributions over time, on their mobility patterns and on the productivity distribution of firms they are matched with. The predictions of the model are in line with the data and are not trivially derived from competing explanations.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1171.pdf

Policy Design in a Model with Swings in Risk Appetite

Bianca De Paoli Pawel Zabczyk

CEPDP1170. October 2012.This paper studies the policy implications of habits and cyclical changes in agents' appetite for risk-taking. To do so, it analyses the non-linear solution of a New Keynesian (NK) model, in which slow-moving habits help match the cyclical properties of risk-premia. Our findings suggest that the presence of habits and swings in risk appetite can materially affect policy prescriptions. As in Ljungqvist and Uhlig (2000), a counter-cyclical fiscal instrument can eliminate habit-related externalities. Alternatively, monetary policy can partially curb the associated overconsumption by responding to risk premia. Specifically, periods in which risk premia are elevated (compressed) merit a looser (tighter) policy stance. However, the associated welfare gains appear quantitatively small.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1170.pdf

Exporters, Importers and Credit Constraints

Mirabelle Muûls

CEPDP1169. October 2012.This paper analyses the interaction between credit constraints and trading behaviour. I construct a unique dataset containing firm-level trade transactions data, balance sheets and credit scores from an independent credit insurance company for Belgian manufacturing firms between 1999 and 2007. Firms are more likely to be exporting or importing if they enjoy lower credit constraints. Also, firms that have better credit rating export and import more, and more products to and from more countries. Whilst importing and exporting behavior are very similar in a static view, an analysis of how various margins of trade are related to credit constraints show a significant difference between the two. In the case of exports, it is the extensive margin of exports in terms of destinations that is significantly associated with credit constraints whereas for imports it is the extensive margin in terms of products.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1169.pdf

Brain Drain or Brain Gain? Technology Diffusion and Learning On-the-job

Thomas Sampson

CEPDP1168. September 2012.This paper develops a theory of technology transfer when technology is embodied in human capital and learning requires on-the-job communication between managers and workers. Patterns of knowledge diffusion depend on where high knowledge managers work and how much time they allocate to training workers. Managers appropriate the surplus training creates and in the open economy managers face a cross-country trade-off between labor costs and the value of knowledge transfer. Complementarity between country-wide efficiency and managerial knowledge makes learning more valuable in the North meaning that high knowledge managers choose to work in the North and globalization precipitates a brain drain of high knowledge Southern agents to the North. The brain drain reduces learning opportunities in the South and exacerbates cross-country knowledge differences.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1168.pdf

Taxes, Cigarette Consumption, and Smoking Intensity: Reply

Jérôme Adda Francesca Cornaglia

CEPDP1167. September 2012.This paper shows that smoking intensity, i.e. the amount of nicotine extracted per cigarette smoked, responds to changes in excise taxes and tobacco prices. We exploit data covering the period 1988 to 2006 across many US states. Moreover, we provide new evidence on the importance of cotinine measures in explaining long-run smoking behaviour and we investigate the sensitivity of smoking cessation to changes in excise taxes and their interaction with smoking intensity.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1167.pdf

Musn't Grumble. Immigration, Health and Health Service Use in the UK and Germany

Jonathan Wadsworth

CEPDP1166. September 2012.A rise in population caused by increased immigration, is sometimes accompanied by concerns that the increase in population puts additional or differential pressure on welfare services which might affect the net fiscal contribution of immigrants. The UK and Germany have experienced significant increases in immigration in recent years and this study uses longitudinal data from both countries to examine whether immigrants differ in their use of health services than native born individuals on arrival and over time. While immigrants to Germany, but not the UK, are more likely to self-report poor health than the native-born population, the samples of immigrants use hospital and GP services at broadly the same rate as the native born populations in both countries. Controls for observed and unobserved differences between immigrants and native-born sample populations make little difference to these broad findings.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1166.pdf

The Transferable Scars: A Longitudinal Evidence of Psychological Impact of Past Parental Unemployment on Adolescents in the United Kingdom

Nattavudh Powdthavee James Vernoit

CEPDP1165. September 2012.Using a longitudinal data of British youths, this paper explores the consequences of past parental unemployment on the current happiness and self-esteem of the children. We find that a past unemployment spell of the father has important consequences for their children and leads to them having both lower subjective well-being and self-confidence. In addition, this paper also presents evidence that both subjective well-being and self-confidence responds differently to maternal unemployment compared to paternal unemployment. In our final table, we show changes in adolescents’ well-being and self-esteem predicts educational attainments at 16. Together these findings offer new evidence of unemployment scarring on children’s livelihood.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1165.pdf

On the Measurement of Trade Costs: Direct vs. Indirect Approaches to Quantifying Standards and Technical Regulations

Natalie Chen Dennis Novy

CEPDP1164. September 2012.In this article, we review the literature on the measurement of trade costs in international trade with a special emphasis on nontariff measures and in particular on standards and technical regulations. We distinguish ‘direct’ from ‘indirect’ approaches. The direct approach collects observable data or proxy variables on trade cost components which are then typically used as regressors in a gravity equation of trade. Instead, the indirect approach infers the extent of trade impediments from trade flows. It compares actual trade flows to the trade flows predicted by a hypothetical frictionless benchmark scenario based on a micro-founded trade model, attributing the deviation of actual from predicted trade flows to trade frictions. We argue that economists and policymakers can gain useful insights from both approaches.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1164.pdf

A Cautionary Note on Using Industry Affiliation to Predict Income

Jörn-Steffen Pischke Hannes Schwandt

CEPDP1163. September 2012.Many literatures investigate the causal impact of income on economic outcomes, for example in the context of intergenerational transmission or well-being and health. Some studies have proposed to use employer wage differentials and in particular industry affiliation as an instrument for income. We demonstrate that industry affiliation is correlated with fixed individual characteristics, specifically parents’ education and own height, conditional on the covariates typically controlled for in these studies. These results suggest that there is selection into industries based on unobservables. As a result the exclusion restriction in many IV studies of this type is likely violated.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1163.pdf

Is the International Border Effect Larger than the Domestic Border Effect? Evidence from U.S. Trade

Cletus C. Coughlin Dennis Novy

CEPDP1162. September 2012.Many studies have found that international borders represent large barriers to trade. But how do international borders compare to domestic border barriers? We investigate international and domestic border barriers in a unified framework. We consider a data set of exports from individual U.S. states to foreign countries and combine it with trade flows between and within U.S. states. After controlling for distance and country size, we estimate that relative to state-to-state trade, crossing an individual U.S. state’s domestic border appears to entail a larger trade barrier than crossing the international U.S. border. Due to the absence of governmental impediments to trade within the United States, this result is surprising. We interpret it as highlighting the concentration of economic activity and trade flows at the local level.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1162.pdf

Reserve Accumulation, Growth and Financial Crises

Gianluca Benigno Luca Fornaro

CEPDP1161. August 2012.We present a model that reproduces two salient facts characterizing the international monetary system: i) Faster growing countries are associated with lower net capital inflows and ii) Countries that grow faster accumulate more international reserves and receive more net private inflows. We study a two-sector, tradable and non-tradable, small open economy. There is a growth externality in the tradable sector and agents have imperfect access to international financial markets. By accumulating foreign reserves, the government induces a real exchange rate depreciation and a reallocation of production towards the tradable sector that boosts growth. Financial frictions generate imperfect substitutability between private and public debt flows so that private agents do not perfectly offset the government policy. The possibility of using reserves to provide liquidity during crises amplifies the positive impact of reserve accumulation on growth. We use the model to compare the laissez-faire equilibrium and the optimal reserve policy in an economy that is opening to international capital flows. We find that the optimal reserve management entails a fast rate of reserve accumulation, as well as higher growth and larger current account surpluses compared to the economy with no policy intervention. We also find that the welfare gains of reserve policy are large, in the order of 1 percent of permanent consumption equivalent.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1161.pdf

Capital Controls or Exchange Rate Policy? A Pecuniary Externality Perspective

Gianluca Benigno Huigang Chen Christopher Otrok Alessandro Rebucci Eric R. Young

CEPDP1160. August 2012.In the aftermath of the global financial crisis, a new policy paradigm has emerged in which old-fashioned policies such as capital controls and other government distortions have become part of the standard policy toolkit (the so-called macro-prudential policies). On the wave of this seemingly unanimous policy consensus, a new strand of theoretical literature contends that capital controls are welfare enhancing and can be justified rigorously because of second-best considerations. Within the same theoretical framework adopted in this fast-growing literature, we show that a credible commitment to support the exchange rate in crisis times always welfare-dominates prudential capital controls as it can achieve the first best unconstrained allocation. In this benchmark economy, prudential capital controls are optimal only when the set of policy tools is restricted so that they are the only policy instrument available.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1160.pdf

Happy Talk: Mode of Administration Effects on Subjective Well-Being

Paul Dolan Georgios Kavetsos

CEPDP1159. July 2012.Research on the measurement of subjective well-being (SWB) has escalated in recent years. This study contributes to the literature by examining how SWB reports differ by mode of survey administration. Using data from the 2011 Annual Population Survey in the UK, we find that individuals consistently report higher SWB over the phone compared to face-to-face interviews. We also show that the determinants of SWB differ significantly by survey mode. We must therefore account for mode of administration effects in research into SWB and its determinants.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1159.pdf

Steady-State Equilibrium in a Model of Short-Term Wage-Posting

Alan Manning

CEPDP1158. July 2012.This paper takes the canonical Burdett-Mortensen model of wage- posting and relaxes the assumption that wages are set once-for-all, instead assuming they can only be committed one period at a time. It derives a closed-form solution for a steady-state Markov Rank-Preserving Equilibrium and shows how this relates to the canonical model and performs some comparative statics on it. By means of example it is shown that a Rank-Preserving Equilibrium may fail to exist and that this non-existence can be a problem for plausible parameter values. The paper discusses how the model can be modified to ensure existence of a Rank-Preserving equilibrium. It is also shown, by means of example, how the opposite, a Rank-Inverting Equilibrium may exist.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1158.pdf

Not all Incentives Wash out the Warm Glow: The Case of Blood Donation Revisited

Joan Costa Font Mireia Jofre-Bonet Steven T. Yen

CEPDP1157. July 2012.The issue of the nature of the altruism inherent in blood donation and the perverse effects of financial rewards for blood and/or organ donation has been recently revisited in the economic literature with limited consensus. As Titmuss (1970) famously pointed out, providing monetary incentives to blood donors may crowd out blood supply as purely altruistic donors may feel less inclined to donate if a reward is involved – in addition to having the effect of reducing blood quality. In this paper we examine how favouring different types of incentives are related to the likelihood of donating blood by exploiting a large sample representative of the population of fifteen European countries in 2002 containing information on both donation and attitudes towards incentives. Our results show those who have donated are less likely to favour monetary rewards for blood donation but are more likely to favour non-monetary ones. This is consistent with the idea that while monetary rewards may crowd out blood donation, non-monetary rewards do not.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1157.pdf

Female Employment and Fertility - The Effects of Rising Female Wages

Christian Siegel

CEPDP1156. July 2012.Increases in female employment and falling fertility rates have often been linked to rising female wages. However, over the last 30 years the US total fertility rate has been fairly stable while female wages have continued to grow. Over the same period, we observe that women's hours spent on housework have declined, but men's have increased. I propose a model with a shrinking gender wage gap that can capture these trends. While rising relative wages tend to increase women's labor supply and, due to higher opportunity cost, lower fertility, they also lead to a partial reallocation of home production from women to men, and a higher use of labor-saving inputs into home production. I find that both these trends are important in understanding why fertility did not decline to even lower levels. As the gender wage gap declines, a father's time at home becomes more important for raising children. When the disutilities from working in the market and at home are imperfect substitutes, fertility can stabilize, after an initial decline, in times of increasing female market labor. That parents can acquire more market inputs into child care is what I find important in matching the timing of fertility. In a mode l extension, I show that the results are robust to intrahousehold bargaining.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1156.pdf

The German Transfer Problem, 1920-1933: A Sovereign Debt Perspective

Albrecht Ritschl

CEPDP1155. July 2012.The severity of the Great Depression in Germany has sometimes been blamed on reparations in simplistic fashion. Alternative interpretations relied on American capital exports, the demise of the Gold Standard, or on malfunctions of the domestic economy, such as excessive wage increases during the 1920s. This paper argues for a more subtle link between Germany's slump and these policies. I explain Germany’s foreign borrowing rush before 1929 from transfer protection under the Dawes Plan, which gave commercial credits seniority over reparations. I argue that the Young Plan of 1929 implied a reversal of this seniority scheme, causing a sudden stop and reversal in the German balance of payments that lasted throughout the Great Depression. Invoking basic results of sovereign debt theory, the paper identifies a sequence of reparation regimes with varying degrees of relaxation of Germany's participation constraint in international credit markets. Transfer protection under the Dawes Plan created an incentive for Germany (and her commercial creditors) to drive out reparations. I conclude that the Young Plan could only have worked in the absence of an international recession, and that attempts to salvage it in 1931 were necessarily futile.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1155.pdf

The Economics of Density: Evidence from the Berlin Wall

Gabriel M. Ahlfeldt Stephen J. Redding Daniel M. Sturm Nikolaus Wolf

CEPDP1154. June 2012.This paper develops a quantitative model of city structure to separate agglomeration forces, dispersion forces and fundamentals as determinants of location choices. The model remains tractable and amenable to empirical analysis because of stochastic shocks to worker productivity, which yield a gravity equation for commuting flows. To empirically disentangle alternative determinants of location choices, we use Berlin’s division and reunification as a source of exogenous variation in the surrounding concentration of economic activity. Using disaggregated data on land prices, workplace employment and residence employment for thousands of city blocks for 1936, 1986 and 2006, we find that the model can account both qualitatively and quantitatively for the observed changes in city structure.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1154.pdf

Why Do People Pay for Useless Advice?

Nattavudh Powdthavee Yohanes E. Riyanto

CEPDP1153. June 2012.We investigated experimentally whether people can be induced to believe in a non-existent expert, and subsequently pay for what can only be described as transparently useless advice about future chance events. Consistent with the theoretical predictions made by Rabin (2002) and Rabin and Vayanos (2010), we show empirically that the answer is yes and that the size of the error made systematically by people is large.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1153.pdf

Selection into Trade and Wage Inequality

Thomas Sampson

CEPDP1152. June 2012.This paper analyzes the impact of trade integration on wage inequality when there is heterogeneity across both workers and firms. By incorporating labor assignment into the heterogeneous firms literature I develop a model in which positive assortative matching between worker skill and firm technology explains the employer size-wage premium and the exporter wage premium. Under trade, fixed export costs cause the selection of high productivity, high skill firms into exporting and an upwards shift in the firm technology distribution. Consequently, the demand for skill and wage inequality increase in all countries, both on aggregate and within the export sector. This result holds both when firms’ technologies are determined by a random draw and when technology is endogenous to firm level R&D. With endogenous technology, the increased demand for skill caused by trade liberalization results from technology upgrading by new exporters.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1152.pdf

Human Capital, Matching and Job Satisfaction

Tim Barmby Alex Bryson Barbara Eberth

CEPDP1151. June 2012.Using a model of wage determination developed by Stevens (2003) we offer an explanation of why tenure has a negative effect when entered in job satisfaction equations. If job satisfaction measures match quality, then the explanation follows from a model of the labour market in which workers accumulate specific human capital at the firm they work and the way in which this accumulation affects the way workers react to outside job opportunities.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1151.pdf

Industry Compensation Under Relocation Risk: A Firm-Level Analysis of the EU Emissions Trading Scheme

Ralf Martin Mirabelle Muûls Ulrich J. Wagner Laure B. de Preux

CEPDP1150. June 2012.When industry compensation is offered to prevent relocation of regulated firms, efficiency requires that payments be distributed across firms so as to equalize marginal relocation probabilities, weighted by the damage caused by relocation. We formalize this fundamental economic logic and apply it to analyze industry compensation rules proposed under the EU Emissions Trading Scheme, which allocate permits for free to carbon and trade intensive industries. We estimate that this practice will result in overcompensation in the order of €6.7 billion every year. Efficient allocation would reduce the aggregate risk of job loss by two thirds without increasing aggregate compensation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1150.pdf

Reparations, Deficits, and Debt Default: the Great Depression in Germany

Albrecht Ritschl

CEPDP1149. June 2012.Germany’s Great Depression of the early 1930s started in 1929 with a sudden stop in the current account. It ended after a foreign debt default that unfolded in several stages from 1931 to 1933. This chapter reviews Germany’s macroeconomic history between the gold-based stabilisation of 1924 and the transition to autarky and domestic credit expansion in 1933. During the Dawes Plan of 1924-29, German borrowed abroad massively to pay reparations out of credit, a phenomenon that gave rise to the debate about the transfer problem between Keynes and his critics. An incentive based interpretation of the transfer problem is sketched to explain the later current account reversal. Time-varying VARs are employed to trace the propagation of the resulting macroeconomic shock, and to obtain estimates of fiscal multipliers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1149.pdf

The CEO Labour Market in China's Public Listed Companies

Alex Bryson John Forth Minghai Zhou

CEPDP1148. June 2012.Using panel data for all of China’s public listed firms over the period 2001-2010 we examine how firms have recruited and rewarded their executives over a decade of huge growth and turbulence. CEO pay is sensitive to firm performance, although the elasticities are lower than for the United States and Europe, especially with respect to returns on assets (ROA). CEO pay rises with firm size and growth, with elasticities resembling those for the United States. We find no dramatic response to the stock market crash of 2007/08. The elasticity of pay to stock returns falls to zero after the crash, while elasticities with respect to sales and ROA remain significant. Executive cash compensation rose steeply throughout the period – in contrast to the United States. There are steep gradients in executive compensation within firms, consistent with tournament prizes, and around two-thirds of CEO appointments are internal promotions. Within-firm executive compensation rose at a faster rate than executive compensation across firms, helping to explain why CEO turnover rates declined a little over the decade. Turnover rates did not spike with the stock market crash. Privatisation and reforms to corporate governance contributed to growth in executive compensation. A picture emerges of an executive labour market in which firms are linking pay to performance and relying on incentive structures within firms to foster executive talent.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1148.pdf

Immigration, Offshoring and American Jobs

Gianmarco I. P. Ottaviano Giovanni Peri Greg C. Wright

CEPDP1147. May 2012.How do offshoring and immigration affect the employment of native workers? What kinds of jobs suffer, or benefit, most from the competition created by offshore and immigrant workers? In contrast to the existing literature that has mostly looked at the effects of offshoring and immigration separately, we argue that one can gain useful insights by jointly investigating the interactions among native, immigrant and offshore workers. We develop our argument in three steps. First, we present some new facts on 58 U.S. manufacturing industries from 2000 to 2007. Second, we build on Grossman and Rossi-Hansberg (2008) to design a model of task assignment among heterogeneous native, immigrant and offshore workers that fits those facts. Third, we use the model to draw systematic predictions about the effects of immigration and offshoring on native workers and we test these predictions on the data. We find that, within the manufacturing sector, immigrants do not compete much with natives, as these two groups of workers are relatively specialized in tasks at opposite ends of the skill intensity spectrum. Offshore workers, on the other hand, seem to be specialized in tasks of intermediate skill intensity. We also find that offshoring has no effect on native employment in the aggregate, while the effect of immigration on native employment is positive. This hints at the presence of a “productivity effect" whereby offshoring and immigration improve industry efficiency, thereby creating new jobs.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1147.pdf

Market Size, Competition, and the Product Mix of Exporters

Thierry Mayer Marc J. Melitz Gianmarco I. P. Ottaviano

CEPDP1146. May 2012.We build a theoretical model of multi-product firms that highlights how competition across market destinations affects both a firm's exported product range and product mix. We show how tougher competition in an export market induces a firm to skew its export sales towards its best performing products. We find very strong confirmation of this competitive effect for French exporters across export market destinations. Theoretically, this within firm change in product mix driven by the trading environment has important repercussions on firm productivity. A calibrated fit to our theoretical model reveals that these productivity effects are potentially quite large.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1146.pdf

What Do CEOs Do?

Oriana Bandiera Luigi Guiso Andrea Prat Raffaella Sadun

CEPDP1145. May 2012.We develop a methodology to collect and analyze data on CEOs’ time use. The idea - sketched out in a simple theoretical set-up - is that CEO time is a scarce resource and its allocation can help us identify the firm’s priorities as well as the presence of governance issues. We follow 94 CEOs of top-600 Italian firms over a pre-specified week and record the time devoted each day to different work activities. We focus on the distinction between time spent with insiders (employees of the firm) and outsiders (people not employed by the firm). Individual CEOs differ systematically in how much time they spend at work and in how much time they devote to insiders vs. outsiders. We analyze the correlation between time use, managerial effort, quality of governance and firm performance, and interpret the empirical findings within two versions of our model, one with effective and one with imperfect corporate governance. The patterns we observe are consistent with the hypothesis that time spent with outsiders is on average less beneficial to the firm and more beneficial to the CEO and that the CEO spends more time with outsiders when governance is poor.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1145.pdf

Matching Firms, Managers, and Incentives

Oriana Bandiera Luigi Guiso Andrea Prat Raffaella Sadun

CEPDP1144. May 2012.We exploit a unique combination of administrative sources and survey data to study the match between firms and managers. The data includes manager characteristics, such as risk aversion and talent; firm characteristics, such as ownership; detailed measures of managerial practices relative to incentives, dismissals and promotions; and measurable outcomes, for the firm and for the manager. A parsimonious model of matching and incentive provision generates an array of implications that can be tested with our data. Our contribution is twofold. We disentangle the role of risk-aversion and talent in determining how firms select and motivate managers. In particular, risk-averse managers are matched with firms that offer low-powered contracts. We also show that empirical findings linking governance, incentives, and performance that are typically observed in isolation, can instead be interpreted within a simple unified matching framework.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1144.pdf

The Allocation of Talent over the Business Cycle and its Effect on Sectoral Productivity

Michael Boehm Martin Watzinger

CEPDP1143. May 2012.It is well documented that graduates enter different occupations in recessions than in booms. In this article, we examine the impact of this reallocation for long-term productivity and output across sectors. We develop a model in which talent flows to stable sectors in recessions and to cyclical sectors in booms. We find evidence for the predicted change in productivity caused by the business cycle in a setting where output can be readily measured: economists starting or graduating from their PhD in a recession are significantly more productive over the long term than economists starting or graduating in a boom.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1143.pdf

Heterogeneity, Demand for Insurance and Adverse Selection

Johannes Spinnewijn

CEPDP1142. May 2012.Recent empirical work finds that surprisingly little variation in the demand for insurance is explained by heterogeneity in risks. I distinguish between heterogeneity in risk preferences and risk perceptions underlying the unexplained variation. Heterogeneous risk perceptions induce a systematic difference between the revealed and actual value of insurance as a function of the insurance price. Using a sufficient statistics approach that accounts for this alternative source of heterogeneity, I find that the welfare conclusions regarding adversely selected markets are substantially different. The source of heterogeneity is also essential for the evaluation of different interventions intended to correct inefficiencies due to adverse selection like insurance subsidies and mandates, risk-adjusted pricing and information policies.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1142.pdf

Environmental Policy and Directed Technological Change: Evidence from the European Carbon Market

Raphael Calel Antoine Dechezleprêtre

CEPDP1141. April 2012.This paper investigates the impact of the EU Emissions Trading Scheme (EU ETS) on technological change. We exploit installations-level inclusion criteria to estimate the impact of the EU ETS on firms patenting. We find that the EU ETS has increased low-carbon innovation among regulated firms by as much as 10%, while not crowding out patenting for other technologies. We also find evidence that the EU ETS has not impacted patenting beyond the set of regulated companies. These results imply that the EU ETS accounts for nearly a 1% increase in European lowcarbon patenting compared to a counterfactual scenario.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1141.pdf

Goods Trade, Factor Mobility and Welfare

Stephen J. Redding

CEPDP1140. April 2012.This paper extends a recent class of quantitative models of international trade to incorporate factor mobility within countries. We present a model-based decomposition of the variance of economic activity into the contributions of locational fundamentals, market access and their covariance. We show how the standard framework for undertaking model-based counterfactuals in trade can be augmented to obtain predictions for endogenous changes in the distribution of economic activity across regions within countries. A region’s trade share with itself is no longer a sufficient statistic for the welfare gains from trade, which also depend on endogenous changes in the distribution of mobile factors.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1140.pdf

Span of Control and Span of Activity

Oriana Bandiera Andrea Prat Raffaella Sadun Julie Wulf

CEPDP1139. April 2012.For both practitioners and researchers, span of control plays an important role in defining and understanding the role of the CEO. In this paper, we combine organizational chart information for a sample of 65 companies with detailed data on how their CEOs allocate their work time, which we define as their span of activity. Span of activity provides a direct measure of the CEO’s management style, including the attention devoted to specific subordinates and functions, the time devoted to individual work and outside constituencies, a preference for multilateral or bilateral interaction, the degree of planning, etc. We find that CEOs with a larger number of reports spend more time with subordinates, more time on large meetings, less time on unplanned activities. The presence of a delegate, such as the COO, allows the CEO to reduce the time spent with insiders and to focus on bilateral and unplanned activities. These results suggest that time-use information is helpful in interpreting how span of control determines management style.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1139.pdf

Trade and Inequality: From Theory to Estimation

Elhanan Helpman Oleg Itskhoki Marc-Andreas Muendler Stephen Redding

CEPDP1138. April 2012.While neoclassical theory emphasizes the impact of trade on wage inequality between occupations and sectors, more recent theories of firm heterogeneity point to the impact of trade on wage dispersion within occupations and sectors. Using linked employer-employee data for Brazil, we show that much of overall wage inequality arises within sector-occupations and for workers with similar observable characteristics; this within component is driven by wage dispersion between firms; and wage dispersion between firms is related to firm employment size and trade participation. We then extend the heterogenous-firm model of trade and inequality from Helpman, Itskhoki, and Redding (2010) and structurally estimate it with Brazilian data. We show that the estimated model fits the data well, both in terms of key moments as well as in terms of the overall distributions of wages and employment, and find that international trade is important for this fit. In the estimated model, reductions in trade costs have a sizeable effect on wage inequality.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1138.pdf

Intermediaries in International Trade: Direct Versus Indirect Modes of Export

Andrew B. Bernard Marco Grazzi Chiara Tomasi

CEPDP1137. March 2012.This paper examines the factors that give rise to intermediaries in exporting and explores the implications for trade volumes. Export intermediaries such as wholesalers serve different markets and export different products than manufacturing exporters. In particular, high market-specific fixed costs of exporting, the (lack of) quality of the general contracting environment and product- specific factors play important roles in explaining the existence of export intermediaries. These underlying differences between direct and intermediary exporters have important consequences for trade flows. The ability of export intermediaries to overcome country and product fixed costs means that they can more easily respond along the extensive margin to external shocks. Intermediaries and direct exporters respond differently to exchange rate fluctuations both in terms of the total value of shipments and the number of products exported as well as in terms of prices and quantities. Aggregate exports to destinations with high shares of indirect exports are much less responsive to changes in the real exchange rate than are exports to countries served primarily by direct exporters.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1137.pdf

Gender Gaps in Performance: Evidence from Young Lawyers

Ghazala Azmat Rosa Ferrer

CEPDP1136. March 2012.This paper documents and studies the gender gap in performance among associate lawyers in the United States. Unlike most high-skilled professions, the legal profession uses widely-accepted and objective methods to measure and reward lawyers’ productivity: the number of hours billed to clients and the amount of new client revenue generated. We find clear evidence of a gender gap in annual performance. Male lawyers bill ten-percent more hours and bring in more than double the new client revenue. We show that the differential impact across genders in the presence of young children and the differences in aspirations to become a law-firm partner account for a large part of the difference in performance. These gaps in performance have important consequences for gender gaps in earnings. While individual and firm characteristics explain up to 50 percent of the gap in earnings, the inclusion of performance measures explains most of the remainder.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1136.pdf

CEO Bonding: Who Posts Performance Bonds and Why?

Alex Bryson John Forth Minghai Zhou

CEPDP1135. March 2012.Despite their theoretical value in tackling principal-agent problems at low cost to firms there is almost no empirical literature on the prevalence and correlates of performance bonds posted by corporate executives. Using data for China we examine their incidence and test propositions from principal-agent theory regarding their correlates. Around one-tenth of corporations deploy performance bonds. They are sizeable relative to CEO cash compensation. Ceteris paribus, CEO's posting performance bonds are more likely than other CEO's to have their compensation linked to firm performance in other ways and the elasticity of their pay with respect to firm performance is greater. They are also more likely to hold company stock. Thus bonds appear to be complements to rather than substitutes for other forms of corporate incentive. The negative association between bonds and sales volatility is consistent with principal-agent theory. Positive associations between performance bonds and firm age, the CEOs ranking in the Communist Party, and city-level clustering in the use of bonds are all consistent with "legacy" effects dating back to the use of performance bonds in the early reform period. The only corporate governance measure that is strongly and robustly associated with an increased use of bonds is employee representation on the board of directors.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1135.pdf

Why Are Migrants Paid More?

Alex Bryson Giambattista Rossi Rob Simmons

CEPDP1134. March 2012.In efficient global labour markets for very high wage workers one might expect wage differentials between migrant and domestic workers to reflect differences in labour productivity. However, using panel data on worker-firm matches in a single industry over a seven year period we find a substantial wage penalty for domestic workers which persists within firms and is only partially accounted for by individual labour productivity. We show that the differential partly reflects the superstar status of migrant workers. This superstar effect is also apparent in migrant effects on firm performance. But the wage differential also reflects domestic workers' preferences for working in their home region, an amenity for which they are prepared to take a compensating wage differential, or else are forced to accept in the face of employer monopsony power which does not affect migrant workers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1134.pdf

Incentives for Quality over Time - The Case of Facebook Applications

Jörg Claussen Tobias Kretschmer Philip Mayrhofer

CEPDP1133. March 2012.We study the market for applications on Facebook, the dominant platform for social networking and make use of a rule change by Facebook by which high-quality applications were rewarded with further opportunities to engage users. We find that the change led to quality being a more important driver of usage while sheer network size became less important. Further, we find that update frequency helps applications maintain higher usage, while generally usage of Facebook applications declines less rapidly with age.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1133.pdf

Cyclical Risk Aversion, Precautionary Saving and Monetary Policy

Bianca De Paoli Pawel Zabczyk

CEPDP1132. March 2012.This paper analyzes the conduct of monetary policy in an environment in which cyclical swings in risk appetite affect households' propensity to save. It uses a New-Keynesian model featuring external habit formation to show that taking note of precautionary saving motives justifies an accommodative policy bias in the face of persistent, adverse disturbances. Equally, policy should be more restrictive - i.e. `lean against the wind' - following positive shocks. Since the size of these `risk-adjustments' is increasing in the degree of macroeconomic volatility, ignoring this channel could lead to larger policy errors in turbulent times - with good luck translating into good policy.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1132.pdf

Global Value Chains During the Great Trade Collapse: A Bullwhip Effect?

CEPDP1131. February 2012.This paper analyzes the performance of global value chains during the trade collapse. To do so, it exploits a unique transaction-level dataset on French firms containing information on cross-border monthly transactions matched with data on worldwide intra-.rm linkages as defined by property rights (multinational business groups, hierarchies of firms). This newly assembled dataset allows us to distinguish firm-level transactions among two alternative organizational modes of global value chains: internalization of activities (intra- group trade/trade among related parties) or establishment of supply contracts (arm’s length trade/trade among unrelated parties). After an overall assessment of the role of global value chains during the trade collapse, we document that intra-group trade in intermediates was characterized by a faster drop followed by a faster recovery than arm’s length trade. Amplified fluctuations in terms of trade elasticities by value chains have been referred to as the "bullwhip effect" and have been attributed to the adjustment of inventories within supply chains. In this paper we first con.rm the existence of such an effect due to trade in inter- mediates, and we underline the role that different organizational modes can play in driving this adjustment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1131.pdf

The Impact of Integration on Productivity and Welfare Distortions Under Monopolistic Competition

Swati Dhingra John Morrow

CEPDP1130. February 2012.A fundamental question in monopolistic competition theory is whether the market allocates resources efficiently. This paper generalizes the Spence-Dixit-Stiglitz framework to heterogeneous firms, addressing when the market provides optimal quantities, variety and productivity. Under constant elasticity demand, each firm prices above its average cost, yet we show market allocations are efficient. When demand elasticities vary, market allocations are not efficient and reflect the distortions of imperfect competition. After determining the nature of market distortions, we investigate how integration may serve as a remedy to imperfect competition. Both market distortions and the impact of integration depend on two demand side elasticities, and we suggest richer demand structures to pin down these elasticities. We also show that integration eliminates distortions, provided the post-integration market is sufficiently large.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1130.pdf

Agglomeration, Trade and Selection

Gianmarco I. P. Ottaviano

CEPDP1129. February 2012.This paper studies how firm heterogeneity in terms of productivity affects the balance between agglomeration and dispersion forces in the presence of pecuniary externalities through a selection model of monopolistic competition with variable mark-ups. It shows that firm heterogeneity matters. However, whether it shifts the balance from agglomeration to dispersion or the other way round depends on its specific features along the two defining dimensions of diversity: ‘richness’ and ‘evenness’. Accordingly, the role of firm heterogeneity in selection models of agglomeration cannot be fully understood without paying due attention to various moments of the underlying firm productivity distribution.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1129.pdf

Firm Size Distortions and the Productivity Distribution: Evidence from France

Luis Garicano Claire Lelarge John Van Reenen

CEPDP1128. February 2012.A major empirical challenge in economics is to identify how regulations (such as firing costs) affect economic efficiency. Almost all countries have regulations that increase costs when firms cross a discrete size threshold. We show how these size-contingent regulations can be used to identify the equilibrium and welfare effects of regulation through combining a new model with the firm-level distributions of size and productivity. Our framework adapts the Lucas (1978) model to a world with size-contingent regulations and applies this to France where there are sharp increases in firing costs (which we model as a labor tax) when firms employ 50 or more workers. Using administrative data on the population of firms 2002 through 2007, we show how this regulation has major effects on the distribution of firm size (a “broken power law”) and productivity. We then econometrically recover the key parameters of the model in order to estimate the costs of regulation which appear to be nontrivial.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1128.pdf

Genes, Economics and Happiness

Nicholas A. Christakis Jan-Emmanuel De Neve James H. Fowler Bruno S. Frey

CEPDP1127. February 2012.A major finding from research into the sources of subjective well-being is that individuals exhibit a “baseline” level of happiness. We explore the influence of genetic variation by employing a twin design and genetic association study. We first show that about 33% of the variation in happiness is explained by genes. Next, using two independent data sources, we present evidence that individuals with a transcriptionally more efficient version of the serotonin transporter gene (SLC6A4) report significantly higher levels of life satisfaction. These results are the first to identify a specific gene that is associated with happiness and suggest that behavioral models benefit from integrating genetic variation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1127.pdf

Happiness as a Driver of Risk-Avoiding Behavior

CEPDP1126. February 2012.Most governments try to discourage their citizens from taking extreme risks with their health and lives. Yet, for reasons not understood, many people continue to do so. We suggest a new approach to this longstanding question. First, we show that expected-utility theory predicts that ‘happier’ people will be less attracted to risky behaviors. Second, using BRFSS data on seatbelt use in a sample of 300,000 Americans, we document evidence strongly consistent with that prediction. Our result is demonstrated with various methodological approaches, including Bayesian model-selection and instrumental-variable estimation (based on unhappiness caused by widowhood). Third, using data on road accidents from the Add Health data set, we find strongly corroborative longitudinal evidence. These results suggest that government policy may need to address the underlying happiness of individuals rather than focus on behavioural symptoms.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1126.pdf

Does Competition Improve Public Hospitals' Efficiency? Evidence from a Quasi-Experiment in the English National Health Service

Zack Cooper Stephen Gibbons Simon Jones Alistair McGuire

CEPDP1125. February 2012.This paper uses a difference-in-difference style estimation strategy to test separately the impact of competition from public sector and private sector hospitals on the efficiency of public hospitals. Our identification strategy takes advantage of the phased introduction of a recent set of substantive reforms introduced in the English NHS from 2006 onwards. These reforms forced public sector health care providers to compete with other public hospitals and eventually to face competition from existing private sector providers for care delivered to publicly funded patients. In this study, we measure efficiency using hospitals’ average length of stay (LOS) for patients undergoing elective surgery. For a more nuanced assessment of efficiency, we break LOS down into its two key components: the time from patients’ admission to the hospital until their surgery and the time from their surgery until their discharge. Here, pre-surgery LOS serves as a proxy for hospitals’ lean efficiency. Our results suggest that competition between public providers prompted public hospitals to improve their productivity by decreasing their pre-surgery, overall and post-surgery length of stay. In contrast, competition from private hospitals did not spur public providers to improve their performance and instead left incumbent public providers with a more costly case mix of patients and led to increases in post-surgical LOS.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1125.pdf

Market Leadership Through Technology - Backward Compatibility in the U.S. Handheld Video Game Industry

Jörg Claussen Tobias Kretschmer Thomas Spengler

CEPDP1124. February 2012.The introduction of a new product generation forces incumbents in network industries to rebuild their installed base to maintain an advantage over potential entrants. We study if backward compatibility moderates this process of rebuilding an installed base. Using a structural model of the U.S. market for handheld game consoles, we show that backward compatibility lets incumbents transfer network effects from the old generation to the new to some extent but that it also reduces supply of new software. We examine the tradeoff between technological progress and backward compatibility and find that backward compatibility matters less if there is a large technological leap between two generations. We subsequently use our results to assess the role of backward compatibility as a strategy to sustain market leadership.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1124.pdf

A Model of Equilibrium Institutions

Bernardo Guimaraes Kevin D. Sheedy

CEPDP1123. February 2012.Institutions that serve the interests of an elite are often cited as an important reason for poor economic performance. This paper builds a model of institutions that allocate resources and power to maximize the payoff of an elite, but where any group that exerts sufficient fighting effort can launch a rebellion that destroys the existing institutions. The rebels are then able to establish new institutions as a new elite, which will similarly face threats of rebellion. The paper analyses the economic consequences of the institutions that emerge as the equilibrium of this struggle for power. High levels of economic activity depend on protecting private property from expropriation, but the model predicts this can only be achieved if power is not as concentrated as the elite would like it to be, ex post. Power sharing endogenously enables the elite to act as a government committed to property rights, which would otherwise be time inconsistent. But sharing power entails sharing rents, so in equilibrium power is too concentrated, leading to inefficiently low investment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1123.pdf

Signalling, Incumbency Advantage, and Optimal Reelection Rules

Francesco Caselli Tom Cunningham Massimo Morelli Inés Moreno de Barreda

CEPDP1122. February 2012.Much literature on political behavior treats politicians as motivated by reelection, choosing actions to signal their types to voters. We identify two novel implications of models in which signalling incentives are important. First, because incumbents only care about clearing a reelection hurdle, signals will tend to cluster just above the threshold needed for reelection. This generates a skew distribution of signals leading to an incumbency advantage in the probability of election. Second, voters can exploit the signalling behavior of politicians by precommitting to a higher threshold for signals received. Raising the threshold discourages signalling effort by low quality politicians but encourages effort by high quality politicians, thus increasing the separation of signals and improving the selection function of an election. This precommitment has a simple institutional interpretation as a supermajority rule, requiring that incumbents exceed some fraction of votes greater than 50% to be reelected.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1122.pdf

Why Has China Grown So Fast? The Role of International Technology Transfer

John Van Reenen Linda Yueh

CEPDP1121. February 2012.Chinese economic growth has been spectacular in the last 30 years. We investigate the role of International Joint Ventures with Technology Transfer agreements, an understudied area. Technology transfer is the traditional mechanism for developing countries to “catch up” and has been a key component of Chinese economic policy. We collect original survey data on Chinese firms and their joint ventures and match this to administrative data on firm performance. To identify the causal effect of joint ventures we use time-varying and province-specific policies at the time when a firm was born. International joint ventures have large effects on productivity especially when combined with a technology transfer component. We estimate that without International joint ventures China’s growth would have been about one percentage point lower per annum over the last three decades.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1121.pdf

The Household Effects of Government Spending

Francesco Giavazzi Michael McMahon

CEPDP1120. February 2012.This paper provides new evidence on the effects of fiscal policy by studying, using household-level data, how households respond to shifts in government spending. Our identification strategy allows us to control for time-specific aggregate effects, such as the stance of monetary policy or the U.S.-wide business cycle. However, it potentially prevents us from estimating the wealth effects associated with a shift in spending. We find significant heterogeneity in households' response to a spending shock; the effects appear vary over time depending, among other factors, on the state of business cycle and, at a lower frequency, on the composition of employment (such as the share of workers in part-time jobs). Shifts in spending could also have important distributional effects that are lost when estimating an aggregate multiplier. Heads of households working relatively few (weekly) hours, for instance, suffer from a spending shock of the type we analyzed: their consumption falls, their hours increase and their real wages fall.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1120.pdf

The Determinants of Intrafirm Trade: Evidence from French Firms

Gregory Corcos Delphine M. Irac Giordano Mion Thierry Verdier

CEPDP1119. January 2012.How well does the theory of the firm explain the choice between intrafirm and arms' length trade? This paper uses firm-level import data from France to look into this question. We find support for three key predictions of property-rights theories of the multinational firm. Intrafirm imports are more likely: (i) in capital- and skill-intensive firms; (ii) in highly productive firms; (iii) from countries with well-functioning judicial institutions. We further bridge previous aggregate findings with our investigation by decomposing intrafirm imports into an extensive and intensive margin. Doing so we uncover interesting patterns in the data that require further theoretical investigation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1119.pdf

Institutions and Export Dynamics

Luis Araujo Giordano Mion Emanuel Ornelas

CEPDP1118. January 2012.We study the role of contract enforcement in shaping the dynamics of international trade at the firm level. We develop a theoretical model to describe how agents build reputations to overcome the problems created by weak enforcement of international contracts. We find that, all else equal, exporters start their activities with higher volumes and remain as exporters for a longer period in countries with better contracting institutions. However, conditional on survival, the growth rate of a firm’s exports to a country decreases with the quality of the country’s institutions. We test these predictions using a rich panel of Belgium exporting firms from 1995 to 2008 to every country in the world. We adopt two alternative empirical strategies. In one specification we use firm-year fixed effects to control for time-varying firm-specific characteristics. Alternatively, we model selection more explicitly with a two-step Heckman procedure using “extended gravity” variables as our exclusion restrictions. Results from both specifications support our predictions. Overall, our findings suggest that weak contracting institutions cannot be thought simply as an extra sunk or fixed cost to exporting firms; they also significantly affect firms’ trade volumes and have manifold implications for firms’ dynamic patterns in foreign markets.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1118.pdf

Preferential Trade Agreements and the Labor Market

Emanuel Ornelas

CEPDP1117. January 2012.Labor market consequences are at the forefront of most debates on the merits of trade liberalization. Preferential trade agreements (PTAs) have become the primary form of trade liberalization in most countries, and several studies have shown that discriminatory and nondiscriminatory trade liberalization can lead to very different outcomes. Yet to date there has not been any attempt to study the specific labor market implications of preferential liberalization. In this article I argue that the labor market consequences of unilateral or multilateral non-discriminatory trade liberalization and those stemming from integration in the context of PTAs can indeed be quite distinct, and therefore the latter must be given closer scrutiny. I provide a short summary of both the theoretical literature on trade and the labor market and the literature on preferential liberalization. Relying on the insights from those two—largely independent—lines of research, I then discuss why liberalization through PTAs can have consequences for the labor market that are considerably different from the effects of lowering trade barriers in a non-discriminatory fashion. Examples of areas where those differences are likely to be meaningful include the nature of labor market adjustment costs, the incentives for firms to start exporting, and the effects on “job rents.”

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1117.pdf

The Provision of Relative Performance Feedback Information: An Experimental Analysis of Performance and Happiness

Ghazala Azmat Nagore Iriberri

CEPDP1116. January 2012.This paper studies the effect of providing relative performance feedback information on individuals’ performance and affective response, under both piece-rate and flat-rate incentives. In a laboratory setup, agents perform a real effort task and when receiving feedback, they are asked to rate their happiness, arousal and feeling of dominance. Control subjects learn only their absolute performance, while the treated subjects additionally learn the average performance in the session. Under piece-rate, performance is 17 percent higher when relative performance feedback is provided. Furthermore, although feedback increases the performance independent of the content (i.e., performing above or below the average), the content is determinant for the affective response. When subjects are treated, the inequality in the happiness and the feeling of dominance between those subjects performing above and below the average increases by 8 and 6 percentage points, respectively. Under flat-rate, we do not find any effect on either of the outcome variables.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1116.pdf

Fiscal Multipliers over the Business Cycle

Pascal Michaillat

CEPDP1115. January 2012.This paper illustrates why fiscal policy becomes more effective as unemployment rises in recessions. The theory is based on the equilibrium unemployment model of Michaillat (forthcoming), in which jobs are rationed in recessions. Fiscal policy takes the form of government spending on public-sector jobs. Recessions are periods of acute job shortage without much competition for workers among recruiting firms; hiring in the public sector does not crowd out hiring in the private sector much; therefore fiscal policy reduces unemployment effectively. Formally the fiscal multiplier—the reduction in unemployment rate achieved by spending one dollar on public-sector jobs—is countercyclical. An implication is that available estimates of the fiscal multiplier, which measure the average effect of fiscal policy over the business cycle, do not apply in recessions because the multiplier is much higher in recessions than on average.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1115.pdf

Gravity Redux: Measuring International Trade Costs with Panel Data

Dennis Novy

CEPDP1114. January 2012.Barriers to international trade are known to be large but due to data limitations it is hard to measure them directly for a large number of countries over many years. To address this problem I derive a micro-founded measure of bilateral trade costs that indirectly infers trade frictions from observable trade data. I show that this trade cost measure is consistent with a broad range of leading trade theories including Ricardian and heterogeneous firms models. In an application I show that U.S. trade costs with major trading partners declined on average by about 40 percent between 1970 and 2000, with Mexico and Canada experiencing the biggest reductions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1114.pdf

Paying for Performance: Incentive Pay Schemes and Employees' Financial Participation

Alex Bryson Richard Freeman Claudio Lucifora Michele Pellizzari Virginie Perotin

CEPDP1112. January 2012.We present new comparable data on the incidence of performance pay schemes in Europe and the USA. We find that the percentage of employees exposed to incentive pay schemes ranges from around 10-15 percent in some European countries to over 40 percent in Scandinavian countries and the US. Individual pay and profit/gain sharing schemes are widely diffused, whereas share ownership schemes are much less common, particularly in Europe. We document a number of empirical regularities. Incentive pay is less common in countries with a higher share of small firms. Higher product and labour market regulation are associated with lower use of incentive pay. Capital market development is a necessary requirement for a wider diffusion of incentive pay, particularly sharing and ownership schemes. When we control for a large set of individual characteristics and company attributes, we find that the probability that a worker is covered by an incentive scheme is higher in large firms and in high-skilled occupations, while it is much lower for females.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1112.pdf

Left, Right, Left: Income and Political Dynamics in Transition Economies

Michael Carter John Morrow

CEPDP1111. January 2012.The political left turn in Latin America, which lagged its transition to liberalized market economies by a decade or more, challenges conventional economic explanations of voting behavior. While the implications of upward mobility for the political preferences of forward-looking voters have been studied, neither the upward mobility model nor conventional myopic median voter models are well equipped to explain Latin America’s political transformation. This paper generalizes the forward-looking voter model to consider a broad range of dynamic processes. When voters have full information on the nature of income dynamics in a transition economy, we show that strong support for redistributive policies will materialize rapidly if income dynamics offer few prospects of upward mobility for key sections of the electorate. In contrast, when voters have imperfect information, our model predicts a slow and politically polarizing shift toward redistributive voter preferences under these same non-concave income dynamics. Simulation using fitted income dynamics for two Latin American economies suggests that the imperfect information model better accounts for the observed shift back to the left in Latin America, and that this generalized, forward-looking voter approach may offer additional insights about political dynamics in other transition economies.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1111.pdf

Assimilation in Multilingual Cities

Javier Ortega Gregory Verdugo

CEPDP1110. December 2011.Using the Public Use Microdata Files of the 2001 and 2006 Canadian Censuses, we study the determinants of the assimilation of language minorities into the city majority language. We show that official minority members (i.e. francophones in English-speaking cities and anglophones in French-speaking cities) assimilate less than the "allophones" (the individuals with a mother tongue other than English or French), and that immigrants generally assimilate less than natives. In addition, the language composition of cities is shown to be an important determinant of assimilation both for allophones and for official minorities. Finally, we show that assimilation into French in French-majority cities is lower than assimilation into English in English-majority cities even when controlling for the language composition of the cities and including a rich set of language dummmies.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1110.pdf

Management Practices Across Firms and Countries

Nicholas Bloom Christos Genakos Raffaella Sadun John Van Reenen

CEPDP1109. December 2011.For the last decade we have been using double-blind survey techniques and randomized sampling to construct management data on over 10,000 organizations across twenty countries. On average, we find that in manufacturing American, Japanese, and German firms are the best managed. Firms in developing countries, such as Brazil, China and India tend to be poorly managed. American retail firms and hospitals are also well managed by international standards, although American schools are worse managed than those in several other developed countries. We also find substantial variation in management practices across organizations in every country and every sector, mirroring the heterogeneity in the spread of performance in these sectors. One factor linked to this variation is ownership. Government, family, and founder owned firms are usually poorly managed, while multinational, dispersed shareholder and private-equity owned firms are typically well managed. Stronger product market competition and higher worker skills are associated with better management practices. Less regulated labor markets are associated with improvements in incentive management practices such as performance based promotion.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1109.pdf

Spatial Frictions

Kristian Behrens Giordano Mion Yasusada Murata Jens Südekum

CEPDP1108. December 2011.The world is replete with spatial frictions. Shipping goods across cities entails trade frictions. Commuting within cities causes urban frictions. How important are these frictions in shaping the spatial economy? We develop and quantify a novel framework to address this question at three different levels: Do spatial frictions matter for the city-size distribution? Do they affect individual city sizes? Do they contribute to the productivity advantage of large cities and the nature of competition in cities? The short answers are: no, yes, and it depends.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1108.pdf

Service Trade and Occupational Tasks: An Empirical Investigation

Andrea Ariu Giordano Mion

CEPDP1107. December 2011.Using micro data for Belgium we investigate the relationship between occupational tasks changes and the rise of service trade. We focus the analysis on the extensive margin and look at the heterogeneous proliferation of firms involved in exports and imports of services across sectors characterized by different tasks changes patterns. Occupational tasks changes display an extremely consistent relationship with participation to service trade across firm groups pointing to strong churning effects. The change in analytical (interactive and routine cognitive) tasks intensity has a positive (negative) impact across the board meaning that, in industries characterized by larger changes, firms have experienced both higher (lower) likelihood of entry and exit. The negative relationship between the change in interactive tasks and service exports participation underlines the special role that proximity between demand and supply plays for services. Interestingly, we find exactly the opposite result (a positive relationship) between the extensive margin of goods exports and interactive tasks. Moreover, our analysis suggests that the change in IT use per se does not strike as being a key underlying force behind the increase in the extensive margin of service exports.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1107.pdf

Do Cash Transfers Improve Birth Outcomes? Evidence from Matched Vital Statistics, Social Security and Program Data

Verónica Amarante Marco Manacorda Edward Miguel Andrea Vigorito

CEPDP1106. December 2011.There is limited empirical evidence on whether unrestricted cash social assistance to poor pregnant women improves children’s birth outcomes. Using program administrative micro-data matched to longitudinal vital statistics on the universe of births in Uruguay, we estimate that participation in a generous cash transfer program led to a sizeable 15% reduction in the incidence of low birthweight. Improvements in mother nutrition and a fall in labor supply, out-of-wedlock births and mother’s smoking all appear to contribute to the effect. We conclude that, by improving child health, unrestricted unconditional cash transfers may help break the cycle of intergenerational poverty.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1106.pdf

Assignment Reversals: Trade, Skill Allocation and Wage Inequality

Thomas Sampson

CEPDP1105. December 2011.Understanding the allocation of skilled labor across industries is necessary to explain inter-industry wage differences and the effect of trade on wages. This paper develops a multi-sector assignment model with both heterogeneous labor and a non-labor input in which high skill agents match with high input productivity sectors where they can best leverage their talent. When the ranking of sectors by input productivity differs across countries, their ranking by workforce skill also differs – this is an assignment reversal. In a two sector, two country model the existence of an assignment reversal implies that each country has a comparative advantage in its high skill sector. Consequently, trade integration causes both the relative wage of high skill workers, and wage inequality within the high skill sector, to increase in both countries. Using exogenous differences in capital productivity induced by a country’s proximity to major capital exporters the paper shows that international variation in the industry wage structure supports the existence of assignment reversals and is consistent with the model’s sorting predictions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1105.pdf

Immigrant Enclaves and Crime

Brian Bell Stephen Machin

CEPDP1104. December 2011.There is conflicting evidence on the consequences of immigrant neighbourhood segregation for individual outcomes, with various studies finding positive, negative or insubstantial effects. In this paper, we document the evolution of immigrant segregation in England over the last 40 years. We show that standard measures of segregation point to gentle declines over time for all immigrant groups. However, this hides a significant increase in the number of immigrant enclaves where immigrants account for a substantial fraction of the local population. We then explore the link between immigrant segregation, enclaves and crime using both recorded crime and self-reported crime victimization data. Controlling for a rich set of observables, we find that crime is substantially lower in those neighbourhoods with sizeable immigrant population shares. The effect is non-linear and only becomes significant in enclaves. It is present for both natives and immigrants living in such neighbourhoods. Considering different crime types, the evidence suggests that such neighbourhoods benefit from a reduction in more minor, non-violent crimes. We discuss possible mechanisms for the results we observe.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1104.pdf

Trading Away Wide Brands for Cheap Brands

Swati Dhingra

CEPDP1103. December 2011.Firms face competing needs to expand product variety and reduce production costs. Trade policy affects firm investments in product variety and production processes differently. Access to larger markets enables innovation to reduce costs. Although firm scale increases, foreign competition reduces markups. Firms react by narrowing their product varieties to recapture these lost markups. I provide a theory detailing this conflicting impact of trade policy and address welfare gains from trade. Accounting for firm heterogeneity, I show support for the theoretical predictions with firm-level innovation data from Thailand’s manufacturing sector which experienced unilateral home tariff changes during 2003-2006.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1103.pdf

A Note on Schooling in Development Accounting

Francesco Caselli Antonio Ciccone

CEPDP1102. December 2011.How much would output increase if underdeveloped economies were to increase their levels of schooling? We contribute to the development accounting literature by describing a nonparametric upper bound on the increase in output that can be generated by more schooling. The advantage of our approach is that the upper bound is valid for any number of schooling levels with arbitrary patterns of substitution/complementarity. We also quantify the upper bound for all economies with the necessary data, compare our results with the standard development accounting approach, and provide an update on the results using the standard approach for a large sample of countries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1102.pdf

How Local Are Labour Markets? Evidence from a Spatial Job Search Model

Alan Manning Barbara Petrongolo

CEPDP1101. December 2011.This paper uses data on very small UK geographies to investigate the effective size of local labour markets. Our approach treats geographic space as continuous, as opposed to a collection of nonoverlapping administrative units, thus avoiding problems of mismeasurement of local labour markets encountered in previous work. We develop a theory of job search across space that allows us to estimate a matching process with a very large number of areas. Estimates of this model show that the cost of distance is relatively high - the utility of being offered a job decays at exponential rate around 0.3 with distance (in km) to the job - so that labour markets are indeed quite ‘local’. Also, workers are discouraged from applying to jobs in areas where they expect relatively strong competition from other jobseekers. The estimated model replicates fairly accurately actual commuting patterns across neighbourhoods, although it tends to underpredict the proportion of individuals who live and work in the same ward. Finally, we find that, despite the fact that labour markets are relatively ‘local’, local development policies are fairly ineffective in raising the local unemployment outflow, because labour markets overlap, and the associated ripple effects in applications largely dilute the impact of local stimulus across space.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1101.pdf

Spatial Exporters

Fabrice Defever Benedikt Heid Mario Larch

CEPDP1100. December 2011.In this paper, we provide evidence that expanding firms tend to serve new markets which are geographically close and culturally related to their prior export destinations. We quantify the impact of this spatial pattern using a Chinese firm-level data set. To ensure an exogenous set of potential new destinations (25 EU countries, US and Canada) and an exogenous timing of entry, we focus on firms that benefited from the abrupt end of the textile quota restrictions in 2005. Controlling for firmproduct and destination specific effects and ac- counting for possible multiple new export destinations we show that the probability to export to a country increases by 15 to 38 percent for each prior export destination with a geographical or cultural link with this country.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1100.pdf

Change and Persistence in the German Model of Collective Bargaining and Worker Representation

John T. Addison Alex Bryson André Pahnke Paulino Teixeira

CEPDP1099. November 2011.This paper depicts and examines the decline in collective bargaining coverage in Germany. Using repeat cross-section and longitudinal data from the IAB Establishment Panel, we show the overwhelming importance of behavioral as opposed to compositional change and, for the first time, document workplace transitions into and out of collective agreeements via survival analysis. We provide estimates of the median duration of coverage, and report that the factors generating entry and exit are distinct and symmetric.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1099.pdf

Anorexia, Body Image and Peer Effects: Evidence from a Sample of European Women

Joan Costa Font Mireia Jofre-Bonet

CEPDP1098. November 2011.Excessive preoccupation with self-image (or identity) is regarded as a factor contributing to the proliferation of food disorders, especially among young women. This paper models how self-image and peer effects influence health-related behaviours, specifically food disorders. We empirically test our claims using data from the European survey. Our findings suggest that the larger the peers’ body-mass, the lower the likelihood of being anorexic. Self-image is correlated with body weight. We use several definitions of peers’ body mass and we find that all are negatively associated with the likelihood of women being thin or extremely thin.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1098.pdf

HRM and Workplace Motivation: Incremental and Threshold Effects

Alex Bryson Michael White

CEPDP1097. November 2011.The HRM-performance linkage often invokes an assumption of increased employee commitment to the organization and other positive effects of a motivational type. We present a theoretical framework in which motivational effects of HRM are conditional on its intensity, utilizing especially the idea of HRM ‘bundling’. We then analyse the association between HRM practices and employees’ organisational commitment (OC) and intrinsic job satisfaction (IJS). HRM practices have significantly positive relationships with OC and IJS chiefly at high levels of implementation, but with important distinctions between the domain-level analysis (comprising groups of practices for specific domains such as employee development) and the across-domain or HRM-system level. Findings support a threshold interpretation of the link between HRM domains and employee motivation, but at the system-level both incremental and threshold models receive some support.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1097.pdf

Worktime Regulations and Spousal Labor Supply

Dominique Goux Eric Maurin Barbara Petrongolo

CEPDP1096. November 2011.We investigate cross-hour effects in spousal labor supply exploiting independent variation in hours worked generated by the introduction of the short workweek in France in the late 1990s. We find that female and male employees treated by the shorter legal workweek reduce their weekly labor supply by about 2 hours, and do not experience any reduction in their monthly earnings. While wives of treated men do not seem to adjust their working time at either the intensive or extensive margins, husbands of treated wives respond by cutting their labor supply by about half an hour to one hour per week, according to specifications and samples. Further tests reveal that husbands’ labor supply response did not entail the renegotiation of usual hours with employers or changes in earnings, but involved instead a reduction in (unpaid) work involvement, whether within a given day, or through an increase in the take-up rate of paid vacation and/or sick leave. These margins of adjustment are shown to have no detrimental impact on men’s (current) earnings. The estimated cross-hour effects are consistent with the presence of spousal leisure complementarity for husbands, though not for wives.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1096.pdf

Does High Involvement Management Improve Worker Wellbeing?

Alex Bryson Petri Böckerman Pekka Ilmakunnas

CEPDP1095. November 2011.Employees exposed to high involvement management (HIM) practices have higher subjective wellbeing, fewer accidents but more short absence spells than “like” employees not exposed to HIM. These results are robust to extensive work, wage and sickness absence history controls. We present a model which highlights the possibility of higher short-term absence in the presence of HIM because it is more demanding than standard production and because multi-skilled HIM workers cover for one another’s short absences thus reducing the cost of replacement labour faced by the employer. We find direct empirical support for the assumptions in the model. Consistent with the model, because long-term absences entail replacement labour costs for HIM and non-HIM employers alike, long-term absences are independent of exposure to HIM.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1095.pdf

Measuring the (Income) Effect of Disability Insurance Generosity on Labour Market Participation

Olivier Marie Judit Vall Castello

CEPDP1094. November 2011.We analyze the employment effect of a law that provides for a 36 percent increase in the generosity of disability insurance (DI) for claimants who are, as a result of their lack of skills and of the labour market conditions they face, deemed unlikely to find a job. The selection process for treatment is therefore conditional on having a low probability of employment, making evaluation of its effect intrinsically difficult. We exploit the fact that the benefit increase is only available to individuals aged 55 or older, estimating its impact using a regression discontinuity approach. Our first results indicate a large drop in employment for disabled individuals who receive the increase in the benefit. Testing for the linearity of covariates around the eligibility age threshold reveals that the age at which individuals start claiming DI is not continuous: the benefit increase appears to accelerate the entry rate of individuals aged 55 or over. We obtain new estimates excluding this group of claimants, and find that the policy decreases the employment probability by 8 percent. We conclude that the observed DI generosity elasticity of 0.22 on labour market participation is mostly due to income effects since benefit receipt is not work contingent in the system studied.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1094.pdf

Gender Gaps Across Countries and Skills: Supply, Demand and the Industry Structure

Claudia Olivetti Barbara Petrongolo

CEPDP1093. November 2011.The gender wage gap varies widely across countries and across skill groups within countries. Interestingly, there is a positive cross-country correlation between the unskilled- to-skilled gender wage gap and the corresponding gap in hours worked. Based on a canonical supply and demand framework, this positive correlation would reveal the presence of net demand forces shaping gender differences in labor market outcomes across skills and countries. We use a simple multi-sector framework to illustrate how differences in labor demand for different inputs can be driven by both within-industry and between-industry factors. The main idea is that, if the service sector is more developed in the US than in continental Europe, and unskilled women tend to be over-represented in this sector, we expect unskilled women to suffer a relatively large wage and/or employment penalty in the latter than in the former. We find that, overall, the between-industry component of labor demand explains more than half of the total variation in labor demand between the US and the majority of countries in our sample, as well as one-third of the correlation between wage and hours gaps. The between-industry component is relatively more important in countries where the relative demand for unskilled females is lowest.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1093.pdf

Wishful Thinking

Guy Mayraz

CEPDP1092. November 2011.An experiment tested whether and in what circumstances people are more likely to believe an event simply because it makes them better off. Subjects observed a financial asset's historical price chart, and received both an accuracy bonus for predicting the price at some future point, and an unconditional award that was either increasing or decreasing in this price. Despite incentives for hedging, subjects gaining from high prices made significantly higher predictions than those gaining from low prices. The magnitude of the bias was smaller in charts with less subjective uncertainty, but was independent of the amount paid for accurate predictions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1092.pdf

Resource Windfalls, Political Regimes, and Political Stability

Francesco Caselli Andrea Tesei

CEPDP1091. November 2011.We study theoretically and empirically whether natural resource windfalls affect political regimes. We document the following regularities. Natural resource windfalls have no effect on the political system when they occur in democracies. However, windfalls have significant political consequences in autocracies. In particular, when an autocratic country receives a positive shock to its flow of resource rents it responds by becoming even more autocratic. Furthermore, there is heterogeneity in the response of autocracies. In deeply entrenched autocracies the effect of windfalls on politics is virtually nil, while in moderately entrenched autocracies windfalls significantly exacerbate the autocratic nature of the political system. To frame the empirical work we present a simple model in which political incumbents choose the degree of political contestability by deciding how much to spend on vote-buying, bullying, or outright repression. Potential challengers decide whether or not to try to unseat the incumbent and replace him. The model uncovers a reason for the asymmetric impact of resource windfalls on democracies and autocracies, as well as the differential impact within autocratic regimes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1091.pdf

Factor Proportions and International Business Cycles

Keyu Jin Nan Li

CEPDP1090. November 2011.Positive investment comovements across OECD economies as observed in the data are difficult to replicate in open-economy real business cycle models, but also vary substantially in degree for individual country-pairs. This paper shows that a two-country stochastic growth model that distinguishes sectors by factor intensity (capital-intensive vs. labor-intensive) gives rise to an endogenous channel of the international transmission of shocks that first, can substantially ameliorate the “quantity anomalies” that mark large open-economy models, and second, generate a cross-sectional prediction that is strongly supported by the data: investment correlations tend to be stronger for country-pairs that exhibit greater disparity in the factor-intensity of trade. In addition, three new pieces of evidence support the central mechanism: (1) the production composition of capital versus labor-intensive sectors changes over the business cycle; (2) the prices of capital-intensive goods and labor-intensive goods are respectively, procyclical and countercyclical; (3) a positive productivity shock in the U.S. tilts the composition of production towards capital-intensive sectors in other countries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1090.pdf

Do Giant Oilfield Discoveries Fuel Internal Armed Conflicts?

Yu-Hsiang Lei Guy Michaels

CEPDP1089. November 2011.We use new data to examine the effects of giant oilfield discoveries around the world since 1946. On average, these discoveries increase per capita oil production and oil exports by up to 50 percent. But these giant oilfield discoveries also have a dark side: they increase the incidence of internal armed conflict by about 5-8 percentage points. This increased incidence of conflict due to giant oilfield discoveries is especially high for countries that had already experienced armed conflicts or coups in the decade prior to discovery.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1089.pdf

Firm Performance and Wages: Evidence from Across the Corporate Hierarchy

Brian Bell John Van Reenen

CEPDP1088. November 2011.Does it matter whether you work for a successful company? And if so, does it matter who you are? To answer these questions we construct a unique panel dataset covering the pay of all CEOs, senior managers and a fully representative sample of workers for a large group of publicly-listed companies covering just under 90% of the market capitalization of the UK stock market. We show that senior management appear to have pay that is strongly associated with various measures of firm performance (such as shareholder returns and quasi-rents), while workers’ pay is only weakly associated with such measures. A 10% increase in firm value is associated with an increase of 3% in CEO pay but only 0.2% in average workers’ pay. Falls in firm performance are also followed by CEO pay cuts and significantly more CEO firings. This is essentially a result of the responsiveness of flexible pay to performance and only senior executives have a large enough share of pay in bonuses to generate a sizeable overall effect on pay. External control matters for pay - firms with lower levels of institutional ownership have smaller pay-performance elasticities for CEOs and do not cut their pay when performance is poor.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1088.pdf

The Role of Educational Quality and Quantity in the Process of Economic Development

Amparo Castelló-Climent Ana Hidalgo-Cabrillana

CEPDP1087. November 2011.We develop a theory of human capital investment to study the channels through which students react to school quality when deciding on investments in secondary education and above, and to study how educational quality affects economic growth. In a dynamic general equilibrium closed economy, primary education is mandatory but there is an opportunity to continue on in education, which is a private choice. High-quality education increases the returns to schooling, and hence the incentives to accumulate human capital. This is caused by two main effects: higher quality makes higher education accessible to more people (extensive channel), and once individuals decide to participate in higher education, higher quality increases the volume of investment made per individual (intensive channel). Furthermore, educational quality plays a central role in explaining the composition of human capital and the long-run level of income. Cross-country data evidence shows that the proposed channels are quantitatively important and that the effect of the quality and quantity of education on growth depends on the stage of development.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1087.pdf

Mass Education or a Minority Well Educated Elite in the Process of Development: the Case of India

Amparo Castelló-Climent Abhiroop Mukhopadhyay

CEPDP1086. November 2011.This paper analyses whether in developing countries mass education is more growth enhancing than to have a minority well educated elite. Using the Indian census data as a benchmark and enrollment rates at different levels of education we compute annual attainment levels for a panel of 16 Indian states from 1961 to 2001. Results indicate that if the reduction of illiteracy stops at the primary level of education, it is not worthwhile for growth. Instead, the findings reveal a strong and robust significant effect on growth of a greater share of population completing tertiary education. The economic impact is also found to be very large: if one percent of the adult population were to complete tertiary education instead of completing only primary, the annual growth rate could increase by about 4 percentage points. Moreover, we find that a one percentage change in tertiary education has the same effect on growth as a decrease in illiteracy by 13 percentage points. A sensitivity analysis shows the results are unlikely to be driven by omitted variables, structural breaks, reverse causation or atypical observations.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1086.pdf

Heterogeneous Firm-Level Responses to Trade Liberalisation: A Test Using Stock Price Reactions

Holger Breinlich

CEPDP1085. November 2011.This paper presents novel empirical evidence on key predictions of heterogeneous firm models by examining stock market reactions to the Canada-United States Free Trade Agreement of 1989 (CUSFTA). Using the uncertainty surrounding the agreement’s ratification, I show that the pattern of abnormal returns of Canadian manufacturing …firms was broadly consistent with the predictions of a class of models based on Melitz (2003). Increases in the likelihood of ratification led to stock market gains of exporting firms relative to non-exporters. Moreover, gains were higher in sectors with larger cuts in U.S. import tariffs. Decreases in the likelihood of ratification led to opposite stock market reactions. Results for the impact of Canadian tariff reductions are less conclusive but most specifications suggest that exporters also gained relative to non-exporters in response to such reductions. Translating stock market gains into implied profit changes, I find that CUSFTA increased expected per-period profits of exporters by around 6-7% relative to non-exporters.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1085.pdf

The Empirics of Firm Heterogeneity and International Trade

Andrew B. Bernard J. Bradford Jensen Stephen J. Redding Peter K. Schott

CEPDP1084. October 2011.This paper reviews the empirical evidence on firm heterogeneity in international trade. A first wave of empirical findings from micro data on plants and firms proposed challenges for existing models of inter- national trade and inspired the development of new theories emphasizing firm heterogeneity. Subsequent empirical research has examined additional predictions of these theories and explored other dimensions of the data not originally captured by them. These other dimensions include multi-product firms, offshoring, intra-firm trade and firm export market dynamics.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1084.pdf

In Search of a Theory of Debt Management

Elisa Faraglia Albert Marcet Andrew Scott

CEPDP1083. October 2011.A growing literature integrates debt management into models of optimal fiscal policy. One promising theory argues the composition of government debt should be chosen so that fluctuations in its market value offsets changes in expected future deficits. This complete market approach to debt management is valid even when governments only issue non-contingent bonds. Because bond returns are highly correlated it is known this approach implies asset positions which are large multiples of GDP. We show, analytically and numerically, across a wide range of model specifications (habits, productivity shocks, capital accumulation, persistent shocks, etc) that this is only one of the weaknesses of this approach. We find evidence of large fluctuations in positions, enormous changes in portfolios for minor changes in maturities issued and no presumption it is always optimal to issue long term debt and invest in short term assets. We show these extreme, volatile and unstable features are undesirable from a practical perspective for two reasons. Firstly the fragility of the optimal portfolio to small changes in model specification means it is frequently better for fear of model misspecification to follow a balanced budget rather than issue the optimal debt structure. Secondly we show for even miniscule levels of transaction costs governments would prefer a balanced budget rather than the large and volatile positions the complete market approach recommends. We conclude it is difficult to insulate fiscal policy from shocks using the complete markets approach. Due to the yield curve’s limited variability maturities are a poor way to substitute for state contingent debt. As a result the recommendations of this approach conflict with a number of features we believe are integral to bond market incompleteness e.g. allowing for transaction costs, liquidity effects, robustness etc. Our belief is that market imperfections need to be explicitly introduced into the model and incorporated into the portfolio problem. Failure to do so means that the complete market approach applied in an incomplete market setting can be seriously misleading.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1083.pdf

A Many-Country Model of Industrialization

Holger Breinlich Alejandro Cuñat

CEPDP1082. September 2011.We draw attention to the role of economic geography in explaining important cross-sectional facts which are difficult to account for in existing models of industrialization. By construction, closed-economy models that stress the role of local demand in generating sufficient expenditure on manufacturing goods are not suited to explain the strong and negative correlation between distance to the world’s main markets and levels of manufacturing activity in the developing world. Secondly, open-economy models that emphasize the importance of comparative advantage are at odds with a positive correlation between the ratio of agricultural to manufacturing productivity and shares of manufacturing in GDP. This paper provides a potential explanation for these puzzles by nesting the above theories in a multi-location model with trade costs. Using a number of simple analytical examples and a full-scale multi-country calibration, we show that the model can replicate the above stylized facts.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1082.pdf

Productivity, Wages and Marriage: The Case of Major League Baseball

Francesca Cornaglia Naomi E. Feldman

CEPDP1081. September 2011.The effect of marriage on productivity and, consequently, wages has been long debated in economics. A primary explanation for the impact of marriage on wages has been through its impact on productivity, however, there has been no direct evidence for this. In this paper, we aim to fill this gap by directly measuring the impact of marriage on productivity using a sample of professional baseball players from 1871 - 2007. Our results show that only lower ability men see an increase in productivity, though this result is sensitive to the empirical specification and weakly significant. In addition, despite the lack of any effect on productivity, high ability married players earn roughly 16 - 20 percent more than their single counterparts. We discuss possible reasons why employers may favor married men.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1081.pdf

The Wealth and Poverty of Nations: True PPPs for 141 Countries

Nicholas Oulton

CEPDP1080. September 2011.I set out a new method for estimating true (Konüs) PPPs. Household consumption per head deflated by these PPPs answers the question: by how much must the average expenditure per head of poor country A be increased to enable the typical inhabitant of A to enjoy the same utility level as the typical inhabitant of rich country B? Conventional multilateral PPPs for household consumption, such as the ones published by the World Bank, are not based explicitly on economic theory. So it is not clear that they can answer the question above, particularly if consumer demand is not homothetic. And there is overwhelming empirical evidence against homotheticity. The estimates of the standard of living in this paper are based on the economic theory of consumer demand. The main tool is the expenditure function. It turns out that it is not necessary to estimate all the parameters of the expenditure function but only the relatively small number which measure the consumer’s response to income changes. This makes the method feasible even when there are large numbers of products. The method is applied to 141 countries included in the World Bank’s 2005 International Comparison Program, at the level of 100 products. The results give strong support for nonhomotheticity and also for the importance of background factors such as climate, demography, culture and religion. The gap between the richest and the poorest countries is wider than when household consumption is deflated by a conventional multilateral index such as the World Bank’s PPP for consumption.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1080.pdf

Fear and the Response to Terrorism: An Economic Analysis

Gary S. Becker Yona Rubinstein

CEPDP1079. September 2011.This paper offers a rational approach to the economics and psychology of fear and provides empirical evidence that supports our theory. We explicitly consider both the impact of danger on emotions and the distortive effect of fear on subjective beliefs and individual choices. Yet, we also acknowledge individuals’ capacity to manage their emotions. Though costly, people can learn to control their fear and economic incentives affect the degree to which they do so. Since it does not pay back the same returns to everyone, people will differ in their reaction to impending danger. We then empirically examine the response of Israelis to terror incidents during the "Al-Aqsa" Intifada. Consistent with our theory, the overall impact of attacks on the usage of goods and services subject to terror attacks (e.g. bus services, coffee shops) reflects solely the reactions of occasional users. We find no impact of terrorist attacks on the demand for these goods and services by frequent users. Education and the exposure to media coverage also matters. We find a large impact of suicide attacks during regular media coverage days, and almost no impact of suicide attacks when they are followed by either a holiday or a weekend, especially among the less educated families and among occasional users.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1079.pdf

Optimal Unemployment Insurance Over the Business Cycle

Camille Landais Pascal Michaillat Emmanuel Saez

CEPDP1078. September 2011.This paper characterizes optimal unemployment insurance (UI) over the business cycle using a model of equilibrium unemployment in which jobs are rationed in recession. It offers a simple optimal UI formula that can be applied to a broad class of equilibrium unemployment models. In addition to the usual statistics (risk aversion and micro-elasticity of unemployment with respect to UI), a macro-elasticity appears in the formula to capture the macroeconomic impact of UI on unemployment. In a model with job rationing, the formula implies that optimal UI is countercyclical. This result arises because in recession, jobs are lacking irrespective of job search. Therefore (1) a higher aggregate search effort cannot reduce aggregate unemployment much; and (2) individual search effort creates a negative externality by reducing other jobseekers’ probability of finding a job as in a rat race. Hence the social benefits of job search are low. In a calibrated model, optimal UI increases significantly in recession. This quantitative result holds whether the government adjusts the level or duration of benefits; whether it balances its budget each period or uses deficit spending.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1078.pdf

Stock Market Volatility and Learning

Klaus Adam Albert Marcet Juan Pablo Nicolini

CEPDP1077. September 2011.We study a standard consumption based asset pricing model with rationally investing agents but allow agents’ prior beliefs about price and dividend behavior to deviate slightly from rational expectations priors. Learning about stock price behavior then causes the model to become quantitatively consistent with a range of basic asset prizing ‘puzzles’: stock returns display momentum and mean reversion, asset prices become volatile, the price-dividend ratio displays persistence, long-horizon returns become predictable and a risk premium emerges. Comparing the moments of the model with those in the data using confidence bands from the method of simulated moments, we show that our findings are robust to different assumptions on the system of beliefs and other model features. We depart from previous studies of asset prices under learning in that agents form expectations about future stock prices using past price observations.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1077.pdf

The Minimum Wage and Inequality - The Effects of Education and Technology

Zsófia L. Bárány

CEPDP1076. September 2011.While there has been intense debate in the empirical literature about the effects of minimum wages on inequality in the US, its general equilibrium effects have been given little attention. In order to quantify the full effects of a decreasing minimum wage on inequality, I build a dynamic general equilibrium model, based on a two-sector growth model where the supply of high-skilled workers and the direction of technical change are endogenous. I find that a permanent reduction in the minimum wage leads to an expansion of low-skilled employment, which increases the incentives to acquire skills, thus changing the composition and size of high-skilled employment. These permanent changes in the supply of labour alter the investment flow into R&D, thereby decreasing the skill-bias of technology. The reduction in the minimum wage has spill-over effects on the entire distribution, affecting upper-tail inequality. Through a calibration exercise, I find that a 30 percent reduction in the real value of the minimum wage, as in the early 1980s, accounts for 15 percent of the subsequent rise in the skill premium, 18.5 percent of the increase in overall inequality, 45 percent of the increase in inequality in the bottom half, and 7 percent of the rise in inequality at the top half of the wage distribution.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1076.pdf

Rising Wage Inequality and Postgraduate Education

Joanne Lindley Stephen Machin

CEPDP1075. September 2011.This paper considers what has hitherto been a relatively neglected subject in the wage inequality literature, albeit one that has been becoming more important over time, namely the role played by increases in postgraduate education. We document increases in the number of workers with a postgraduate qualification in the United States and Great Britain. We also show their relative wages have risen over time as compared to all workers and more specifically to graduates with only a college degree. Consideration of shifts in demand and supply shows postgraduates and college only workers to be imperfect substitutes in production and that there have been trend increases over time in the relative demand for postgraduate vis-à-vis college only workers. These relative demand shifts are significantly correlated with technical change as measured by changes in industry computer usage and investment. Moreover, the skills sets possessed by postgraduates and the occupations in which they are employed are significantly different to those of college only graduates. Over the longer term period when computers have massively diffused into workplaces, it turns out that the principal beneficiaries of this computer revolution has not been all graduates, but those more skilled workers who have a postgraduate qualification. This has been an important driver of rising wage inequality amongst graduates over time.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1075.pdf

First Impressions Matter: Signalling as a Source of Policy Dynamics

Stephen Hansen Michael McMahon

CEPDP1074. September 2011.We first establish that policymakers on the Bank of England's Monetary Policy Committee choose lower interest rates with experience. We then reject increasing confidence in private information or learning about the structure of the macroeconomy as explanations for this shift. Instead, a model in which voters signal their hawkishness to observers better fits the data. The motivation for signalling is consistent with wanting to control inflation expectations, but not career concerns or pleasing colleagues. There is also no evidence of capture by industry. The paper suggests that policy-motivated reputation building may be important for explaining dynamics in experts’ policy choices.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1074.pdf

Advertising Expenditure and Consumer Prices

Ferdinand Rauch

CEPDP1073. August 2011.This paper studies the effect of a change in the marginal costs of advertising on advertising expenditures of firms and consumer prices across industries. It makes use of a unique policy change that caused a decrease of the taxation on advertising expenditures in parts of Austria and a simultaneous increase in other parts. Advertising expenditures move immediately in the opposite direction to the marginal costs of advertising. Simultaneously the price reaction to advertising is negative in some industries (food, education) and positive in other industries (alcohol, tobacco, transportation, hotels and restaurants), depending on the information content of advertising. The paper reconciles these findings using a model that contains informative and persuasive forces of advertising.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1073.pdf

Trading and Enforcing Patent Rights

Alberto Galasso Mark Schankerman Carlos J. Serrano

CEPDP1072. August 2011.We study how the market for innovation affects enforcement of patent rights. Conventional wisdom associates the gains from trade with comparative advantage in manufacturing or marketing. We show that these gains imply that patent transactions should increase litigation risk. We identify a new source of gains from trade, comparative advantage in patent enforcement, and show that transactions driven by this motive should reduce litigation. Using data on trade and litigation of individually-owned patents in the U.S., we exploit variation in capital gains tax rates as an instrument to identify the causal effect of trade on litigation. We find that taxes strongly affect patent transactions, and that reallocation of patent rights reduces litigation risk, on average. The impact of trade on litigation is heterogeneous, however. Patents with larger potential gains from trade are more likely to change ownership, suggesting that the market for innovation is efficient. We also show that the impact of trade on litigation depends on characteristics of the transactions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1072.pdf

A Model for the Delivery of Evidence-Based PSHE (Personal Wellbeing) in Secondary Schools

John Coleman Daniel Hale Richard Layard

CEPDP1071. August 2011.Personal Social Health and Economic (PSHE) education is a non-statutory school subject designed to facilitate the delivery of a number of key competencies relevant to health, safety and wellbeing. As well as contributing to learning objectives in regards to these topics PSHE education has been ascribed with weighty expectations for outcomes well beyond the classroom relating to physical, mental, sexual and emotional health and safety. This paper reviews a programme of research aimed at providing guidance for the evidence-based provision of PSHE education, including a summary of the major impediments and facilitators of evidence-based programming, as well as a model curriculum for the delivery of evidence-based PSHE. An extensive literature review was conducted along with a series of interviews with programme developers, researchers, teachers and other school practitioners with the aim of developing a cohesive rationale for PSHE education and identifying evidence-based programmes which could be implemented to contribute to PSHE aims. The proposed model curriculum is comprised of evidence-based programmes which are PSHE-relevant and applicable or adaptable to the PSHE-education implementation context. While the provision of evidence-based PSHE presents a number of challenges and is limited by a lack of resources and evidence of effectiveness, with appropriate guidance PSHE education can be improved so that a comprehensive syllabus of evidence-based programmes is enacted in secondary schools. This will increase the likelihood that PSHE has the intended effect on adolescent mental and physical health and wellbeing.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1071.pdf

Individual Voice in Employment Relationships: A Comparison Under Different Forms of Workplace Representation

David Marsden

CEPDP1070. August 2011.This article considers the role of individual employee voice in regulating the ‘zone of acceptance’ within the employment relationship, and examines the extent to which different models of collective voice inhibit or foster the operation of individual voice. It focuses especially on the role of representatives who deal with job-level grievances who operate within contrasted frameworks of collective voice. In one, representation is negotiated with the employer, and in the other, it is based on rights established in employment law. The former is commonly associated with shop stewards and unions, and the latter with employee delegates and works councils. It is argued that whereas in the negotiated model individual and collective voice are substitutes, in the rights-based one they are complements. The article also considers how this may alter under dual-channel representation based on both unions and councils, which is very common in European workplaces. Britain provides an example of the negotiated model, and France of both the rights-based and dual-channel models. These ideas are tested using data from the 2004 British and French workplace employment relations surveys, and confirmed using data from the 1998 surveys.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1070.pdf

Racial Discrimination and Competition

Ross Levine Alexey Levkov Yona Rubinstein

CEPDP1069. August 2011.We provide the first assessment of whether an intensification of product market competition reduces the racial wage gap exactly where taste-based theories predict that competition will reduce labor market discrimination. in economies where employers have strong racial prejudices. We use bank deregulation across the U.S. states to identify an intensification of competition among banks, which in turn lowered entry barriers facing nonfinancial firms, especially firms that depend heavily on bank credit. Consistent with taste-based theories, we find that competition boosted blacks’ relative residual wages within the banking industry and bank-dependent industries, but only in states with strong tastes for discrimination.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1069.pdf

Internal Rationality, Imperfect Market Knowledge and Asset Prices

Klaus Adam Albert Marcet

CEPDP1068. August 2011.We present a decision theoretic framework in which agents are learning about market behavior and that provides microfoundations for models of adaptive learning. Agents are ‘internally rational’, i.e., maximize discounted expected utility under uncertainty given dynamically consistent subjective beliefs about the future, but agents may not be ‘externally rational’, i.e., may not know the true stochastic process for payoff relevant variables beyond their control. This includes future market outcomes and fundamentals. We apply this approach to a simple asset pricing model and show that the equilibrium stock price is then determined by investors’ expectations of the price and dividend in the next period, rather than by expectations of the discounted sum of dividends. As a result, learning about price behavior affects market outcomes, while learning about the discounted sum of dividends is irrelevant for equilibrium prices. Stock prices equal the discounted sum of dividends only after making very strong assumptions about agents’ market knowledge.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1068.pdf

A Simple Theory of Managerial Talent, Pay Contracts and Wage Distribution

Yanhui Wu

CEPDP1067. August 2011.This paper develops a simple theory of pay structures and pay levels across heterogeneous agents by bringing together optimal contracts inside the firm and competitive resource allocation in the market. The central idea is that more talented people tend to create greater value but face larger conflicts of interest in their employment relationship, and different pay contracts are optimally designed to mitigate different levels of agency problems. Sorted by their talent, people are stratified into production workers, self-employed, salaried managers with low-powered performance pay, and CEOs with high-powered equity-based pay. In a general equilibrium framework, I show that the sorting of managerial talent into pay contracts is tied to firm size. The theory highlights that high-powered incentive pay and large scales of operations cause the disproportionately large wage earnings at the top, and are the main source of income inequality. Market forces that reallocate resources from smaller to larger firms tend to increase the threshold talent for becoming a manager, increase the prevalence of high-powered incentive pay, raise the top earnings, and spread out the wage distribution.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1067.pdf

Managerial Incentives and Compensation in a Global Market

Yanhui Wu

CEPDP1066. August 2011.This paper embeds a principal-agent firm in an otherwise standard trade model a la Melitz (2003) to investigate the impact of globalization on the provision of managerial incentives and on the distribution of managerial compensation. Facing contractual frictions due to limited liability, firms with heterogeneous productivity endogenously sort into different pay structures to mitigate different levels of agency problems. More productive firms use a higher-powered incentive contract while less productive firms use a lowered- powered one. International trade within an industry enhances market competition, inducing resources reallocated from low productivity domestic firms to high productivity exporting .rms. The uneven effects of international trade on firms that differ in their exporting status and pay structure result in more prevalence of high-powered incentive pay, a larger wage gap between managers and production workers, and a higher level of wage inequality among managers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1066.pdf

The Land that Lean Manufacturing Forgot? Management Practices in Transition Countries

Nicholas Bloom Helena Schweiger John Van Reenen

CEPDP1065. July 2011.We have conducted the first survey on management practices in transition countries. We found that Central Asian transition countries, such as Uzbekistan and Kazakhstan, have on average very poor management practices. Their average scores are below emerging countries such as Brazil, China and India. In contrast, the central European transition countries such as Poland and Lithuania operate with management practices that are only moderately worse than those of western European countries such as Germany. Since we find these practices are strongly linked to firm performance, this suggests poor management practices may be impeding the development of Central Asian transition countries. We find that competition, multinational ownership, private ownership and human capital are all strongly correlated with better management. This implies that the continued opening of markets to domestic and foreign competition, privatisation of state-owned firms and increased levels of workforce education should promote better management, and ultimately faster economic growth.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1065.pdf

House Price Booms and the Current Account

Klaus Adam Pei Kuang Albert Marcet

CEPDP1064. July 2011.A simple open economy asset pricing model can account for the house price and current account dynamics in the G7 over the years 2001-2008. The model features rational households, but assumes that households entertain subjective beliefs about price behavior and update these using Bayes’ rule. The resulting beliefs dynamics considerably propagate economic shocks and crucially contribute to replicating the empirical evidence. Belief dynamics can temporarily delink house prices from fundamentals, so that low interest rates can fuel a house price boom. House price booms, however, are not necessarily synchronized across countries and the model correctly predicts the heterogeneous response of house prices across the G7, following the fall in real interest rates at the beginning of the millennium. The response to interest rates depends sensitively on agents’ beliefs at the time of the interest rate reduction, which are a function of the prior history of disturbances hitting the economy. According to the model, the US house price boom could have been largely avoided, if real interest rates had decreased by less after the year 2000.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1064.pdf

How Experts Decide: Identifying Preferences versus Signals from Policy Decisions

Stephen Hansen Michael McMahon

CEPDP1063. July 2011.A large theoretical literature assumes that experts di ffer in terms of preferences and the distribution of their private signals, but the empirical literature to date has not separately identi ed them. This paper proposes a novel way of doing so by relating the probability a member chooses a particular policy decision to the prior belief that it is correct. We then apply this methodology to study diff erences between internal and external members on the Bank of England's Monetary Policy Committee. Using a variety of proxies for the prior, we provide evidence that they di ffer significantly on both dimensions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1063.pdf

A Step towards Valuing Utility the Marginal and Cardinal Way

Paul Dolan Daniel Fujiwara Robert Metcalfe

CEPDP1062. July 2011.Income has a direct impact on our utility as well as an indirect impact through the goods, services and life events it allows us to purchase. The indirect effect of income is not properly accounted for in existing research that uses measures of cardinal utility for economic analysis. We propose a new approach for appropriately attributing the full effects of income on utility and we show the implications of our approach using a longitudinal dataset that contains reports of subjective wellbeing (SWB). We show that income has a much greater effect on SWB when indirect effects are considered. These results have important implications for how we value the marginal benefits of non-market goods and we explore some of these issues in the paper

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1062.pdf

Autoregressions in Small Samples, Priors about Observables and Initial Conditions

Marek Jarocinski Albert Marcet

CEPDP1061. July 2011.We propose a benchmark prior for the estimation of vector autoregressions: a prior about initial growth rates of the modelled series. We first show that the Bayesian vs frequentist small sample bias controversy is driven by different default initial conditions. These initial conditions are usually arbitrary and our prior serves to replace them in an intuitive way. To implement this prior we develop a technique for translating priors about observables into priors about parameters. We find that our prior makes a big difference for the estimated persistence of output responses to monetary policy shocks in the United States.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1061.pdf

Leveraging Monopoly Power by Degrading Interoperability: Theory and Evidence from Computer Markets

Christos Genakos Kai Uwe Kühn John Van Reenen

CEPDP1060. July 2011.When will a monopolist have incentives to foreclose a complementary market by degrading compatibility/interoperability of his products with those of rivals? We develop a framework where leveraging extracts more rents from the monopoly market by “restoring” second degree price discrimination. In a random coefficient model with complements we derive a policy test for when incentives to reduce rival quality will hold. Our application is to Microsoft’s strategic incentives to leverage market power from personal computer to server operating systems. We estimate a structural random coefficients demand system which allows for complements (PCs and servers). Our estimates suggest that there were incentives to reduce interoperability which were particularly strong at the turn of the 21st Century.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1060.pdf

Booms and Busts in Asset Prices

Klaus Adam Albert Marcet

CEPDP1059. July 2011.We show how low-frequency boom and bust cycles in asset prices can emerge from Bayesian learning by investors. Investors rationally maximize infinite horizon utility but hold subjective priors about the asset return process that we allow to differ infinitesimally from the rational expectations prior. Bayesian updating of return beliefs then gives rise to selfreinforcing return optimism that results in an asset price boom. The boom endogenously comes to an end because return optimism causes investors to make optimistic plans about future consumption. The latter reduces the demand for assets that allow to intertemporally transfer resources. Once returns fall short of expectations, investors revise return expectations downward and set in motion a self-reinforcing price bust. In line with available survey data, the learning model predicts return optimism to comove positively with market valuation. In addition, the learning model replicates the low frequency behavior of the U.S. price dividend ratio over the period 1926-2006.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1059.pdf

The Role of Worker Flows in the Dynamics and Distribution of UK Unemployment

Michael W. L. Elsby Jennifer C. Smith Jonathan Wadsworth

CEPDP1058. July 2011.Unemployment varies substantially over time and across subgroups of the labour market. Worker flows among labour market states act as key determinants of this variation. We examine how the structure of unemployment across groups and its cyclical movements across time are shaped by changes in labour market flows. Using novel estimates of flow transition rates for the UK over the last 35 years, we decompose unemployment variation into parts accounted for by changes in rates of job loss, job finding and flows via non-participation. Close to two-thirds of the volatility of unemployment in the UK over this period can be traced to rises in rates of job loss that accompany recessions. The share of this inflow contribution has been broadly the same in each of the past three recessions. Decreased jobfinding rates account for around one-quarter of unemployment cyclicality and the remaining variation can be attributed to flows via non-participation. Digging deeper into the structure of unemployment by gender, age and education, the flow-approach is shown to provide a richer understanding of the unemployment experiences across population subgroups.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1058.pdf

Incomplete Contracts and the Impact of Globalization on Consumer Welfare

Fabrice Defever

CEPDP1057. July 2011.We embed a North-South trade model into an incomplete contracts setting where the production of heterogeneous firms can be geographically separated. When a Northern headquarter contracts with a Southern supplier instead of a Northern supplier, the presence of international incomplete contracts may lead to a higher price. As a result, trade liberalization, that induces offshoring, is not necessarily welfare-enhancing for consumers, despite the lower cost of labor in the South. In addition, firms which use the supplier's component intensively, offshore their supplier in the South using outsourcing. As trade costs fall, less componentintensive firms also offshore, but by vertically integrating their supplier. We argue that this organizational change increases production-shifting in the South, implying that a larger number of varieties will be produced in the South where contracts are incomplete. We show that, this may reduce consumer welfare in both countries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1057.pdf

The Penn-Belassa-Samuelson Effect in Developing Countries: Price and Income Revisited

Fadi Hassan

CEPDP1056. June 2011.It is conventional wisdom that richer countries have a higher price level than poorer countries. This paper provides evidence that the price-income relationship is non-linear and that it turns negative, or at best flat, in low income countries. The result is robust along both cross-section and time-series dimensions. Additional robustness checks show that biases in PPP estimation and measurement error in low-income countries do not drive the result.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1056.pdf

Recursive Contracts

Albert Marcet Ramon Marimon

CEPDP1055. June 2011.We obtain a recursive formulation for a general class of contracting problems involving incentive constraints. These constraints make the corresponding maximization (sup) problems non recursive. Our approach consists of studying a recursive Lagrangian. Under standard general conditions, there is a recursive saddle-point (infsup) functional equation (analogous to a Bellman equation) that characterizes the recursive solution to the planner's problem and forward-looking constraints. Our approach has been applied to a large class of dynamic contractual problems, such as contracts with limited enforcement, optimal policy design with implementability constraints, and dynamic political economy models.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1055.pdf

Success and Failure of African Exporters

Olivier Cadot Leonardo Iacovone Denisse Pierola Ferdinand Rauch

CEPDP1054. June 2011.Using a novel dataset with transactions level exports data from four African countries (Malawi, Mali, Senegal and Tanzania), this paper uncovers evidence of a high degree of experimentation at the extensive margin associated with low survival rates, consistent with high and middle income country evidence. Consequently, the authors focus on the questions of what determines success and survival beyond the first year and find that survival probability rises with the number of firms exporting the same product to the same destination from the same country, pointing towards the existence of crossfirm synergies. Accordingly the evidence is consistent with the hypothesis that those synergies may be driven by information spillovers. More intuitively and consistently with multi-product firms models, the analysis also finds that firms more diversified in terms of products, but even more in terms of markets, are more likely to be successful and survive beyond the first year.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1054.pdf

Gender, Productivity and the Nature of Work and Pay: Evidence from the Late Nineteenth-Century Tobacco Industry

Björn Eriksson Tobias Karlsson Tim Leunig Maria Stanfors

CEPDP1053. June 2011.Women have, on average, been less well-paid than men throughout history. Prior to 1900, most economic historians see the gender wage gap as a reflection of men’s greater strength and correspondingly higher productivity. This paper investigates the gender wage gap in cigar making around 1900. Strength was rarely an issue, but the gender wage gap was large. Two findings suggest that employers were not sexist. First, differences in earnings by gender for workers paid piece rates can be fully explained by differences in experience and other productivity-related characteristics. Second, conditioning on those characteristics, women were just as likely to be promoted to the better paying piece rate section. Neither finding is compatible with a simple model of sex-based discrimination. Instead, the gender wage gap can be decomposed into two components. First, women were typically less experienced, in an industry in which experience mattered. Second there were some jobs that required strength, for which men were better suited. Because strength was so valuable in the other jobs at this time, men commanded a wage premium in the general labour market, raising their reservation wage. Hiring a man required the firm to pay a ‘man’s wage’. This implies that firms that were slow to feminise their time rate workforce ended up with a higher cost structure than those that made the transition more quickly. We show that firms with a higher proportion of women in their workforce in 1863 were indeed more likely to survive 35 years later.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1053.pdf

The Impact of Chernobyl on Health and Labour Market Performance

Hartmut Lehmann Jonathan Wadsworth

CEPDP1052. May 2011.Using longitudinal data from Ukraine we examine the extent of any long-lasting effects of radiation exposure from the Chernobyl disaster on the health and labour market performance of the adult workforce. The variation in the local area level of radiation fallout from the Chernobyl accident is considered as a random exogenous shock with which to try to establish its causal impact on poor health, labour force participation, hours worked and wages. There appears to be a significant positive association between local area-level radiation dosage and perception of poor health, though much weaker associations between local area-level dosage and other specific self-reported health conditions. There is also some evidence to suggest that those more exposed to Chernobyl-induced radiation have significantly lower levels of labour market performance twenty years on.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1052.pdf

Money and Happiness: Evidence from the Industry Wage Structure

Jörn-Steffen Pischke

CEPDP1051. May 2011.There is a well-established positive correlation between life-satisfaction measures and income in individual level cross-sectional data. This paper attempts to provide some evidence on whether this correlation reflects causality running from money to happiness. I use industry wage differentials as instruments for income. This is based on the idea that at least part of these differentials is due to rents, and part of the pattern of industry affiliations of individuals is random. To probe the validity of these assumptions, I compare estimates for life satisfaction with those for job satisfaction, present fixed effects estimates, and present estimates for married women using their husbands’ industry as the instrument. All these specifications paint a fairly uniform picture across three different data sets. IV estimates are similar to the OLS estimates suggesting that most of the association of income and well-being is causal.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1051.pdf

Spinning Welfare: the Gains from Process Innovation in Cotton and Car Production

Tim Leunig Joachim Voth

CEPDP1050. May 2011.Economists and economic historians want to know how much better life is today than in the past. Fifty years ago economic historians found surprisingly small gains from 19th century US railroads, while more recently economists have found relatively large gains from electricity, computers and cell phones. In each case the implicit or explicit assumption is that researchers were measuring the value of a new good to society. In this paper we use the same techniques to find the value to society of making existing goods cheaper. Henry Ford did not invent the car, and the inventors of mechanised cotton spinning in the industrial revolution invented no new product. But both made existing products dramatically cheaper, bringing them into the reach of many more consumers. That in turn has potentially large welfare effects. We find that the consumer surplus of Henry Ford’s production line was around 2% by 1923, 15 years after Ford began to implement the moving assembly line, while the mechanisation of cotton spinning was worth around 6% by 1820, 34 years after its initial invention. Both are large: of the same order of magnitude as consumer expenditure on these items, and as large or larger than the value of the internet to consumers. On the social savings measure traditionally used by economic historians, these process innovations were worth 15% and 18% respectively, making them more important than railroads. Our results remind us that process innovations can be at least as important for welfare and productivity as the invention of new products.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1050.pdf

Crime and Mental Wellbeing

Francesca Cornaglia Andrew Leigh

CEPDP1049. April 2011.Most estimates of the cost of crime focus on victims. Yet it is plausible that an even larger cost of crime occurs via its indirect impact on the mental wellbeing of non-victims. To test how crime affects individuals’ mental outcomes, we exploit detailed panel data on mental wellbeing, allowing us to observe the relationship between changes in crime in a local area and changes in the mental wellbeing of resident non-victims in that area (controlling for changes in local economic conditions). Our results suggest that increases in crime rates have a negative impact on the mental wellbeing of residents, with the biggest impacts arising from violent crime. We also find that local press coverage of criminal activity enhances the effect of crime on mental well-being.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1049.pdf

Portfolio Allocation and International Risk Sharing

Gianluca Benigno Hande Küçük-Tuger

CEPDP1048. April 2011.Recent contributions have shown that it is possible to account for the so-called consumption-real exchange anomaly in models with goods market frictions where international asset trade is limited to a riskless bond. In this paper, we consider a more realistic international asset market structure and show that as soon as we depart from the single bond economy, we can no longer account for the consumption-real exchange anomaly. Our central result holds for a simple asset market structure in which two nominal bonds are traded across countries. We explore the role of demand shocks such as news shocks in generating meaningful market incompleteness. We show that only under specific settings news shocks can improve the performance of the model in matching the portfolio positions and consumption-real exchange rate correlations that we observe in the data.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/cepdp1048.pdf

Priors and Desires

Guy Mayraz

CEPDP1047. March 2011.This paper offers a simple but powerful model of wishful thinking, cognitive dissonance, and related biases. Choices maximize subjective expected utility, but beliefs depend on the decision maker's interests as well as on relevant information. Simplifying assumptions yield a representation in which the payoff in an event affects beliefs as if it were part of the evidence about its likelihood. A single parameter determines both the direction and weight of this `evidence', with positive values corresponding to optimism and negative values to pessimism. Changes to a person's interests amount to new `evidence', and can alter beliefs even in the absence of new information. The magnitude of the bias increases with the degree of uncertainty and the strength of the decision maker's interests. High stakes can reduce the bias indirectly by increasing incentives to acquire information, but are otherwise consistent with substantial bias. Exploring applications, I show that wishful thinking can lead investors to become progressively more exposed to risk, and that while improved policing unambiguously deters crime, increased punishment may have little or no deterrent value.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1047.pdf

Does High Involvement Management Lead to Higher Pay?

Alex Bryson Petri Böckerman Pekka Ilmakunnas

CEPDP1046. February 2011.Using nationally representative survey data for Finnish employees linked to register data on their wages and work histories we find wage effects of high involvement management (HIM) practices are generally positive and significant. However, employees with better wage and work histories are more likely to enter HIM jobs. The wage premium falls substantially having accounted for employees’ work histories suggesting that existing studies’ estimates are upwardly biased due to positive selection into HIM. Results do not differ significantly when using propensity score matching as opposed to standard regression techniques. The premium rises with the number of HIM practices and differs markedly across different types of HIM practice.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1046.pdf

Seesaw in the Air: Interconnection Regulation and the Structure of Mobile Tariffs

Christos Genakos Tommaso Valletti

CEPDP1045. February 2011.Interconnection rates are a key variable in telecommunications markets. Every call that is placed must be terminated by the network of the receiving party, thus the termination end has the characteristic of an economic bottleneck and is subject to regulation in many countries. This paper examines the impact of regulatory intervention to cut termination rates of calls to mobile phones. We argue that regulatory cuts should have a differential impact according to the type of tariff the mobile customer subscribes to. While all mobile customers may pay higher prices because of a “waterbed” effect, termination rates also affect competition among mobile operators. We show that the waterbed effect is diluted, but not eliminated, for customers with pre-paid cards, where regulation also acts as impediment to “raise-each-other’s-cost” collusive strategies that mobile networks can adopt. The waterbed effect is instead strongest for consumers with monthly (post-paid) subscription contracts.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1045.pdf

Managers' Mobility, Trade Status and Wages

Giordano Mion Luca David Opromolla

CEPDP1044. February 2011.This paper investigates whether the arrival of managers with export experience, i.e. experience acquired through participation in the export activity of previous employers, is related to firms' international trade status and to what extent this relationship is of a causal nature. We construct a worker-firm matched panel dataset which enables us to track managers across different firms over time and observe firms' trading stance as well as a large set of workers' and firms' characteristics. Contrary to blue and white collars, we find that managers are paid a sizeable premium for export experience which has both a level and a trend component. Conditioning for the firm past trade status, we find that a one standard deviation increase in the firm's share of managers' with export experience corresponds to about 35% more chances of starting to export. The impact is stronger for larger firms and is roughly of the same order of magnitude of the firm productivity effect. On the contrary, export experience acquired by managers from previous employers positively affects the capacity to keep exporting in small firms only. To give a causality flavor to our findings, we use in a final step an IV strategy that mimics a random matching between managers with export experience and firms. IV estimations indicate that export experience matters even more for entry while it has no effect on exit.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1044.pdf

Immigration and the Occupational Choice of Natives: A Factor Proportions Approach

Javier Ortega Gregory Verdugo

CEPDP1043. January 2011.This paper evaluates the impact of immigration on the labor market outcomes of natives in France over the period 1962-1999. Combining large (up to 25%) extracts from six censuses and data from Labor Force Surveys, we exploit the variation in the immigrant share across education/experience cells and over time to identify the impact of immigration. In the Borjas (2003) specification, we find that a 10% increase in immigration increases native wages by 3%. However, as the number of immigrants and the number of natives are positively and strongly correlated across cells, the immigrant share may not be a good measure of the immigration shock. When the log of natives and the log of immigrants are used as regressors instead, the impact of immigration on natives’ wages is still positive but much smaller, and natives’ wages are negatively related to the number of natives. To understand this asymmetry and the positive impact of immigration on wages, we explore the link between immigration and the occupational distribution of natives within education/ experience cells. Our results suggest that immigration leads to the reallocation of natives to better-paid occupations within education/experience cells.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1043.pdf

Does Management Matter? Evidence from India

Nicholas Bloom Benn Eifert Aprajit Mahajan David McKenzie John Roberts

CEPDP1042. January 2011.A long-standing question in social science is to what extent differences in management cause differences in firm performance. To investigate this we ran a management field experiment on large Indian textile firms. We provided free consulting on modern management practices to a randomly chosen set of treatment plants and compared their performance to the control plants. We find that adopting these management practices had three main effects. First, it raised average productivity by 11% through improved quality and efficiency and reduced inventory. Second, it increased decentralization of decision making, as better information flow enabled owners to delegate more decisions to middle managers. Third, it increased the use of computers, necessitated by the data collection and analysis involved in modern management. Since these practices were profitable this raises the question of why firms had not adopted these before. Our results suggest that informational barriers were a primary factor in explaining this lack of adoption. Modern management is a technology that diffuses slowly between firms, with many Indian firms initially unaware of its existence or impact. Since competition was limited by constraints on firm entry and growth, badly managed firms were not rapidly driven from the market.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1042.pdf

Did Vietnam Veterans Get Sicker in the 1990s? The Complicated Effects of Military Service on Self-Reported Health

Joshua D. Angrist Stacey H. Chen Brigham R. Frandsen

CEPDP1041. December 2010.The veterans disability compensation (VDC) program, which provides a monthly stipend to disabled veterans, is the third largest American disability insurance program. Since the late 1990s, VDC growth has been driven primarily by an increase in claims from Vietnam veterans, raising concerns about costs as well as health. We use the draft lottery to study the long-term effects of Vietnam-era military service on health and work in the 2000 Census. These estimates show no significant overall effects on employment or work-related disability status, with a small effect on non-work-related disability for whites. On the other hand, estimates for white men with low earnings potential show a large negative impact on employment and a marked increase in non-work-related disability rates. The differential impact of Vietnam-era service on low-skill men cannot be explained by more combat or wartheatre exposure for the least educated, leaving the relative attractiveness of VDC for less skilled men and the work disincentives embedded in the VDC system as a likely explanation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1041.pdf

Anatomy of a Paradox: Management Practices, Organisational Structure and Energy Efficiency

Ralf Martin Mirabelle Muûls Ulrich J. Wagner Laure B. de Preux

CEPDP1039. December 2010.This paper presents new evidence on managerial and organizational factors that explain firm level energy efficiency and TFP. We interviewed managers of 190 randomly selected manufacturing plants in the UK and matched their responses with official business microdata. We find that ‘climate friendly’ management practices are associated with lower energy intensity and higher TFP. Firms that adopt more such practices also engage in more R&D related to climate change. We show that the variation in management practices across firms can be explained in part by organizational structure. Firms are more likely to adopt climate friendly management practices if climate change issues are managed by the environmental or energy manager, and if this manager is close to the CEO. Our results support the view that the “energy efficiency paradox” can be explained by managerial factors and highlight their importance for private-sector innovation that will sustain future growth in energy efficiency.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1039.pdf

Import Competition from and Outsourcing to China: A Curse or Blessing for Firms?

Giordano Mion Linke Zhu

CEPDP1038. December 2010.We use Belgian manufacturing firm-level data over the period 1996- 2007 to analyze the impact of imports from different origins on firm growth, exit, and skill upgrading. For this purpose we use both industry-level and firm-level imports by country of origin and distinguish between firm-level outsourcing of final versus intermediate goods. Results indicate that China is different from both other low-wage and OECD countries. Industry-level import competition and firm-level outsourcing to China reduce firm employment growth and induce skill upgrading. In contrast, industry-level imports have no effect on Belgian firm survival, while firm-level outsourcing of finished goods to China even increased firm's probability of survival. In terms of skill upgrading, the effect of Chinese imports is large. Import competition from China accounts for 42% (20%) of the within firm increase in the share of skilled workers (non-production workers) in Belgian manufacturing over the peri od of our analysis, but these effects, as well as the employment reducing effect, remain mainly in low-tech industries. Firm-level outsourcing to China further accounts for a small but significant increase in the share of non-production workers. This change in employment structure is in line with predictions of recent model of trade-induced technological change and offshoring.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1038.pdf

Individualisation and Growing Diversity of Employment Relationships

William Brown David Marsden

CEPDP1037. December 2010.At a time when the economic recession is more severe, and trade unions are weaker, than at any time since the War, it would be unproductive to speculate about the extent to which these changes have been imposed, acquiesced, or agreed by the workers concerned. Instead we focus on recent changes in employment relationships in Britain, and their consequences, and then on the winners and losers, which provides a cue for considering the longer term desirability of some of these developments for social justice and cohesion.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1037.pdf

Does Competition Raise Productivity Through Improving Management Quality?

John Van Reenen

CEPDP1036. December 2010.A classic question in industrial organization is whether competition raises productivity and if so, through what mechanism? I discuss recent empirical evidence from both large-scale databases and specific industries which suggests that tougher competition does indeed raise productivity and one of the main mechanisms is through improving management practices. To establish this, I report on new research seeking to quantify management. I relate this to theoretical perspectives on the economics of competition and management, arguing that management should be seen at least in part as a transferable technology. A range of recent econometric studies suggest that (i) competition increases management quality and (ii) improved management quality boosts productivity.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1036.pdf

School Proximity and Child Labor Evidence from Rurul Tanzania

Florence Kondylis Marco Manacorda

CEPDP1035. December 2010.Is improved school accessibility an effective policy tool for reducing child labor in developing countries? We address this question using micro data from rural Tanzania and a regression strategy that attempts to control for non-random location of households around schools as well as classical and non-classical measurement error in self-reported distance to school. Consistent with a simple model of child labor supply, but contrary to what appears to be a widespread perception, our analysis shows that school proximity leads to a rise in school attendance but no fall in child labor.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1035.pdf

Communal Responsibility and the Coexistence of Money and Credit Under Anonymous Matching

Lars Boerner Albrecht Ritschl

CEPDP1034. December 2010.Communal responsibility, a medieval institution studied by Greif (2006), supported the use of credit among European merchants in the absence of modern enforcement technologies. This paper shows how this mechanism helps to overcome enforcement problems in anonymous buyer/seller transactions. In a village economy version of the Lagos and Wright (2005) model, agents trading anonymously in decentralized markets can be identified by their citizenship and thus be held liable for each other. Enforceability within each village's centralized afternoon market ensures collateralization of credit in decentralized markets. In the resulting equilibrium, money and credit coexist in decentralized markets if the use of credit is costly. Our analysis easily extends itself to other payment systems like credit cards that provide a group identity to otherwise anonymous agents.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1034.pdf

Second-Order Approximation of Dynamic Models with Time-Varying Risk

Gianluca Benigno Pierpaolo Benigno Salvatore Nisticò

CEPDP1033. December 2010.This paper provides first and second-order approximation methods for the solution of nonlinear dynamic stochastic models in which the exogenous state variables follow conditionally-linear stochastic processes displaying time-varying risk. The first-order approximation is consistent with a conditionally-linear model in which risk is still timevarying but has no distinct role - separated from the primitive stochastic disturbances - in influencing the endogenous variables. The second-order approximation of the solution, instead, is sufficient to get this role. Moreover, risk premia, evaluated using only a first-order approximation of the solution, will be also time varying.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1033.pdf

Financial Crises and Macro-Prudential Policies

Gianluca Benigno Huigang Chen Christopher Otrok Alessandro Rebucci Eric R. Young

CEPDP1032. December 2010.Stochastic general equilibrium models of small open economies with occasionally binding financial frictions are capable of mimicking both the business cycles and the crisis events associated with the sudden stop in access to credit markets (Mendoza, 2010). In this paper we study the inefficiencies associated with borrowing decisions in a two-sector small open production economy. We find that this economy is much more likely to display "under-borrowing" rather than "over-borrowing" in normal times. As a result, macro-prudential policies (i.e. Tobin taxes or economy-wide controls on capital inflows) are costly in welfare terms in our economy. Moreover, we show that macro-prudential policies aimed at minimizing the probability of the crisis event might be welfare-reducing in production economies. Our analysis shows that there is a much larger scope for welfare gains from policy interventions during financial crises. That is to say that, within our modeling approach, ex post or crisis-management policies dominate ex ante or macro-prudential ones.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1032.pdf

International Trade Without CES: Estimating Translog Gravity

Dennis Novy

CEPDP1031. December 2010.This paper derives a micro-founded gravity equation in general equilibrium based on a translog demand system that allows for endogenous markups and substitution patterns across goods. In contrast to standard CES-based gravity equations, trade is more sensitive to trade costs if the exporting country only provides a small share of the destination country’s imports. As a result, trade costs have a heterogeneous impact across country pairs, with some trade flows predicted to be zero. I test the translog gravity equation and find strong empirical support in its favor.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1031.pdf

The Evolution of the Modern Worker: Attitudes to Work

Alex Bryson John Forth

CEPDP1030. December 2010.This paper examines how employees’ experiences of, and attitudes towards, work have changed over the last quarter of a century. It assesses the extent to which any developments relate to the economic cycle and to trends in the composition of the British workforce. Many of the findings are broadly positive, particularly when compared with a picture of deterioration in the late 1980s and 1990s. The onset of a major recession in the late 2000s might have been expected to herald a fundamental shift in employees’ attitudes to paid work and their working environment. The impression at the time of writing is, instead, of a more muted reaction than was seen in the early 1990s – in keeping with the more muted impact of the current recession on the labour market as a whole.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1030.pdf

The Spatial Organization of Multinational Firms

Fabrice Defever

CEPDP1029. December 2010.Using six years of firm-level data covering 224 regions of the enlarged European Union, we evaluate the importance to a firm of locating its activities (production, headquarters, R&D, logistics and sales) close together. We find that, after controlling for regional characteristics, being closely located to a previous investment positively affects firm location choice. However, the impact of distance is dependent on the type of investment (production or service). While within-firm co-location is important for both service and production activities, only production plants are likely to be located close to prior production investments. In this latter case, national borders have a surprisingly positive effect, increasing the probability of choosing a nearby location, but on the other side of the border.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1029.pdf

Trade and Labor Market Outcomes

Elhanan Helpman Oleg Itskhoki Stephen Redding

CEPDP1028. December 2010.This paper reviews a new framework for analyzing the interrelationship between inequality, unemployment, labor market frictions, and foreign trade. This framework emphasizes firm heterogeneity and search and matching frictions in labor markets. It implies that the opening of trade may raise inequality and unemployment, but always raises welfare. Unilateral reductions in labor market frictions increase a country’s welfare, can raise or reduce its unemployment rate, yet always hurt the country’s trade partner. Unemployment benefits can alleviate the distortions in a country’s labor market in some cases but not in others, but they can never implement the constrained Pareto optimal allocation. We characterize the set of optimal policies, which require interventions in product and labor markets.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1028.pdf

Long Term Implications of the ICT Revolution: Applying the Lessons of Growth Theory and Growth Accounting

Nicholas Oulton

CEPDP1027. November 2010.How big a boost to long run growth can countries expect from the ICT revolution? I use the results of growth accounting and the insights from a two-sector growth model to answer this question. The use of a two-sector rather than a one-sector model is required because of the very rapid rate at which the prices of ICT products have fallen in the past and are expected to fall in the future. According to the two-sector model, the main boost to growth comes from ICT use, not ICT production. Even a country which has zero ICT production can benefit via improving terms of trade. In the long run, the falling relative price of ICT products boosts the growth of GDP and consumption by inducing faster accumulation of ICT capital. I quantify this effect on the long run growth rate of 15 European and 4 non-European countries, using data from the EU KLEMS database. The ICT intensity of production (the ICT income share) is much lower in many European countries than it is in the United States or Sweden. Nevertheless the contribution to the long run growth of labour productivity stemming from even the current levels of ICT intensity is substantial: about half a percent per annum on average in the countries studied here. Eventually, the ICT revolution may diffuse more widely so ICT intensity may reach at least the same level as currently in the U.S. or Sweden, which would add a further 0.2 percentage points per annum to long run growth.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1027.pdf

Explaining Job Polarization in Europe: The Roles of Technology, Globalization and Institutions

Maarten Goos Alan Manning Anna Salomons

CEPDP1026. November 2010.This paper shows the employment structure of 16 European countries has been polarizing in recent years with the employment shares of managers, professionals and low-paid personal services workers increasing at the expense of the employment shares of middling manufacturing and routine office workers. To explain this job polarization, the paper develops and estimates a simple model to capture the effects of technology, globalization, institutions and product demand effects on the demand for different occupations. The results suggest that the routinization hypothesis of Autor, Levy and Murnane (2003) is the single most important factor behind the observed shifts in employment structure. We find some evidence for offshoring to explain job polarization although its impact is much smaller. We also find that shifts in product demand are acting to attenuate the polarizing impact of routinization and that differences or changes in wage-setting institutions play little role in explaining job polarization in Europe.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1026.pdf

The Contribution of the Minimum Wage to U.S. Wage Inequality over Three Decades: A Reassessment

David H. Autor Alan Manning Christopher L. Smith

CEPDP1025. November 2010.We reassess the effect of state and federal minimum wages on U.S. earnings inequality, attending to two issues that appear to bias earlier work: violation of the assumed independence of state wage levels and state wage dispersion, and errors-in-variables that inflate impact estimates via an analogue of the well known division bias problem. We find that the minimum wage reduces inequality in the lower tail of the wage distribution (the 50/10 wage ratio), but the impacts are typically less than half as large as those reported in the literature and are almost negligible for males. Nevertheless, the estimated effects extend to wage percentiles where the minimum is nominally non-binding, implying spillovers. We structurally estimate these spillovers and show that their relative importance grows as the nominal minimum wage becomes less binding. Subsequent analysis underscores, however, that spillovers and measurement error (absent spillovers) have similar implications for the effect of the minimum on the shape of the lower tail of the measured wage distribution. With available precision, we cannot reject the hypothesis that estimated spillovers to non-binding percentiles are due to reporting artifacts. Accepting this null, the implied effect of the minimum wage on the actual wage distribution is smaller than the effect of the minimum wage on the measured wage distribution.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1025.pdf

Do Matching Frictions Explain Unemployment? Not in Bad Times

Pascal Michaillat

CEPDP1024. November 2010.This paper models unemployment as the result of matching frictions and job rationing. Job rationing is a shortage of jobs arising naturally in an economic equilibrium from the combination of some wage rigidity and diminishing marginal returns to labor. During recessions, job rationing is acute, driving the rise in unemployment, whereas matching frictions contribute little to unemployment. Intuitively, in recessions jobs are lacking, the labor market is slack, recruiting is easy and inexpensive, so matching frictions do not matter much. In a calibrated model, cyclical fluctuations in the composition of unemployment are quantitatively large.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1024.pdf

Bank Bailouts, International Linkages and Cooperation

Friederike Niepmann Tim Schmidt-Eisenlohr

CEPDP1023. November 2010.Financial institutions are increasingly linked internationally. As a result, financial crisis and government intervention have stronger effects beyond borders. We provide a model of international contagion allowing for bank bailouts. While a social planner trades off tax distortions, liquidation losses and intra- and intercountry income inequality, in the noncooperative game between governments there are inefficiencies due to externalities, no burden sharing and free-riding. We show that, in absence of cooperation, stronger interbank linkages make government interests diverge, whereas cross-border asset holdings tend to align them. We analyze different forms of cooperation and their effects on global and national welfare.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1023.pdf

Monetary Policy Rules and Foreign Currency Positions

Bianca De Paoli Hande Küçük-Tuger Jens Søndergaard

CEPDP1022. November 2010.Using an endogenous portfolio choice model, this paper examines how different monetary policy regimes can lead to different foreign currency positions by changing the cyclical properties of the nominal exchange rate. We find that strict inflation targeting regimes are associated with a short position in foreign currency, while the opposite is true for noninflation targeting regimes. We also explore how these different external positions affect the international transmission of monetary shocks through the valuation channel. When central banks follow inflation targeting Taylor-type rules, valuation effects of monetary expansions are beggar-thy-self, but they are beggar-thy-neighbour in a money growth targeting regime (or when monetary policy puts weight on output stabilization).

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1022.pdf

Is the WTO Article XXIV Bad?

Monika Mrázová David Vines Ben Zissimos

CEPDP1021. November 2010.This paper shows that the WTO's Article XXIV increases the likelihood of free trade, but may worsen world welfare when free trade is not reached and customs unions (CUs) form. We consider a model of many countries. Article XXIV prevents a CU from raising its common external tariff, which makes CU formation less attractive and explains why free trade is more likely. In an equilibrium where two CUs do form, one is necessarily larger than the other. We show that Article XXIV has a 'composition effect' on CU formation, whereby CUs are (endogenously) more symmetric in size so more goods are subject to tariff distortions as they move between CUs; thus Article XXIV may be 'bad' for world welfare.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1021.pdf

Revisiting Overborrowing and Its Policy Implications

Gianluca Benigno Huigang Chen Chris Otrok Alessandro Rebucci Eric Young

CEPDP1020. October 2010.This paper analyzes quantitatively the extent to which there is overborrowing (i.e., inefficient borrowing) in a business cycle model for emerging market economies with production and an occasionally binding credit constraint. The main finding of the analysis is that overborrowing is not a robust feature of this class of model economies: it depends on the structure of the economy and its parametrization. Specifically, we find underborrowing in a production economy with our baseline calibration, but overborrowing with more impatient agents and more volatile shocks. Endowment economies display overborrowing regardless of parameter values, but they do not allow for policy intervention when the constraint binds (in crisis times). Quantitatively, the welfare gains from implementing the constrained-efficient allocation are always larger near crisis times than in normal ones. In production economies, they are one order of magnitude larger than in endowment economies both i n crisis and normal times. This suggests that the scope for economy-wide macro-prudential policy interventions (e.g. prudential taxation of capital flows and capital controls) is weak in this class of models.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1020.pdf

Do Salaries Improve Worker Performance?

Alex Bryson Babatunde Buraimo Rob Simmons

CEPDP1019. October 2010.We establish the effects of salaries on worker performance by exploiting a natural experiment in which some workers in a particular occupation (football referees) switch from short-term contracts to salaried contracts. Worker performance improves among those who move onto salaried contracts relative to those who do not. The finding is robust to the introduction of worker fixed effects indicating that it is not driven by better workers being awarded salary contracts. Nor is it sensitive to workers sorting into or out of the profession. Improved performance could arise from the additional effort workers exert due to career concerns, the higher income associated with career contracts (an efficiency wage effect) or improvements in worker quality arising from off-the-job training which accompanies the salaried contracts.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1019.pdf

The Impact of Asymmetric Information Among Competing Insurgent Groups: Estimating an 'Emboldenment' Effect

Radha Iyengar

CEPDP1018. October 2010.This paper uses asymmetric access to information to test if an insurgency is factionalized. If it is factionalized, regional variation in information should influence attack levels as groups use violence to compete over visibility, resources and support. Using plausibly exogenous variation in satellite access, we show that attacks increased after the release of information on satellite television about US commitment to remain in Iraq. Because insurgents shift attacks toward more difficult (military) targets, the relative increase in attacks is offset by fewer total fatalities. Our findings illustrate that insurgent groups may be decentralized strategic actors subject to competitive forces.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1018.pdf

I'd Rather be Hanged for a Sheep than a Lamb The Unintended Consequences of 'Three-Strikes' Laws

Radha Iyengar

CEPDP1017. October 2010.Strong sentences are common “tough on crime” tool used to reduce the incentives for individuals to participate in criminal activity. However, the design of such policies often ignores other margins along which individuals interested in participating in crime may adjust. I use California’s Three Strikes law to identify several effects of a large increase in the penalty for a broad set of crimes. Using criminal records data, I estimate that Three Strikes reduced participation in criminal activity by 20 percent for second-strike eligible offenders and a 28 percent decline for third-strike eligible offenders. However, I find two unintended consequences of the law. First, because Three Strikes flattened the penalty gradient with respect to severity, criminals were more likely to commit more violent crimes. Among thirdstrike eligible offenders, the probability of committing violent crimes increased by 9 percentage points. Second, because California’s law was more harsh than the laws of other nearby states, Three Strikes had a “beggar-thy-neighbor” effect increasing the migration of criminals with second and third-strike eligibility to commit crimes in neighboring states. The high cost of incarceration combined with the high cost of violent crime relative to non-violent crime implies that Three Strikes may not be a cost-effective means of reducing crime.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1017.pdf

How Big (Small?) are Fiscal Multipliers?

Ethan Ilzetzki Enrique G. Mendoza Carlos A. Végh

CEPDP1016. October 2010.We contribute to the intense debate on the real effects of fiscal stimuli by showing that the impact of government expenditure shocks depends crucially on key country characteristics, such as the level of development, exchange rate regime, openness to trade, and public indebtedness. Based on a novel quarterly dataset of government expenditure in 44 countries, we find that (i) the output effect of an increase in government consumption is larger in industrial than in developing countries, (ii) the fiscal multiplier is relatively large in economies operating under predetermined exchange rate but zero in economies operating under flexible exchange rates; (iii) fiscal multipliers in open economies are lower than in closed economies and (iv) fiscal multipliers in high-debt countries are also zero.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1016.pdf

Heterogeneous Worker Ability and Team-Based Production: Evidence from Major League Baseball, 1920-2009

Alex Bryson Rafael Gomez Kerry L. Papps

CEPDP1015. October 2010.A detailed longitudinal dataset is assembled containing annual performance and biographical data for every player over the entire history of professional major league baseball. The data are then aggregated to the team level for the period 1920-2009 in order to test whether teams built on a more even distribution of observed talent perform better than those teams with a mixture of highly able and less able players. The dependent variable used in the regressions is the percentage of games a team wins each season. We find that conditioning on average player ability, dispersion of both batting and pitching talent displays an optimal degree of inequality, in that teams with too high or too low a spread in player ability perform worse than teams with a more balanced distribution of offensive and defensive talent. These findings have potentially important applications both inside and outside of the sporting world.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1015.pdf

Adjusting to Capital Account Liberalization

Kosuke Aoki Gianluca Benigno Nobuhiro Kiyotaki

CEPDP1014. October 2010.We study theoretically how the adjustment to liberalization of international financial transaction depends upon the degree of domestic financial development. Using a model with domestic and international borrowing constraints, we show that, when the domestic financial system is underdeveloped, capital account liberalization is not necessarily beneficial because TFP stagnates in the long-run or employment decreases in the short-run. Government policy, including allowing foreign direct investment, can mitigate the possible loss of employment, but cannot eliminate it unless the domestic financial system is improved.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1014.pdf

A Task-Based Approach to Organization: Knowledge, Communication and Structure

Luis Garicano Yanhui Wu

CEPDP1013. October 2010.We bridge a gap between organizational economics and strategy research by developing a task-based approach to analyze organizational knowledge, process and structure, and deriving testable implications for the relation between production and organizational structure. We argue that organization emerges to integrate disperse knowledge and to coordinate talent in production and is designed to complement the limitations of human ability. The complexity of the tasks undertaken determines the optimal level of knowledge acquisition and talent. The relations between tasks, namely, complementarities or substitutabilities and synergies, determine the allocation of knowledge among members of the organization. Communication shapes the relation between individual talent, and governs the organizational process and structure that integrates disperse knowledge to perform tasks more efficiently. Organization structure can also be deliberately designed ex ante to correct bias of individual judgement, the extent to which is dependent on the attributes of tasks. Organization process and the routinized organizational structure are the core of organizational capital, which generates rent and sustains organizational growth. This task-based approach enriches the existing body of organization studies, in particular the knowledge-based theory of the firm and the dynamic capabilities theory.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1013.pdf

Police and Thieves in the Stadium: Measuring the (Multiple)Effects of Football Matches on Crime

Olivier Marie

CEPDP1012. October 2010.During large sporting events criminal behaviour may be affected via three main channels: (i) fan concentration, (ii) self incapacitation, and (iii) police displacement. In this paper I exploit information on football (soccer) matches for nine London teams linked to detailed recorded crime data at the area level to empirically estimate these different effects. My findings show that only property crime significantly increases in the communities hosting football matches but that they experience no changes in violent offences. These results are robust to controlling for a large number of game type and outcome characteristics. There is no evidence of temporal displacement of criminal activity. Our conceptual model suggests that the away game attendance effect on crime is due to voluntary incapacitation of potential offenders. I argue that the police displacement effect of hosting a match increases property crime by 7 percentage point for every extra 10,000 supporters.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1012.pdf

Do Higher Wages Come at a Price?

Erling Barth Alex Bryson Harald Dale-Olsen

CEPDP1011. October 2010.Using linked employer-employee data for Britain we find job satisfaction and job anxiety are negatively correlated but higher wages are associated with higher job satisfaction and higher job anxiety. However, we observe a positive association between higher wages and non-pecuniary job satisfaction, which disappears with the inclusion of our effort measures. Thus high effort levels provide high levels of non-pecuniary job satisfaction and higher wages, in contrast to what compensating wage differentials predicts. On the other hand, the positive association between wages and pay satisfaction and the positive association between wages and job anxiety are both robust to the inclusion of our effort measures and rich job controls. Mean wages of co-workers are positively associated with pay satisfaction but there is no significant association with non-pecuniary job satisfaction or job anxiety. Thus there is a positive spill-over to workers from being in a high-wage workplace and there is no support for the proposition that within-workplace wage differentials are a source of job anxiety.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1011.pdf

Discussion Sessions Coupled with Microfinancing May Enhance the Roles of Women in Household Decision-Making in Burundi

Giulia Ferrari Radha Iyengar

CEPDP1010. October 2010.The empowerment of women within households remains a major issue around the world including in Africa. We have conducted a study in Burundi coupling discussion sessions with microfinancing to determine if they enhance the role of women in decisions regarding household purchases and the reduction of domestic violence. We compare our findings to that from a published study in South Africa that combined discussion sessions on life skills and health on reduction in domestic violence and decisions on economic issues. Both studies used randomized controlled experiments. Both studies show a trend towards increases in household authority, with the Burundi study showing statistical significance. In South Africa there was a large, albeit short lived decrease in domestic violence. In Burundi there was small reduction but trend suggest a longer duration. The effects on overall empowerment are small. These studies suggest that a more sustained use of discussion sessions could be beneficial. Future research could focus on the longer term effects of the use of discussion sessions and investigate how the observed impacts can be sustained in magnitude and duration.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1010.pdf

Political Competition, Policy and Growth: Theory and Evidence from the United States

Timothy Besley Torsten Persson Daniel M. Sturm

CEPDP1009. October 2010.This paper develops a simple model to analyze how a lack of political competition may lead to policies that hinder economic growth. We test the predictions of the model on panel data for the US states. In these data, we find robust evidence that lack of political competition in a state is associated with anti-growth policies: higher taxes, lower capital spending and a reduced likelihood of using right-to-work laws. We also document a strong link between low political competition and low income growth.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1009.pdf

Industrial Structure and Child Labor: Evidence from the Brazilian Population Census

Furio Camillo Rosati Marco Manacorda

CEPDP1008. October 2010.This paper uses micro data from the 1980, 1991 and 2000 population censuses to investigate the role of changes in the industry mix in accounting for the differential trends in the incidence of child work (ages 10-15) across Brazilian states. We find that exogenous compositional changes account for around 20% of the observed fall in child employment in rural areas.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1008.pdf

Employment, Inequality and the UK National Minimum Wage over the Medium-Term

Peter Dolton Chiara Rosazza-Bondibene Jonathan Wadsworth

CEPDP1007. October 2010.This paper assesses the impact of the National Minimum Wage (NMW) on employment and inequality in the UK over the decade since its introduction in 1999. Identification is facilitated by using variation in the bite of the NMW across local labour markets and the different sized year on year up ratings of the NMW. We use an 'incremental differences-in-differences' (IDiD) estimator which allows us to estimate the effects of the NMW in each year since its introduction. We find that an increased bite of the NMW is associated with falls in lower tail wage inequality. Moreover, while the average employment effect of the NMW over the entire period is broadly neutral, there are small but significant positive employment estimates from 2003 onward, when the average bite of the NMW was at its highest since its introduction.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1007.pdf

Individual Voice in Employment Relationships: A Comparison Under Different Collective Voice Regimes

David Marsden

CEPDP1006. October 2010.This article examines the relationship between individual and collective employee voice, and management-led voice (appraisal), under contrasted collective voice regimes. In the first, collective workplace voice depends on voluntary recognition by the employer, and in the second, it is based on statutory rights. It is argued that in the first, individual and collective voice act as substitutes, and in the second they act as complements. Management-led voice is also influenced by whether the preceding forms are substitutes or complements. The argument is tested using data from the British and French workplace employment relations surveys for 2004, combining responses from employees and from management. Within country differences are used to aid identification. In conclusion, it finds broad support for the main hypothesis.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1006.pdf

Spreading the Word: Geography, Policy and Knowledge Spillovers

Sharon Belenzon Mark Schankerman

CEPDP1005. September 2010.Using new data on citations to university patents and scientific publications, we study how geography affects university knowledge spillovers. Citations to patents decline sharply with distance up to about 150 miles and are strongly constrained by state borders. Distance also constrains citations to scientific publications, but the impact is less sharp and persists over greater distances. The state border effect for publications is significant only for lower quality public universities. We show that the state border effect is heterogeneous, and is strongly influenced by university and state characteristics and policies. It is larger for public universities and those with strong local development policies. The border effect is larger in states with strong non-compete laws that facilitate intrastate labor mobility, states with greater reliance on in-state educated scientists and engineers, and states with lower rates of interstate scientific labor mobility. We also confirm the impact of non-compete statutes by studying a policy reform in Michigan.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1005.pdf

There Will Be Money

Luis Araujo Bernardo Guimaraes

CEPDP1004. September 2010.A common belief among monetary theorists is that monetary equilibria are tenuous due to the intrinsic uselessness of fiat money (Wallace (1978)). In this article we argue that the tenuousness of monetary equilibria vanishes as soon as one introduces a small perturbation in an otherwise standard random matching model of money. Precisely, we show that the sheer belief that fiat money may become intrinsically useful, even if only in an almost unreachable state, might be enough to rule out nonmonetary equilibria. In a large region of parameters, agents’ beliefs and behavior are completely determined by fundamentals.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1004.pdf

Trade Union Membership and Influence 1999-2009

Alex Bryson John Forth

CEPDP1003. September 2010.This paper analyses the continued decline of trade unions in Britain and examines the possible implications for workers, employers, and unions themselves. Membership of trade unions declined precipitously in the 1980s and 1990s. The rate of decline has slowed in the most recent decade, but we find that unions remain vulnerable to further erosion of their membership and influence.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1003.pdf

The Effect of Market Entry on Innovation: Evidence from UK University Incubators

Christian Helmers

CEPDP1002. September 2010.This paper investigates the effect of market entry of new firms on incumbent firms' innovative activity measured as patent applications. The basic assumption is that the effect of entry varies by geographical distance between entrants and incumbents due to the presence of localized unobserved spillovers. In order to avoid endogeneity problems commonly associated with the timing of entry and entrants' location choice, I analyze entry induced by the establishment of university business incubators, which are usefully exogenous in time and space. The results show that entry has a statistically and economically significantly positive strategic effect on incumbent patenting which is attenuated by the geographical distance between entrant and incumbent.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1002.pdf

To Join or Not to Join? Factors Influencing Employee Share Plan Membership in a Multinational Corporation

Alex Bryson Richard Freeman

CEPDP1001. September 2010.Many firms encourage employees to own company stock through share plans that subsidize the price at favorable rates, but even so many employees do not buy shares. Using a new survey of employees in a multinational with a share ownership plan, we find considerable variation in joining among observationally equivalent workers and explore the reasons for the variation. Participation in the plan is higher the greater the potential pay-off from joining the share plan, which indicates that rational economic calculations affect the decision to join. But there is also evidence that psychological factors affect the decision to join. Some nonmembers say they intend to join in the future, which means they forgo the benefits of immediate membership. The proportion of workers who purchase shares varies across workplaces beyond what we predict from worker characteristics. This suggests that coworker behavior influences decisions. Indeed, workers say that they pay most attention to other workers and little attention to company HR management in their decision on joining.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1001.pdf

Trade Induced Technical Change? The Impact of Chinese Imports on Innovation, IT and Productivity

Nicholas Bloom Mirko Draca John Van Reenen

CEPDP1000. January 2011.We examine the impact of Chinese import competition on broad measures of technical change - patenting, IT, R&D, TFP and management practices – using new panel data across twelve European countries between 1996-2007. We correct for endogeneity using the removal of product-specific quotas following China’s entry into the World Trade Organization. Chinese import competition (1) led to increased technical change within firms; and (2) reallocated employment between firms towards more technologically advanced firms. These within and between effects were about equal in magnitude, and appear to account for 15% of European technology upgrading over 2000-2007 (and even higher when allowing for offshoring to China). Rising Chinese import competition also led to falls in employment, profits, prices and the share of unskilled workers. By contrast, import competition from developed countries had no effect on innovation. We develop a simple “trapped factor” model that is consistent with these empirical findings.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp1000.pdf

Trade as an Engine of Creative Destruction: Mexican Experience with Chinese Competition

Leonardo Iacovone Ferdinand Rauch L. Alan Winters

CEPDP0999. September 2010.This paper exploits the surge in Chinese exports from 1994 to 2004 as a natural experiment to evaluate the effects of a unilateral low wage trade and competition shock to producers in Mexico. We find that this shock causes selection at both firm and product levels as its impact is highly heterogeneous both on the intensive and extensive margins. Sales of smaller plants and more marginal products are compressed and are more likely to cease, while larger plants and products exhibit an opposite response. Similar results hold both for the domestic market and for competition facing Mexican exporters in a third market (i.e. the United States).

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0999.pdf

The End of National Models in Employment Relations?

David Marsden

CEPDP0998. September 2010.The erosion of a number of national systems of employment relations, and the evidence from large scale workplace surveys has brought attention to the considerable diversity of employment systems within major economies. This essay applies the theory of evolutionary games to explain the diffusion of different employment systems within national economies, and how they interact with established sectoral and national level institutions. This also helps to explain potential tipping points in their expansion and retreat. Evidence to support the argument is taken from the British and French workplace employment relations surveys and the European Working Conditions Survey.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0998.pdf

Productivity Spreads, Market Power Spreads and Trade

Ralf Martin

CEPDP0997. September 2010.Much of recent Trade theory focuses on heterogeneity of firms and the differential impact trade policy might have on firms with different levels of productivity. A common problem is that most firm level dataset do not contain information on output prices of firms which makes it difficult to distinguish between productivity differences and differences in market power between firms. This paper develops a new econometric framework that allows estimating both firm specific productivity and market power in a semi-parametric way based on a control function approach. The framework is applied to Chilean firm level data from the early 1980, shortly after the country underwent wide ranging trade reforms. The finding is that in all sectors of the economy market power declined and productivity increased. In sectors with higher import penetration productivity particularly at the bottom end of the distribution increased faster. At the same time market power declined particularly so at the top end of the market power distribution. We also show, that ignoring the effect on market power leads to an underestimation of the positive effects of increased import penetration on productivity.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0997.pdf

A Map of Mental Health

Rachel Smithies

CEPDP0996. September 2010.This paper provides a comprehensive picture of mental health services in England, including staffing and expenditure, and the number of people in need and the number treated. Historically, this information has been split across sub-sections of the health and social services; and the readily available information often appeared to give inconsistent answers. This paper brings together and interprets the available evidence to provide a single coherent map of mental health need and services, from children to older adults and across both health and social care services, in England.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0996.pdf

Trade Crisis? What Trade Crisis?

Kristian Behrens Gregory Corcos Giordano Mion

CEPDP0995. August 2010.We provide an analysis of the 2008-2009 trade collapse using microdata from a small open economy, Belgium. First, we find that changes in firm-country-product exports and imports occurred mostly at the intensive margin: the number of firms, the average number of destination and origin markets per firm, and the average number of products per market changed only very little. Second, econometric analysis reveals some composition effects in the intensive margin fall along firm, product and country characteristics. The most important factor explaining changes in exports is the destination country's growth rate of GDP. Had growth rates in 2008{2009 been the same as in 2007{2008, Belgian exports would have fallen by about 57% less than what we observe. Trade in consumer durables and capital goods fell more severely than trade in other product categories, which explains another 22% of the observed fall. Financial variables and involvement in global value chains have some explanatory power on the exports and imports fall respectively, but appear to have affected domestic operations in equal proportion. More generally, exports-to-turnover and imports-to-intermediates ratios at the firm level did neither systematically decrease nor reveal strong firm- or sector-specific patterns. Overall, our results point to a demand-side explanation: the fall in trade was mostly driven by the fall in economic activity. It is not a trade crisis | just a trade collapse.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0995.pdf

Theories of Heterogeneous Firms and Trade

Stephen Redding

CEPDP0994. August 2010.This paper reviews the recent theoretical literature on heterogeneous firms and trade, which emphasizes firm selection into international markets and reallocations of resources across firms. We discuss the empirical challenges that motivated this research and its relationship to traditional trade theories. We examine the implications of firm heterogeneity for comparative advantage, market size, aggregate trade, the welfare gains from trade, and the relationship between trade and income distribution. While a number of studies examine the endogenous response of firm productivity to trade liberalization, modelling internal firm organization and the origins of firm heterogeneity remain interesting areas of ongoing research.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0994.pdf

Revolving Door Lobbyists

Jordi Blanes i Vidal Mirko Draca Christian Fons-Rosen

CEPDP0993. August 2010.Washington's 'revolving door' - the movement from government service into the lobbying industry- is regarded as a major concern for policy-making. We study how ex-government staffers benefit from the personal connections acquired during their public service. Lobbyists with experience in the office of a US Senator suffer a 24% drop in generated revenue when that Senator leaves office. The effect is immediate, discontinuous around the exit period and long-lasting. Consistent with the notion that lobbyists sell access to powerful politicians, the drop in revenue is increasing in the seniority of and committee assignments power held by the exiting politician.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0993.pdf

The Impact of the Diffusion of a Financial Innovation on Company Performance: An Analysis of SWIFT Adoption

Susan Scott John Van Reenen Markos Zachariadis

CEPDP0992. August 2010.How does a major financial network innovation influence firm performance? Despite much speculation we have little hard quantitative evidence about the impact of technology diffusion in financial services. In this paper we use the entire adoption history for SWIFT (the Society for Worldwide Interbank Financial Telecommunication - standards provider and messaging carrier) matched to bank-level panel data for the US, Canada and 27 European countries. Our dataset covers almost 7,000 banks (including 1,689 SWIFT adopters) between 1998 and 2005. We find that adoption appears to have large effects on profitability, but it takes several years before any positive return is discernible, consistent with the idea of significant complementarities between new technologies and firm organization. The profitability effect operates by both raising sales and decreasing operating costs and is greater for smaller firms than larger firms. Although the long-run effects are similar, US and UK banks appear to reap the benefits from adoption more quickly than their Continental European counterparts. This is consistent with the idea that the impact of information and communication technologies is stronger in the US than Europe due to lower adjustment costs.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0992.pdf

Spillovers in Space: Does Geography Matter?

Sergey Lychagin Joris Pinkse Margaret E. Slade John Van Reenen

CEPDP0991. August 2010.We simultaneously assess the contributions to productivity of three sources of research and development spillovers: geographic, technology and product– market proximity. To do this, we construct a new measure of geographic proximity that is based on the distribution of a firm’s inventor locations rather than its headquarters, and we report both parametric and semiparametric estimates of our geographic–distance functions. We find that: i) Geographic space matters even after conditioning on horizontal and technological spillovers; ii) Technological proximity matters; iii) Product–market proximity is less important; iv) Locations of researchers are more important than headquarters but both have explanatory power; and v) Geographic markets are very local.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0991.pdf

Towards a New Architecture for Financial Stability: Seven Principles

Luis Garicano Rosa Lastra

CEPDP0990. July 2010.In this paper we use insights from organizational economics and financial regulation to study the optimal architecture of supervision. We suggest that the new architecture should revolve around the following principles: (i) banking, securities and insurance supervision should be further integrated; (ii) macro prudential supervisory function must be in the hands of the central bank; (iii) the relation between macro and micro supervisors must be articulated through a management by exception system involving direct authority of the macro supervisor over enforcement and allocation of tasks; (iv) given the difficulty of measuring output on supervisory tasks, the systemic risk supervisor must necessarily be more accountable and less independent than Central Banks are on their monetary task; (v) the supervisory agency cannot rely on high powered incentives to motivate supervisors, and must rely on culture instead; (vi) the supervisor must limit its reliance on self regulation; and (vii) the international system should substitute the current loose, networked structure for a more centralized and hierarchical one.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0990.pdf

The Growth of Extended 'Entry Tournaments' and the Decline of Institutionalised Occupational Labour Markets in Britain

David Marsden

CEPDP0989. June 2010.In recent years, British labour markets have been characterised by a decline of institutional regulation of entry routes into many occupations and internal labour markets. This paper examines this change by comparing occupational labour markets for selected occupations in which institutional regulation has remained largely intact with those in which entry has become more fluid. It argues that in the latter case, structured entry paths, which were characterised by competition at the ports of entry, have given way to extended entry tournaments in which competition is spread over a much longer time period. Using data from the New Earnings Survey panel for 1975-2001, it relates the comparatively greater growth in earnings inequality in these occupations to the emergence of extended entry tournaments. As pay at the top has risen, greater competition for entry at the bottom has held down pay and depressed conditions. It argues that many of the aspirant members of these occupations compete for entry for too long, and then become trapped as it is too late to change occupation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0989.pdf

Does Hospital Competition Improve Efficiency? An Analysis of the Recent Market-Based Reforms to the English NHS

Zack Cooper Steve Gibbons Simon Jones Alistair McGuire

CEPDP0988. June 2010.This paper uses a difference-in-difference estimator to test whether the introduction of patient choice and hospital competition in the English NHS in January 2006 has prompted hospitals to become more efficient. Efficiency was measured using hospitals’ average length of stay (LOS) for patients undergoing elective hip replacement. LOS was broken down into its two key components: the time from a patient’s admission until their surgery and the time from their surgery until their discharge. Our results illustrate that hospitals exposed to competition after a wave of market-based reforms took steps to shorten the time patients were in the hospital prior to their surgery, which resulted in a decrease in overall LOS. We find that hospitals shortened patients’ LOS without compromising patient outcomes or by operating on healthier, wealthier or younger patients. Our results suggest that hospital competition within markets with fixed prices can increase hospital efficiency.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0988.pdf

Has ICT Polarized Skill Demand? Evidence from Eleven Countries over 25 Years

Guy Michaels Ashwini Natraj John Van Reenen

CEPDP0987. June 2010.OECD labor markets have become more “polarized” with employment in the middle of the skill distribution falling relative to the top and (in recent years) also the bottom of the skill distribution. We test the hypothesis of Autor, Levy, and Murnane (2003) that this is partly due to information and communication technologies (ICT) complementing the analytical tasks primarily performed by highly educated workers and substituting for routine tasks generally performed by middle educated workers (with little effect on low educated workers performing manual non-routine tasks). Using industry level data on the US, Japan, and nine European countries 1980-2004 we find evidence consistent with ICT-based polarization. Industries with faster growth of ICT had greater increases in relative demand for high educated workers and bigger falls in relative demand for middle educated workers. Trade openness is also associated with polarization, but this is not robust to controls for technology (like R&D). Technologies can account for up to a quarter of the growth in demand for the college educated in the quarter century since 1980.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0987.pdf

Currency Unions in Prospect and Retrospect

J. M. C. Santos Silva Silvana Tenreyro

CEPDP0986. June 2010.We critically review the recent literature on currency unions, and discuss the methodological challenges posed by the empirical assessment of their costs and benefits. In the process, we provide evidence on the economic effects of the euro. In particular, and in contrast with estimates of the trade effect of other currency unions, we find that the impact of the euro on trade has been close to zero. After reviewing the costs and benefits, we conclude with some open questions on normative and positive aspects of the theory of currency unions, emphasizing the need for a unified welfare-based framework to weigh their costs and gains.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0986.pdf

Quality Matters - the Expulsion of Professors and Ph.D. Student Outcomes in Nazi Germany

Fabian Waldinger

CEPDP0985. June 2010.I investigate the effect of faculty quality on Ph.D. student outcomes. To address the endogeneity of faculty quality I use exogenous variation provided by the expulsion of mathematics professors in Nazi Germany. I find that faculty quality is a very important determinant of short and long run Ph.D. student outcomes. A one standard deviation increase in faculty quality increases the probability of publishing the dissertation in a top journal by 13 percentage points, the probability of becoming full professor by 10 percentage points, the probability of having positive lifetime citations by 16 percentage points, and the number of lifetime citations by 6.3.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0985.pdf

Crime and Immigration: Evidence from Large Immigrant Waves

Brian Bell Francesco Fasani Stephen Machin

CEPDP0984. June 2010.This paper examines the relationship between immigration and crime in a setting where large migration flows offer an opportunity to carefully appraise whether the populist view that immigrants cause crime is borne out by rigorous evidence. We consider possible crime effects from two large waves of immigration that recently occurred in the UK. The first of these was the late 1990s/early 2000s wave of asylum seekers, and the second the large inflow of workers from EU accession countries that took place from 2004. A simple economics of crime model, when dovetailed with facts about the relative labour market position of these migrant groups, suggests net returns to criminal activity are likely to be very different for the two waves. In fact, we show that the first wave led to a small rise in property crime, whilst the second wave had no such impact. There was no observable effect on violent crime for either wave. Nor were immigrant arrest rates different to natives. Evidence from victimization data also suggests that the changes in crime rates during the immigrant waves cannot be ascribed to crimes against immigrants. Overall, our findings suggest that focusing on the limited labour market opportunities of asylum seekers could have beneficial effects on crime rates.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0984.pdf

The Impact of Competition on Management Quality: Evidence from Public Hospitals

Nicholas Bloom Carol Propper Stephan Seiler John Van Reenen

CEPDP0983. May 2010.We analyze the causal impact of competition on managerial quality (and hospital performance). To address the endogeneity of market structure we analyze the English public hospital sector where entry and exit are controlled by the central government. Because closing hospitals in areas where the governing party is expecting a tight election race (“marginals”) is rare due to the fear of electoral defeat, we can use political marginality as an instrumental variable for the number of hospitals in a geographical area. We find that higher competition is positively correlated with management quality, measured using a new survey tool. Adding a rival hospital increases management quality by 0.4 standard deviations and increases survival rates from emergency heart attacks by 8.8%. We confirm the validity of our IV strategy by conditioning on marginality in the hospital’s own catchment area, thus identifying purely off the marginality of rival hospitals. This controls for “hidden policies” that could be used in marginal districts to improve hospital management. We also run placebo tests of marginality on schools, a public service where the central government has no formal influence on market structure.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0983.pdf

Human Resource Management and Productivity

Nicholas Bloom John Van Reenen

CEPDP0982. May 2010.In this chapter we examine the relationship between Human Resource Management (HRM) and productivity. HRM includes incentive pay (individual and group) as well as many nonpay aspects of the employment relationship such as matching (hiring and firing) and work organization (e.g. teams, autonomy). We place HRM more generally within the literature on management practices and productivity. We start with some facts on levels and trends of both HRM and productivity and the main economic theories of HRM. We look at some of the determinants of HRM – risk, competition, ownership and regulation. The largest section analyses the impact of HRM on productivity emphasizing issues of methodology, data and results (from micro-econometric studies). We conclude briefly with suggestions of avenues for future frontier work.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0982.pdf

Imperfect Competition in the Labour Market

Alan Manning

CEPDP0981. May 2010.It is increasingly recognized that labour markets are pervasively imperfectly competitive, that there are rents to the employment relationship for both worker and employer. This chapter considers why it is sensible to think of labour markets as imperfectly competitive, reviews estimates on the size of rents, theories of and evidence on the distribution of rents between worker and employer, and the areas of labour economics where a perspective derived from imperfect competition makes a substantial difference to thought.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0981.pdf

The Determinants of Vertical Integration in Export Processing: Theory and Evidence from China

Ana Fernandes Heiwai Tang

CEPDP0980. May 2010.Using detailed product-level export data for China and a variant of the Antràs and Helpman (2004) model that includes investments in component search, we examine the sectoral determinants of foreign direct investment (FDI) versus foreign outsourcing in export processing trade. We exploit the coexistence of two regulatory export processing regimes in China, which specify who owns and controls the imported components for export processing. We find that in the regime that Chinese plants own the imported components, the share of exports from vertically integrated plants is increasing in the intensity of headquarter inputs across sectors, and is decreasing in the contractibility of inputs. These results are consistent with the property- rights theory of intra-firm trade. However, in the regime that foreign firms own the imported components, no significant relationship is found between the prevalence of vertical integration, headquarter intensity and input contractibility across sectors. The positive relationship between productivity dispersion and the export share of integrated plants across sectors, as suggested by the existing literature, is found only in the regime that foreign firms own the imported components. These results are consistent with our model, which considers ownership of imported components as an alternative to asset ownership to alleviate the hold-up problem by the export-processing plant.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0980.pdf

The Crime Reducing Effect of Education

Stephen Machin Olivier Marie Suncica Vujic

CEPDP0979. May 2010.In this paper, we present evidence on empirical connections between crime and education, using various data sources from Britain. A robust finding is that criminal activity is negatively associated with higher levels of education. However, it is essential to ensure that the direction of causation flows from education to crime. Therefore, we identify the effect of education on participation in criminal activity using changes in compulsory school leaving age laws over time to account for the endogeneity of education. In this causal approach, for property crimes, the negative crime-education relationship remains strong and significant. The implications of these findings are unambiguous and clear. They show that improving education can yield significant social benefits and can be a key policy tool in the drive to reduce crime.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0979.pdf

Intra-Firm Trade and Product Contractibility (Long Version)

Andrew B. Bernard J. Bradford Jensen Stephen Redding Peter K. Schott

CEPDP0978. May 2010.This paper examines the determinants of intra-firm trade in U.S. imports using detailed countryproduct data. We create a new measure of product contractibility based on the degree of intermediation in international trade for the product. We find important roles for the interaction of country and product characteristics in determining intra-firm trade shares. Intra-firm trade is high for products with low levels of contractability sourced from countries with weak governance, for skillintensive products from skill-scarce countries, and for capital-intensive products from capitalabundant countries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0978.pdf

Crisis? What Crisis? Currency vs. Banking in the Financial Crisis of 1931

Albrecht Ritschl Samad Salferaz

CEPDP0977. May 2010.This paper examines the role of currency and banking in the German financial crisis of 1931 for both Germany and the U.S. We specify a structural dynamic factor model to identify financial and monetary factors separately for each of the two economies. We find that monetary transmission through the Gold Standard played only a minor role in causing and propagating the crisis, while financial distress was important. We also find evidence of crisis propagation from Germany to the U.S. via the banking channel. Banking distress in both economies was apparently not endogenous to monetary policy. Results confirm Bernanke's (1983) conjecture that an independent, non-monetary financial channel of crisis propagation was operative in the Great Depression.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0977.pdf

The Credibility Revolution in Empirical Economics: How Better Research Design is taking the Con out of Econometrics

Joshua D. Angrist Jörn-Steffen Pischke

CEPDP0976. May 2010.This essay reviews progress in empirical economics since Leamer’s (1983) critique. Leamer highlighted the benefits of sensitivity analysis, a procedure in which researchers show how their results change with changes in specification or functional form. Sensitivity analysis has had a salutary but not a revolutionary effect on econometric practice. As we see it, the credibility revolution in empirical work can be traced to the rise of a design-based approach that emphasizes the identification of causal effects. Design-based studies typically feature either real or natural experiments and are distinguished by their prima facie credibility and by the attention investigators devote to making the case for a causal interpretation of the findings their designs generate. Design-based studies are most often found in the microeconomic fields of Development, Education, Environment, Labor, Health, and Public Finance, but are still rare in Industrial Organization and Macroeconomics. We explain why IO and Macro would do well to embrace a design-based approach. Finally, we respond to the charge that the design-based revolution has overreached.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0976.pdf

Trade Liberalization and Heterogeneous Firm Models: An Evaluation Using the Canada - US Free Trade Agreement

Holger Breinlich Alejandro Cuñat

CEPDP0975. May 2010.We examine the qualitative and quantitative predictions of a heterogeneous firm model à la Melitz (2003) in the context of the Canada - US Free Trade Agreement (CUSFTA) of 1989. We calibrate our model to the pre-trade liberalization stage, simulate the trade liberalization, and compute the resulting growth rates of Canadian industry productivity, exports and imports. We compare them with Trefler’s (2004) estimates of the effects of CUSFTA. Our results show that our model performs well in replicating the qualitative aspects of Trefler’s results. In particular, we correctly predict that US tariff cuts have smaller productivity enhancing effects than Canadian tariff reductions due to the entry of less efficient exporters. Quantitatively, the model tends to underpredict the impact of CUSFTA on growth rates of productivity, but overpredicts the increase in Canadian exports and imports. We discuss how liberalization-induced changes in the firm-level productivity distribution can reconcile the model with the evidence.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0975.pdf

Sequential Exporting

Facundo Albornoz Hector Calvo-Pardo Gregory Corcos Emanuel Ornelas

CEPDP0974. March 2010.Firms need to incur substantial sunk costs to break in foreign markets, yet many give up exporting shortly after their first experience, which typically involves very small sales. Conversely, other new exporters shoot up their foreign sales and expand to new destinations. We investigate a simple theoretical mechanism that can rationalize these patterns. A firm discovers its profitability as an exporter only after actually engaging in exporting. The profitability is positively correlated over time and across foreign destinations. Accordingly, once the firm learns how good it is as an exporter, it adjusts quantities and decides whether to exit and whether to serve new destinations. Thus, it is the possibility of profitable expansion at both the intensive and extensive margins what makes incurring the sunk costs to enter a single foreign market worthwhile despite the high failure rates. Using a census of Argentinean firm-level manufacturing exports from 2002 to 2007, we find empirical support for several implications of our proposed mechanism, indicating that the practice of “sequential exporting” is pervasive. Sequential exporting has broad but subtle implications for trade policy. For example, a reduction in trade barriers in a country has delayed entry effects in its own market, while also promoting entry in other markets. This trade externality poses challenges for the quantification of the effects of trade liberalization programs, while suggesting neglected but critical implications of international trade agreements.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0974.pdf

The 'Emulator Effect' of the Uruguay Round on US Regionalism.

Marco Fugazza Frédéric Robert-Nicoud

CEPDP0973. March 2010.Using a detailed data set at the tariff line level, we find an emulator effect of multilateralism on subsequent regional trade agreements involving the US. We exploit the variation in the frequency with which the US has granted immediate duty free access (IDA) to its Free Trade Area partners across tariff lines. A key finding is that the US has granted IDA status especially on goods for which it had cut the multilateral MFN tariff during the Uruguay round the most. Thus, the Uruguay Round (multilateral) ‘concessions’ have emulated subsequent (preferential) trade liberalisation. We conclude from this that past liberalisation sows the seeds of future liberalisation and that multilateral and preferential trade agreements are dynamic complements.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0973.pdf

The Interrelationship between HR, Strategy and Profitability in Service SMEs: Empirical Evidence from the UK Tourism Hospitality and Leisure Sector

Andreas Georgiadis Christos N. Pitelis

CEPDP0972. March 2010.We investigate the strategies, HR attributes and their synergies that are associated with superior performance in service SMEs using data from the UK Tourism Hospitality and Leisure (THL) sector. A major advantage of our analysis is that our sample includes information also on very small firms which makes results representative of the industry but also sheds light on a very little investigated area related to the nature of HRM and its link with performance of micro businesses. Our results suggest that high-performing SMEs in the THL sector are managed by more experienced entrepreneurs. Moreover, they employ a combination of technological and know-how firm differentiation strategies together with a highly skilled workforce, and/or a combination of (product) differentiation strategies based on quality of service and personal attention to customers, and a generous compensation package and attention to employees development.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0972.pdf

Slip Sliding Away: Further Union Decline in Germany and Britain

John T. Addison Alex Bryson André Pahnke Paulino Teixeira

CEPDP0971. March 2010.This paper presents the first comparative analysis of the decline in collective bargaining in two European countries where that decline has been most pronounced. Using workplace-level data and a common model, we present decompositions of changes in collective bargaining and worker representation in the private sector in Germany and Britain over the period 1998-2004. In both countries within-effects dominate compositional changes as the source of the recent decline in unionism. Overall, the decline in collective bargaining is more pronounced in Britain than in Germany, thus continuing a trend apparent since the 1980s. Although workplace characteristics differ markedly across the two countries, assuming counterfactual values of these characteristics makes little difference to unionization levels. Expressed differently, the German dummy looms large.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0971.pdf

Recent Advances in the Empirics of Organizational Economics

Nicholas Bloom Raffaella Sadun John Van Reenen

CEPDP0970. February 2010.We present a survey of recent contributions in the empirical organizational economics, focusing on management practices and decentralization. Productivity dispersion between firms and countries has motivated the improved measurement of firm organization across industries and countries. There appears to be substantial variation in management practices and decentralization between countries, but especially within countries. Much of the poorer average management quality in countries like Brazil and India seems due to a “long tail” of poorly managed firms, which barely exist in the US. Many basic economic theories are supported by this new data. Some stylized facts include: (1) competition seems to foster improved management and decentralization; (2) larger firms, skillintensive plants and foreign multinationals appear better managed and are more decentralized; (3) family owned and managed firms appear to have worse management; (4) firms facing an environment of lighter labor market regulations, and more human capital intensive organizations specialize relatively more in “people management”. There is evidence for complementarities between ICT, decentralization and management, but the relationship is complex and identification of the productivity effects of organizational practices remain a challenge for future research.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0970.pdf

New Approaches to Measuring Management and Firm Organization

Nick Bloom John Van Reenen

CEPDP0969. February 2010.We detail the methodology that we have been using to quantify managerial and organizational practices across firms and countries in recent years. This has been used in many pieces of research at the Centre for Economic Performance. We discuss the pros and cons of such survey tools, describing how our methods lie between the traditional surveys used by economists and the case studies more common in other parts of social science.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0969.pdf

Wholesalers and Retailers in U.S. Trade (Long Version)

Andrew B. Bernard J. Bradford Jensen Stephen Redding Peter K. Schott

CEPDP0968. February 2010.International trade models typically assume that producers in one country trade directly with final consumers in another. In reality, of course, trade can involve long chains of potentially independent actors who move goods through wholesale and retail distribution networks. These networks likely affect the magnitude and nature of trade frictions and hence both the pattern of trade and its welfare gains. To promote further understanding of the means by which goods move across borders, this paper examines the extent to which U.S. exports and imports flow through wholesalers and retailers versus .producing and consuming firms.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0968.pdf

Depression Econometrics: A FAVAR Model of Monetary Policy During the Great Depression

Pooyan Amir Ahmadi Albrecht Ritschl

CEPDP0967. January 2010.The prominent role of monetary policy in the U.S. interwar depression has been conventional wisdom since Friedman and Schwartz (1963). This paper presents evidence on both the surprise and the systematic components of monetary policy between 1929 and 1933. Doubts surrounding GDP estimates for the 1920s would call into question conventional VAR techniques. We therefore adopt the FAVAR methodology of Bernanke, Boivin, and Eliasz (2005), aggregating a large number of time series into a few factors and inserting these into a monetary policy VAR. We work in a Bayesian framework and apply MCMC methods to obtain the posteriors. Employing the generalized sign restriction approach toward identification of Amir Ahmadi and Uhlig (2008), we find the effects of monetary policy shocks to have been moderate. To analyze the systematic policy component, we back out the monetary policy reaction function and its response to aggregate supply and demand shocks. Results broadly confirm the Friedman/Schwartz view about restrictive monetary policy, but indicate only moderate effects. We further analyze systematic policy through conditional forecasts of key time series at critical junctures, taken with and without the policy instrument. Effects are again quite moderate. Our results caution against a predominantly monetary interpretation of the Great Depression.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0967.pdf

Does Product Market Competition Lead Firms to Decentralize?

Nick Bloom Raffaella Sadun John Van Reenen

CEPDP0966. January 2010.There is a widespread sense that over the last two decades firms have been decentralizing decisions to employees further down the managerial hierarchy. Economists have developed a range of theories to account for delegation, but there is less empirical evidence, especially across countries. This has limited the ability to understand the phenomenon of decentralization. To address the empirical lacuna we have developed a research program to measure the internal organization of firms - including their decentralization decisions - across a large range of industries and countries. In this paper we investigate whether greater product market competition increases decentralization. For example, tougher competition may make local manager's information more valuable, as delays to decisions become more costly. Since globalization and liberalization have increased the competitiveness of product markets, one explanation for the trend towards decentralization could be increased competition. Of course there are a range of other factors that may also be at play, including human capital, information and communication technology, culture and industrial composition. To tackle these issues we collected detailed information on the internal organization of firms across nations. The few datasets that exist are either from a single industry or (at best) across many firms in a single country. We analyze data on almost 4,000 firms across twelve countries in Europe, North America and Asia. We find that competition does indeed seem to foster greater decentralization.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0966.pdf

Why is the US so Energy Intensive? Evidence from US Multinationals in the UK

Ralf Martin

CEPDP0965. January 2010.At present the USA is - in per capita terms - the top greenhouse gas polluter among the world’s major economies. This is mirrored by the high energy intensity of all sectors of the US economy including manufacturing industries. A potential explanation for the higher energy intensity is lower US energy price levels. However, common price elasticity estimates are not high enough to explain the observed differences between countries. Alternative explanations include firstly geographic or other locational differences and secondly firm specific technology differences between US firms and others. This study explores this latter possibility by comparing establishments of US firms in Britain with other comparable firms thereby ruling out locational differences. The findings are that on average US firms are not more energy intensive when operating in Britain. However, US firms that have only recently entered the UK market are found to be significantly more energy intensive at an order of magnitude corresponding to the between country US-UK gap. This difference vanishes with an increased duration of stay in the UK; however, with a considerable time lag. This suggests firstly, that barriers to knowledge diffusion are an important concern and secondly, that the long term response to a sustained price increase might be stronger than common price elasticity estimates suggest. The study also provides, for the first time, estimates of energy price elasticities for the UK on the basis of representative plant level panel data for the manufacturing sector.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0965.pdf

On the Origins of Land Use Regulations: Theory and Evidence from US Metro Areas

Christian A. L. Hilber Frédéric Robert-Nicoud

CEPDP0964. December 2009.We model residential land use constraints as the outcome of a political economy game between owners of developed and owners of undeveloped land. Land use constraints benefit the former group (via increasing property prices) but hurt the latter (via increasing development costs). More desirable locations are more developed and, as a consequence of political economy forces, more regulated. Using an IV approach that directly follows from our model we find strong and robust support for our predictions. The data provide weak or no support for alternative hypotheses whereby regulations reflect the wishes of the majority of households or efficiency motives.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0964.pdf

Wage Bargaining and the Boundaries of the Multinational Firm

Maria Bas Juan Carluccio

CEPDP0963. December 2009.Do variations in labor market institutions across countries affect the cross-border organization of the firm? Using firm-level data on multinationals located in France, we show that firms are more likely to outsource the production of intermediate inputs to external suppliers when importing from countries with empowered unions. Moreover, this effect is stronger for firms operating in capital-intensive industries. We propose a theoretical mechanism that rationalizes these findings. The fragmentation of the value chain weakens the union's bargaining position, by limiting the amount of revenues that are subject to union extraction. The outsourcing strategy reduces the share of surplus that is appropriated by the union, which enhances the firm's incentives to invest. Since investment creates relatively more value in capital-intensive industries, increases in union power are more likely to be conducive to outsourcing in those industries. Overall, our findings suggest that multinational firms use their organizational structure strategically when sourcing intermediate inputs from unionized markets.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0963.pdf

Welfare Policy and the Distribution of Hours of Work

L. Rachel Ngai Christopher A. Pissarides

CEPDP0962. December 2009.We examine the distribution of hours of work across industrial sectors in OECD countries. We find large disparities when sectors are divided into three groups: one that produces goods without home substitutes and two others that have home substitutes — health and social work, and all others. We attribute the disparities to the countries’ tax and subsidy policies. High taxation substantially reduces hours in sectors that have close home substitutes but less so in other sectors. Health and social care subsidies increase hours in that sector. We compute these effects for nineteen OECD countries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0962.pdf

Regional Trade Agreements

Caroline Freund Emanuel Ornelas

CEPDP0961. December 2009.This paper reviews the theoretical and the empirical literature on regionalism. The formation of regional trade agreements has been, by far, the most popular form of reciprocal trade liberalization in the last fifteen years. The discriminatory character of these agreements has raised three main concerns: that trade diversion would be rampant, because special interest groups would induce governments to form the most distortionary agreements; that broader external trade liberalization would stall or reverse; and that multilateralism could be undermined. Theoretically, all of these concerns are legitimate, although there are also several theoretical arguments that oppose them. Empirically, neither widespread trade diversion nor stalled external liberalization have materialized, while the undermining of multilateralism has not been properly tested. There are also several aspects of regionalism that have received too little attention from researchers, but which are central to understanding its causes and consequences.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0961.pdf

Do Oil Windfalls Improve Living Standards? Evidence from Brazil

Francesco Caselli Guy Michaels

CEPDP0960. December 2009.We use variation in oil output among Brazilian municipalities to investigate the effects of resource windfalls. We find muted effects of oil through market channels: offshore oil has no effect on municipal non-oil GDP or its composition, while onshore oil has only modest effects on non-oil GDP composition. However, oil abundance causes municipal revenues and reported spending on a range of budgetary items to increase, mainly as a result of royalties paid by Petrobras. Nevertheless, surveybased measures of social transfers, public good provision, infrastructure, and household income increase less (if at all) than one might expect given the increase in reported spending. To explain why oil windfalls contribute little to local living standards, we use data from the Brazilian media and federal police to document that very large oil output increases alleged instances of illegal activities associated with mayors.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0960.pdf

Collective Agreements, Wages and Restructuring in Transition

Iga Magda David Marsden Simone Moriconi

CEPDP0959. November 2009.Using a large matched employer-employee dataset, the authors investigate the relationship between collective agreements, wages and restructuring in transition in three former centrally planned economies (Czech Republic, Hungary and Poland). They adopt a natural experiment approach and capture the restructuring process triggered by the launch of transition by means of cohort effects among firms founded before or at different stages of this process which enable them to control for the heterogeneity of firms in different cohorts. They find that the wage premium associated with different levels of collective agreements depends on restructuring and its timing in the transition. In early-middle transition firms, industry level agreements protect low skilled wages; whereas in late transition ones, firm level agreements increase medium and especially high skilled wages. Some cross country differences emerge in the structure of the wage premium as a result of country specific features of restructuring.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0959.pdf

Recovering the Sunk Costs of R&D: the Moulds Industry Case

Carlos Daniel Santos

CEPDP0958. November 2009.Sunk costs for R&D are an important determinant of the level of innovation in the economy. In this paper I recover them using a Markov equilibrium framework. The contribution is twofold. First, a model of industry dynamics which accounts for selection into R&D, capital accumulation and entry/exit is proposed. The industry state is summarized by an aggregate state with the advantage that it avoids the "curse of dimensionality". Second, the estimated sunk costs of R&D for the Portuguese moulds industry are shown to be important (3.4 million Euros). They become particularly relevant since the industry is mostly populated by small firms. Institutional changes in the early 1990s generated an increase in demand from European car makers and created the incentives for firms to pay the costs of investment. Trade-induced innovation reinforced the selection effect by which international trade leads to productivity growth. Finally, using the estimated parameters, simulations evaluate the effects of changes in market size, sunk costs and entry costs.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0958.pdf

Rates of Return and Alternative Measures of Capital Input: 14 Countries and 10 Branches, 1971-2005

Nicholas Oulton Ana Rincon-Aznar

CEPDP0957. November 2009.We employ the EU KLEMS database to estimate the real rate of return to capital in 14 countries (11 in the EU, three outside the EU) in 10 branches of the market economy plus the market economy as a whole. Our measure of capital is an aggregate over seven types of asset: three ICT assets (computers, communications equipment, and software) and four non-ICT assets (machinery and equipment, nonresidential structures, transport equipment, and other). The real rate of return in the market economy does not vary very much across countries, with the exception of Spain where it is exceptionally high and in Italy where it is exceptionally low. The real rate appears to be trendless in most countries. Within each country however, the rate varies widely across the 10 branches, often being implausibly high or low. We also estimate the growth of capital services by two different methods: ex-post and exante, and the contribution of capital to output growth by three methods: ex-post, ex-ante and hybrid. Our implementation of the ex-ante method uses an estimate of the required rate of return for each country instead of the actual, average rate of return to calculate user costs and also employs the expected growth of asset prices rather than the actual growth. These estimates are derived from exactly the same data as for the ex-post method, ie without any extraneous data being employed. For estimating the contribution of capital to output growth, the ex-ante method uses ex-ante profit as the weight, while both the ex-post and the hybrid method use ex-post profit. We find that the three methods produce very similar results at the market economy level. But differences are much larger at the branch level, particularly between the ex-post and ex-ante methods.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0957.pdf

Networks in the Premodern Economy: the Market for London Apprenticeships, 1600-1749

Tim Leunig Chris Minns Patrick Wallis

CEPDP0956. November 2009.This paper examines the importance of social and geographical networks in structuring entry into skilled occupations in premodern London. Using newly digitised records of those beginning an apprenticeship in London between 1600 and 1749, we find little evidence that networks strongly shaped apprentice recruitment. The typical London apprentice did not have an identifiable connection to his master in the form of a kin link, shared name, or shared place or county of origin. The majority of migrant apprentices’ fathers came from outside of the craft sector. Our results suggest that the market for apprenticeship was strikingly open: well-to-do families of all types were able to access a wide range of craft and trade apprenticeships, and would-be apprentices had considerable scope to match their perceived ability and aptitude to opportunity.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0956.pdf

Can Family-Support Policies Help Explain Differences in Working Hours Across Countries?

Urban Sila

CEPDP0955. October 2009.It has been suggested in the literature that taxes and subsidies play an important role in explaining the differences in working hours across countries. In this paper I test whether public programmes for family support play a role in explaining this variation. I analyse two types of policies: childcare subsidies and family cash benefits. I distinguish between people with children and people without children. Childcare subsidies should increase working hours in the economy and these effects should differ between people with children and people without children. Public support to families is also expected to decrease the amount of time people spend in childcare at home. I test this using household data for a set of European countries and the US. Empirical analysis, however, does not support the family-policy explanation. The effects of the policies on working hours are weak and insignificant. In regressions with time spent caring for children as a dependent variable, the estimates of the effects contradict the predictions of the theory. Furthermore, I don’t find evidence for the expected differences in effects between parents and nonparents. I conclude that family policies are not helpful in explaining the variation in working hours across countries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0955.pdf

The Extent of Collective Bargaining and Workplace Representation: Transitions between States and their Determinants. A Comparative Analysis of Germany and Great Britain

John T. Addison Lutz Bellman Alex Bryson André Pahnke Paulino Teixeira

CEPDP0954. October 2009.Industrial relations are in flux in many nations, perhaps most notably in Germany and Britain. That said, comparatively little is known in any detail of the changing pattern of the institutions of collective bargaining and worker representation in Germany and still less in both countries about firm transitions between these institutions over time. The present paper maps changes in the importance of the key institutions, 1998-2004, and explores the correlates of two-way transitions, using successive waves of the German IAB Establishment Panel and both cross-sectional and panel components of the British Workplace Employment Relations Survey. We identify the workplace correlates of the demise of collective bargaining in Britain and the erosion of sectoral bargaining in Germany, and identify the respective roles of behavioral and compositional change.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0954.pdf

How Does Innovation Affect Worker Well-being?

Erling Barth Alex Bryson Harald Dale-Olsen

CEPDP0953. October 2009.We explore the effects of management innovations on worker well-being using private sector linked employer-employee data for Britain. We find management innovations are associated with lower worker well-being and lower job satisfaction, an effect which becomes more pronounced when we account for the endogeneity of innovation. This is the case for three different count measures of innovation – a global measure of innovation and measures for labour innovations and capital innovations. The effects are ameliorated when workers are covered by a collective bargaining agreement.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0953.pdf

US Real Interest Rates and Default Risk in Emerging Economies

Nathan Foley-Fisher Bernardo Guimaraes

CEPDP0952. October 2009.We empirically analyse the appropriateness of indexing emerging market sovereign debt to US real interest rates. We find that policy-induced exogenous increases in US rates raise default risk in emerging market economies, as hypothesised in the theoretical literature. However, we also find evidence that omitted variables which simultaneously increase US real interest rates and reduce the risk of default dominate the hypothesised relationship. We can only conclude that it’s not a good idea to index emerging market bonds to US real interest rates.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0952.pdf

The Economic Situation of First- and Second-Generation Immigrants in France, Germany and the United Kingdom

Yann Algan Christian Dustmann Albrecht Glitz Alan Manning

CEPDP0951. October 2009.A central concern about immigration is the integration into the labour market, not only of the first generation, but also of subsequent generations. Little comparative work exists for Europe’s largest economies. France, Germany and the United Kingdom have all become, perhaps unwittingly, countries with large immigrant populations albeit with very different ethnic compositions. Today, the descendants of these immigrants live and work in their parents’ destination countries. This paper presents and discusses comparative evidence on the performance of first- and second-generation immigrants in these countries in terms of education, earnings, and employment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0951.pdf

The Effect of Bans and Taxes on Passive Smoking

Jérôme Adda Francesca Cornaglia

CEPDP0950. October 2009.This paper evaluates the effect of smoking bans in public places on the exposure to tobacco smoke of non-smokers and contrasts it with the effect of excise taxes. Exploiting data on cotinine - a metabolite of nicotine - as well as state and time variation in anti-smoking policies across US states, we show that smoking bans in public places can perversely increase the exposure of non-smokers to tobacco smoke by displacing smokers to private places where they contaminate non-smokers, and in particular young children. In contrast, we find that higher taxes are an efficient way to decrease exposure to tobacco smoke, especially for those most exposed. We supplement this analysis by showing that bans have little effect on smoking cessation, and present evidence of displacement from public places using data on time use.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0950.pdf

How to Measure Living Standards and Productivity

Nicholas Oulton

CEPDP0949. September 2009.This paper sets out a general algorithm for calculating true cost-of-living indices or true producer price indices when demand is not homothetic, i.e. when not all expenditure elasticities are equal to one. In principle, economic theory tells us how we should calculate a true cost-of-living index or Konüs price index: first estimate the consumer’s expenditure function (cost function) econometrically and then calculate the Konüs price index directly from that. Unfortunately this is impossible in practice since real life consumer (producer) price indices contain hundreds of components, which means that there are many more parameters than observations. Index number theory has solved this problem, at least when demand is homothetic (all income elasticities equal to one). Superlative index numbers are second order approximations to any acceptable expenditure (cost) function. These index numbers require data only on prices and quantities over the time period or cross section under study. Unfortunately, there is overwhelming evidence that consumer demand is not homothetic (Engel’s Law). The purpose of the present paper is to set out a general algorithm for the nonhomothetic case. The solution is to construct a chain index number using compensated, not actual, expenditure shares as weights. The compensated shares are the actual shares, adjusted for changes in real income. These adjustments are made via an econometric model, where only the responses of demand to income changes need to be estimated, not the responses to price changes. This makes the algorithm perfectly feasible in practice. The new algorithm can be applied (a) in time series, e.g. measuring changes over time in the cost of living; (b) in cross section, e.g. measuring differences in the cost of living and hence the standard of living across countries; and (c) to cost functions, which enables better measures of technical progress to be developed.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0949.pdf

The Returns to Scarce Talent: Footedness and Player Remuneration in European Soccer

Alex Bryson Bernd Frick Rob Simmons

CEPDP0948. September 2009.We investigate the salary returns to the ability to play football with both feet. The majority of footballers are predominantly right footed. Using two data sets, a cross-section of footballers in the five main European leagues and a panel of players in the German Bundesliga, we find robust evidence of a substantial salary premium for two-footed ability, even after controlling for available player performance measures. We assess how this premium varies across the salary distribution and by player position.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0948.pdf

Did the National Minimum Wage Affect UK Prices?

Jonathan Wadsworth

CEPDP0947. August 2009.One potential channel through which the effects of the minimum wage could be directed is that firms who employ minimum wage workers could have passed on any higher labour costs resulting from the minimum wage in the form of higher prices. This study looks at the effects of the minimum wage on the prices of UK goods and services by comparing prices of goods produced by industries in which UK minimum wage workers make up a substantial share of total costs with prices of goods and services that make less use of minimum wage labour. Using sectoral-level price data matched to LFS survey data on the share of minimum wage workers in each sector, it is hard to find much evidence of significant price changes in the months that correspond immediately to the uprating of the NMW. However over the longer term, prices in several minimum wage sectors – notably take-away foods, canteen meals, hotel services and domestic services - do appear to have risen significantly faster than prices of non-minimum wage sectors. These effects were particularly significant in the four years immediately after the introduction of the minimum wage.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0947.pdf

The Paradox of Performance Related Pay Systems: 'Why Do We Keep Adopting Them in the Face of Evidence that they Fail to Motivate?'

David Marsden

CEPDP0946. August 2009.This paper considers one of the paradoxes of incentive pay used in Britain’s public services, namely that despite much evidence that it does not motivate employees, it continues to be widely used. It is argued that behind this evidence, there are significant examples in which its use has been associated with improved performance. A good part of this is to be explained by the way performance pay links pay and appraisal, and the pressure this puts on line managers to set clearer goals for their staff. There is also some evidence that the goal setting is the outcome of a form of integrative, or positive sum, negotiation between individual employees and their managers, and that it is not just ‘top down’.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0946.pdf

Participation in Organisations: Economic Approaches

Almudena Cañibano David Marsden

CEPDP0945. August 2009.Under the auspices of the debate about high performance work systems, it has been suggested that the evidence of positive results is disappointing and that one reason is that there has been a lack of theory. This paper argues that there is indeed a great deal of theory that could be used to reformulate the basic research questions, much of it coming from labour economics broadly understood. It includes a meta-survey of research on the effects of participation on performance since the landmark survey by Levine and Tyson in 1990 which was very positive. It finds that the evidence is less clear cut now. It is argued that this is due in part to consideration of a wider range of performance outcomes, improved data and methods, and to the wider diffusion of such practices compared with the 1980s. It is also suggested that the debate needs to be widened to include a broader range of participatory structures.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0945.pdf

One Nation Under a Groove? Identity and Multiculturalism in Britain

Andreas Georgiadis Alan Manning

CEPDP0944. July 2009.There is a lot of evidence that identity matters for behavior. There is a widespread belief that societies will function better if they manage to establish a common sense of identity among the population. And there are also contemporary fears that this common identity is threatened in several countries. In this paper we investigate the correlates of various measures of identity in the UK, a country currently greatly concerned about a perceived failure to build a common identity from a collection of diverse cultures. We find that the alleged failure to establish a British identity among ethnic minorities is exaggerated – for most their ethnicity and religion seem no barrier to a British identity. But there is a segment of the white population that clearly feels neglected and alienated, and are hostile to the multicultural agenda.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0944.pdf

Theory of Values

Andreas Georgiadis Alan Manning

CEPDP0943. July 2009.Economists have a well-developed theory of value but the theory of why people hold the values they do is rudimentary at best. In spite of the fact that it is common to argue that values are important, most work on values is normative and the positive theory of values is relatively under- developed. In this paper we propose a simple yet general way to think about values – they are about how one trades-off one own’s utility against that of others – and argue that we can draw on the large literature on pro-social behavior for hypotheses on how people will choose values. Then, using data from the UK’s Citizenship Survey we show how models of self-interest, fairness, reciprocity and identity, can explain many of the patterns that we observe in the data across a wide variety of values.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0943.pdf

Trade, Wages and Productivity

Kristian Behrens Giordano Mion Yasusada Murata Jens Südekum

CEPDP0942. July 2009.We develop a new general equilibrium model of monopolistic competition with heterogeneous firms, variable demand elasticity and multiple asymmetric regions, in which trade integration induces wage and productivity changes. Using Canada-US interregional trade data, we structurally estimate a theory-based gravity equation system featuring endogenous wages and productivity. Given the estimated parameter values, we first decompose border effects into a pure border effect, relative and absolute wage effects, and a selection effect. We then quantify the impacts of removing the trade distortions generated by the Canada-US border on regional market aggregates such as wages, productivity, markups, the mass of varieties produced and consumed, as well as welfare. Last, we extend the counterfactual analysis to the firm level by generating productivity distributions and their changes via simulation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0942.pdf

Institutions and the Management of Human Resources: Incentive Pay Systems in France and Great Britain

Richard Belfield David Marsden

CEPDP0941. July 2009.Using data from large-scale establishment surveys in Britain and France, we show that incentive pay for non-managers is more widespread in France than in Britain. We explain this finding in terms of the ‘beneficial constraint’ arising from stronger employment protection in France, which provides an impulse to develop incentive pay; employer networking activities in France, which facilitate joint learning about its development and operation; and government fiscal incentives for profit-sharing, which reduces the cost of its operation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0941.pdf

Inequality and Unemployment in a Global Economy

Elhanan Helpman Oleg Itskhoki Stephen Redding

CEPDP0940. July 2009.This paper develops a new framework for examining the distributional consequences of international trade that incorporates firm and worker heterogeneity, search and matching frictions in the labor market, and screening of workers by firms. Larger firms pay higher wages and exporters pay higher wages than non-exporters. The opening of trade enhances wage inequality and raises unemployment, but expected welfare gains are ensured if workers are risk neutral. And while wage inequality is larger in a trade equilibrium than in autarky, reductions of trade impediments can either raise or reduce wage inequality.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0940.pdf

Educational Returns, Ability Composition and Cohort Effects: Theory and Evidence for Cohorts of Early-Career UK Graduates

Norman Ireland Robin A. Naylor Jeremy Smith Shqiponja Telhaj

CEPDP0939. July 2009.An increase over time in the proportion of young people obtaining a degree is likely to impact on the relative ability compositions (i) of graduates and non-graduates and (ii) across graduates with different classes of degree award. In a signalling framework, we examine the implications of this on biases across cohorts in estimates of educational returns. In an empirical analysis, we exploit administrative data on whole populations of UK university students for ten graduate cohorts to investigate the extent to which early labour market outcomes vary with class of degree awarded. Consistent with our theoretical model, we find that returns by degree class increased across cohorts during a period of substantial graduate expansion. We also corroborate the empirical findings with evidence from complementary data on graduate sample surveys.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0939.pdf

Life Satisfaction and Relative Income: Perceptions and Evidence

Guy Mayraz Jürgen Schupp Gert G. Wagner

CEPDP0938. July 2009.Using a unique dataset we study both the actual and self-perceived relationship between subjective well-being and income comparisons against a wide range of potential comparison groups, enabling us to investigate a broader range of questions than in previous studies. In questions inserted into a 2008 module of the German-Socio Economic Panel Study we ask subjects to report (a) how their income compares to various groups, such a co-workers, friends, and neighbours, and (b) how important these income comparisons are to them. We find substantial gender differences, with income comparisons being much better predictors of subjective well-being in men than in women. Generic (same-gender) comparisons are the most important, followed by within profession comparisons. Once generic and within-profession comparisons are controlled for, income relative to neighbours has a negative coefficient, implying that living in a high-income neighbourhood increases happiness. The perceived importance of income comparisons is found to be uncorrelated with its actual relationship to subjective well-being, suggesting that people are unconscious of its real impact. Subjects who judge comparisons to be important are, however, significantly less happy than subjects who see income comparisons as unimportant. Finally, the marginal effect of relative income on subjective well-being does not depend on whether a subject is below or above the reference group income.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0938.pdf

The Organization of Firms Across Countries

Nick Bloom Raffaella Sadun John Van Reenen

CEPDP0937. June 2009.We argue that social capital as proxied by trust increases aggregate productivity by affecting the organization of firms. To do this we collect new data on the decentralization of investment, hiring, production, and sales decisions from Corporate Headquarters to local plant managers in almost 4,000 firms in the United States, Europe, and Asia. We find that firms headquartered in high trust regions are more likely to decentralize, with trust accounting for about half of the variation in decentralization in our data. To help identify causal effects, we look within multinational firms, and show that higher levels of bilateral trust between the multinational’s country of origin and subsidiary’s country of location increases decentralization, even after instrumenting trust using religious and ethnic similarities between the countries. Trust raises aggregate productivity through two channels: (1) trust facilitates reallocation between firms by allowing more efficient firms to grow as CEOs can decentralize more decisions and (2) trust complements the adoption of new technologies, thereby increasing productivity within firms during times of rapid technological change.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0937.pdf

Unemployment Insurance and Cultural Transmission: Theory and Application to European Unemployment

Jean-Baptiste Michau

CEPDP0936. June 2009.This paper emphasizes the two-way causality between the provision of unemployment insurance and the cultural transmission of work ethic. Values affect the size of the moral-hazard problem and, hence, the policy to be implemented. Conversely, when parents rationally choose how much effort to exert to raise their children to work hard, they form expectations on the policy that will be implemented by the next generation. In this context, I determine the dynamics of preferences across generations and show that the different cultural traits, i.e. high and low work ethics, are complementary. The model could generate a lag between the introduction of unemployment insurance and a deterioration of the work ethic. Relying on a calibration, I argue that it can account for a substantial fraction of the history of European unemployment since World War II. As this explanation is compatible with the co- existence of generous unemployment insurance and low unemployment in the 1950s and 1960s, it could be seen as an alternative to the dominant story that relies on the occurrence of large shocks since the 1970s. Supportive empirical evidence is provided.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0936.pdf

Trading Partners and Trading Volumes: Implementing the Helpman-Melitz-Rubinstein Model Empirically

J. M. C. Santos Silva Silvana Tenreyro

CEPDP0935. June 2009.Helpman, Melitz, and Rubinstein (2008)–HMR–present a rich theoretical model to study the determinants of bilateral trade flows across countries. The model is then empirically implemented through a two-stage estimation procedure. This note seeks to clarify some econometric aspects of the estimation approach used by HMR and explore the consequences of possible departures from the maintained distributional assumptions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0935.pdf

The Century of Education

Christian Morrisson Fabrice Murtin

CEPDP0934. June 2009.This paper presents a historical database on educational attainment in 74 countries for the period 1870-2010, using perpetual inventory methods before 1960 and then the Cohen and Soto (2007) database. The correlation between the two sets of average years of schooling in 1960 is equal to 0.96. We use a measurement error framework to merge the two databases, while correcting for a systematic measurement bias in Cohen and Soto (2007) linked to differential mortality across educational groups. Descriptive statistics show a continuous spread of education that has accelerated in the second half of the twentieth century. We find evidence of fast convergence in years of schooling for a sub-sample of advanced countries during the 1870-1914 globalization period, and of modest convergence since 1980. Less advanced countries have been excluded from the convergence club in both cases.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0934.pdf

Further Simulation Evidence on the Performance of the Poisson Pseudo-Maximum Likelihood Estimator

J. M. C. Santos Silva Silvana Tenreyro

CEPDP0933. May 2009.We extend the simulation results given in Santos-Silva and Tenreyro (2006, ‘The Log of Gravity’, The Review of Economics and Statistics, 88, pp.641-658) by considering data generated as a finite mixture of gamma variates. Data generated in this way can naturally have a large proportion of zeros and is fully compatible with constant elasticity models such as the gravity equation. Our results confirm that the Poisson pseudo maximum likelihood estimator is generally well behaved.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0933.pdf

On the Existence of the Maximum Likelihood Estimates for Poisson Regression

J. M. C. Santos Silva Silvana Tenreyro

CEPDP0932. May 2009.We note that the existence of the maximum likelihood estimates for Poisson regression depends on the data configuration. Because standard software does not check for this problem, the practitioner may be surprised to find that in some applications estimation of the Poisson regression is unusually difficult or even impossible. More seriously, the estimation algorithm may lead to spurious maximum likelihood estimates. We identify the signs of the non-existence of the maximum likelihood estimates and propose a simple empirical strategy to single out the regressors causing this type of identification failure.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0932.pdf

What if Congress Doubled R&D Spending on the Physical Sciences?

Richard Freeman John Van Reenen

CEPDP0931. May 2009.Many business, academic, and scientific groups have recommended that the Congress substantially increase R&D spending in the near future. President Bush’s American Competitiveness Initiative calls for a doubling of spending over the next decade in selected agencies that deal with the physical sciences, including the National Science Foundation. We consider the rationale for government R&D spending in the context of globalization and as an investment in human capital and knowledge creation with gestation times far longer than Federal funding cycles. To assess the impact of a large increase in R&D spending on the science job market, we examine the impact of the 1998- 2003 doubling of the NIH budget on the bio-medical sciences. We find that the rapid increase in NIH spending and ensuing deceleration created substantial adjustment problems in the market for research and failed to address long-standing problems with scientific careers that are likely to deter many young people from choosing a scientific career. We argue that because research simultaneously produces knowledge and add to the human capital of researchers, which has greater value for young scientists because of their longer future career life span than to older scientists, there is reason for funding agencies to tilt their awards to younger researchers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0931.pdf

The ASEAN Free Trade Agreement: Impact on Trade Flows and External Trade Barriers

Hector Calvo-Pardo Caroline Freund Emanuel Ornelas

CEPDP0930. May 2009.Using detailed data on trade and tariffs from 1992-2007, we examine how the ASEAN Free Trade Agreement has affected trade with non-members and external tariffs facing non-members. First, we examine the effect of preferential and external tariff reduction on import growth from ASEAN insiders and outsiders across HS 6-digit industries. We find no evidence that preferential liberalization has led to lower import growth from non-members. Second, we examine the relationship between preferential tariff reduction and MFN tariff reduction. We find that preferential liberalization tends to precede external tariff liberalization. To examine whether this tariff complementarity is a result of simultaneous decision making, we use the scheduled future preferential tariff reductions (agreed to in 1992) as instruments for actual preferential tariff changes after the Asia crisis. The results remain unchanged, suggesting that there is a causal relationship between preferential and MFN tariff reduction. We also find that external liberalization was relatively sharper in the products where preferences are likely to be most damaging, proving further support for a causal effect. Overall, our results imply that the ASEAN agreement has been a force for broader liberalization.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0930.pdf

Anatomy of a Health Scare: Education, Income and the MMR Controversy in the UK

Dan Anderberg Arnaud Chevalier Jonathan Wadsworth

CEPDP0929. May 2009.One theory for why there is an education gradient in health outcomes is that more educated individuals more quickly absorb new health-related information. The measles, mumps, and rubella (MMR) controversy provides a case where, for a short period, some publicized research suggested that the particular childhood vaccine could have serious side-effects. As the controversy unfolded, uptake of the vaccine by more educated parents decreased relative to that of less educated parents, turning a positive education gradient into a negative one. We also consider the response in terms of uptake of other childhood vaccines and purchases of alternatives to the MMR.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0929.pdf

Risk Taking and Performance in Multistage Tournaments: Evidence from Weightlifting Competitions

Christos Genakos Mario Pagliero

CEPDP0928. May 2009.We analyze the impact of interim ranking on the risk taking and performance behaviour of professional athletes participating in international weightlifting competitions. Weightlifting competitions are multistage tournaments with the unique characteristic that the athletes must announce in advance the amount they intend to lift at each stage, thus allowing quantification of the riskiness of their choices. We present two key findings. First, risk taking exhibits an inverted-U relationship with rank: risk taking increases up to rank six, but athletes then revert to safer strategies towards the bottom of the ranking. Second, athletes systematically underperform when ranked closer to the top, despite higher incentives to perform well. An athlete is more than 30 percent less likely to lift the announced weight when ranked first than tenth. Athletes also underperform in relatively more prestigious competitions, when the competition is more intense, and when the potential gain from a successful lift is higher. Taken together, these findings suggest that athletes may systematically “choke under pressure”.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0928.pdf

The Distinct Effects of Information Technology and Communication Technology on Firm Organization

Nick Bloom Luis Garicano Raffaella Sadun John Van Reenen

CEPDP0927. May 2009.Empirical studies on information communication technologies (ICT) typically aggregate the ‘information’ and ‘communication’ components together. We show theoretically and empirically that this is problematic. Information and communication technologies have very different effects on the decisions taken at each level of an organization. Better information access pushes decisions down by allowing employees lower in the hierarchy to make decisions more effectively. Better communication pushes decisions up by allowing employees to pass decisions up to the top of the hierarchy more easily. Using an original dataset of firms from the US and seven European countries we study the impact of ICT on worker autonomy, plant manager autonomy and span of control. Consistently with the theory we find that better information technologies (Enterprise Resource Planning, ERP, for plant managers and CAD/CAM for production workers) are associated with more autonomy and a wider span of control. By contrast, communication technologies (like data networks) decrease autonomy for both workers and plant managers. Treating technology as endogenous using instrumental variables (distance from the birthplace of ERP and heterogeneous telecommunication costs arising from different regulatory regimes) strengthen our results.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0927.pdf

Long-Term Health Effects on the Next Generation of Ramadan Fasting During Pregnancy

Reyn van Ewijk

CEPDP0926. April 2009.Each year, many pregnant women fast from dawn to sunset during the Islamic holy month of Ramadan. Medical theory suggests that this may have negative long-term health effects on their offspring. Building upon the work of Almond and Mazumder (2008), and using Indonesian crosssectional data, I show that people who were exposed to Ramadan fasting during their mother’s pregnancy have a poorer general health and are sick more often than people who were not exposed. This effect is especially pronounced among older people, who, when exposed, also report health problems more often that are indicative of coronary heart problems and type 2 diabetes. The exposed are a bit smaller in body size and weigh less. Among Muslims born during, and in the months after, Ramadan, the share of males is lower, which is most likely to be caused by death before birth. I show that these effects are unlikely to be an artifact of common health shocks, correlated to the occurrence of Ramadan, or o f fasting mainly occurring among women who, irrespective of fasting or not, would have had unhealthier children anyway.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0926.pdf

The Empirics of New Economic Geography

Stephen Redding

CEPDP0925. April 2009.Although a rich and extensive body of theoretical research on new economic geography has emerged, empirical research remains comparatively less well developed. This paper reviews the existing empirical literature on the predictions of new economic geography models for the distribution of income and production across space. The discussion highlights connections with other research in regional and urban economics, identification issues, potential alternative explanations and possible areas for further research.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0925.pdf

Employee Voice and Private Sector Workplace Outcomes in Britain, 1980-2004

Alex Bryson Rafael Gomez Tobias Kretschmer P Willman

CEPDP0924. April 2009.Non-union direct voice has replaced union representative voice as the primary avenue for employee voice in the British private sector. This paper provides a framework for examining the relationship between employee voice and workplace outcomes that explains this development. As exit-voice theory predicts, voice is associated with lower voluntary turnover, especially in the case of union voice. Union voice is also associated with greater workplace conflict and poorer productivity. Nonunion voice is associated with better workplace financial performance than other voice regimes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0924.pdf

Monetary Policy Under Alterative Asset Market Structures: the Case of a Small Open Economy

Bianca De Paoli

CEPDP0923. April 2009.Can the structure of asset markets change the way monetary policy should be conducted? Following a linear-quadratic approach, the present paper addresses this question in a New Keynesian small open economy framework. Our results reveal that the configuration of asset markets significantly affects optimal monetary policy and the performance of standard policy rules. In particular, when comparing complete and incomplete markets, the ranking of policy rules is entirely reversed, and so are the policy prescriptions regarding the optimal level of exchange rate volatility.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0923.pdf

Hot and Cold Seasons in the Housing Market

L. Rachel Ngai Silvana Tenreyro

CEPDP0922. April 2009.Every year during the second and thirdquarters (the “hot season”) housing markets in the UK and the US experience systematic above-trend increases in both prices and transactions. During the fourth and first quarters (the “cold season”), house prices and transactions fall below trend. We propose a search-and-matching framework that sheds new light on the mechanisms governing housing market fluctuations. The model has a “thick-market” effect that can generate substantial differences in the volume of transactions and prices across seasons, with the extent of seasonality in prices depending crucially on the bargaining power of sellers. The model can quantitatively mimic the seasonal fluctuations in transactions and prices observed in the UK and the US.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0922.pdf

Capital Flows and Asset Prices

Kosuke Aoki Gianluca Benigno Nobuhiro Kiyotaki

CEPDP0921. April 2009.After liberalizing international transactions of financial assets, many countries experience large swings in asset prices, capital flows, and aggregate production. This paper studies how the adjustment to capital account liberalization depends upon the degree of development of a domestic financial system, and why the economy with an underdeveloped financial system may be vulnerable to shocks to the domestic and foreign finance. We construct a model of a small open economy in which it is difficult to enforce debtors to repay their debts unless the debts are secured by collateral, and assets usable as collateral for international borrowing are more restricted than domestic borrowing.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0921.pdf

Unions and Workplace Performance in Britain and France

Alex Bryson John Forth Patrice Laroche

CEPDP0920. April 2009.Using nationally representative workplace surveys we examine the relationship between unionization and workplace financial performance in Britain and France. We find that union bargaining is detrimental to workplace performance in Britain and that this effect is larger when unionization is endogenized. In France, union bargaining is associated with poorer workplace performance but the effect disappears once unionization is treated as endogenous. However, high levels of union density do have a negative impact on workplace performance in France. In Britain the union effect does not rise with union density.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0920.pdf

'The Value of Rude Health': Employees' Well Being, Absence and Workplace Performance

David Marsden Simone Moriconi

CEPDP0919. April 2009.This paper brings new evidence on the relationship between employees' well being, sickness absence and four dimensions of workplace performance i.e. productivity, efficiency, quality of service and profitability. It uses a new panel dataset with monthly observations over two years for 48 local units of a large multi-site organisation in the logistics sector. It finds that good consultation and communication at the local level are associated with lower absenteeism. It also finds that lower absence is associated with higher efficiency, productivity, quality of the service and profitability of the firm. Finally, the authors suggest that the link between workers’ absence and this firm’s profitability runs through the increased use of replacement labour which raises short-run costs and reduces quality of service.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0919.pdf

Does Relative Income Matter? Are the Critics Right?

Richard Layard Guy Mayraz Stephen Nickell

CEPDP0918. March 2009.Do other peoples’ incomes reduce the happiness which people in advanced countries experience from any given income? And does this help to explain why in the U.S., Germany and some other advanced countries, happiness has been constant for many decades? The answer to both questions is ‘Yes’. We provide 4 main pieces of evidence. 1) In the U.S. General Survey (repeated samples since 1972) comparator income has a negative effect on happiness equal in magnitude to the positive effect of own income. 2) In the West German Socio-Economic Panel since 1984 the same is true but with lifesatisfaction as the dependant variable. We also use the Panel to compare the effect of income comparisons and of adaptation as factors explaining the stable level of life-satisfaction: income comparisons emerge as much the more important. 3) When in our U.S. analysis we introduce “perceived” relative income as a potential explanatory variable, its effect is as large as the effect of actual relative income – further supporting the view that comparisons matter. 4) Finally, for a panel of European countries since 1973 we estimate the effect of average income upon average lifesatisfaction, splitting income into two components: trend and cycle. The effect of trend income is small and ill-defined. Our conclusions relate to time series and to advanced countries only. They differ from those drawn in recent studies by Deaton and Stevenson/Wolfers, but those studies are largely cross-sectional and mostly include non-advanced as well as advanced countries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0918.pdf

The Impacts of the Climate Change Levy on business: Evidence from Microdata

Ralf Martin Ulrich J. Wagner Laure B. de Preux

CEPDP0917. March 2009.We estimate the impacts of the Climate Change Levy (CCL) on manufacturing plants using panel data from the UK production census. Our identification strategy builds on the comparison of outcomes between plants subject to the CCL and plants that were granted an 80% discount on the levy after joining a Climate Change Agreement (CCA). Exploiting exogenous variation in eligibility for CCA participation, we find that the CCL had a strong negative impact on energy intensity and electricity use. We cannot reject the hypothesis that the tax had no detrimental effects on economic performance and on plant exit.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0917.pdf

Convergence of Firm-Level Productivity, Globalisation, Information Technology and Competition: Evidence from France

Paul-Antoine Chevalier Rémy Lecat Nicholas Oulton

CEPDP0916. March 2009.Studies of firm-level data have shown that there is a huge dispersion of productivity across firms even when industries are narrowly defined. So there is a significant opportunity for the least productive firms to catch up to the most productive. The formers’ convergence could therefore constitute an important part of productivity growth at the macroeconomic level. This article sheds light on this convergence process in the 1990s and the 2000s in France and on some of the factors which can explain it. Productivity convergence was stronger for labour productivity than for total factor productivity. But most importantly the speed of convergence has slowed during the course of the 1990s, a fact which is explained principally by the acceleration of the productivity of firms on the technological frontier. Three possible explanations of these stylised facts are considered: globalisation, information technology, and competition. Globalisation and information technology may have benefited the most productive firms more and the growth of competition may at the same time have stimulated the productivity of firms at the frontier while discouraging the convergence of the least productive firms.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0916.pdf

The Importance of Relative Performance Feedback Information: Evidence from a Natural Experiment using High School Students

Ghazala Azmat Nagore Iriberri

CEPDP0915. March 2009.We study the effect of providing relative performance feedback information on performance under piece-rate incentives. A natural experiment that took place in a high school offers an unusual opportunity to test this effect in a real-effort setting. For one year only, students received information that allowed them to know whether they were above (below) the class average as well as the distance from this average. We exploit a rich panel data set and find that the provision of this information led to an increase of 5% in students’ grades. Moreover, the effect was significant for the whole distribution. However, once the information was removed the effect disappeared. To rule out the concern that the effect may be driven by teachers within the school, we verify our results using national level exams (externally graded) for the same students, and the effect remains.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0915.pdf

Accounting for Research and Productivity Growth Across Industries

L. Rachel Ngai Roberto M. Samaniego

CEPDP0914. March 2009.What factors underlie industry differences in research intensity and productivity growth? We develop a multi-sector endogenous growth model allowing for industry specific parameters in the production functions for output and knowledge, and in consumer preferences. We find that industry differences in both productivity growth and R&D intensity mainly reflect differences in "technological opportunities", interpreted as parameters of knowledge production. These include the capital intensity of R&D, knowledge spillovers, and diminishing returns to R&D. Among these parameters, we find that the degree of diminishing returns to R&D is the dominant factor when the model is calibrated to account for crossindustry differences in the US.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0914.pdf

Leader Behavior and the Natural Resource Curse

Francesco Caselli Tom Cunningham

CEPDP0913. March 2009.We discuss political economy mechanisms which can explain the resource curse, in which an increase in the size of resource rents causes a decrease in the economy’s total value added. We identify a number of channels through which resource rents will alter the incentives of a political leader. Some of these induce greater investment by the leader in assets that favour growth (infrastructure, rule of law, etc.), others lead to a potentially catastrophic drop in such activities. As a result, the effect of resource abundance can be highly non-monotonic. We argue that it is critical to understand how resources affect the leader’s "survival function", i.e. the reduced-form probability of retaining power. We also briefly survey decentralised mechanisms, in which rents induce a reallocation of labour by private agents, crowding out productive activity more than proportionately. We argue that these mechanisms cannot be fully understood without simultaneously studying leader behaviour.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0913.pdf

Government Transfers and Political Support

Marco Manacorda Edward Miguel Andrea Vigorito

CEPDP0912. March 2009.We estimate the impact of a large anti-poverty program – the Uruguayan PANES – on political support for the government that implemented it. The program mainly consisted of a monthly cash transfer for a period of roughly two and half years. Using the discontinuity in program assignment based on a pre-treatment score, we find that beneficiary households are 21 to 28 percentage points more likely to favor the current government (relative to the previous government). Impacts on political support are larger among poorer households and for those near the center of the political spectrum, consistent with the probabilistic voting model in political economy. Effects persist after the cash transfer program ends. We estimate that the annual cost of increasing government political support by 1 percentage point is roughly 0.9% of annual government social expenditures.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0912.pdf

Innovation and Institutional Ownership

Philippe Aghion John Van Reenen Luigi Zingales

CEPDP0911. February 2009.We find that institutional ownership in publicly traded companies is associated with more innovation (measured by cite-weighted patents). To explore the mechanism through which this link arises, we build a model that nests the lazy-manager hypothesis with career-concerns, where institutional owners increase managerial incentives to innovate by reducing the career risk of risky projects. The data supports the career concerns model. First, whereas the lazy manager hypothesis predicts a substitution effect between institutional ownership and product market competition (and managerial entrenchment generally), the career-concern model allows for complementarity. Empirically, we reject substitution effects. Second, CEOs are less likely to be fired in the face of profit downturns when institutional ownership is higher. Finally, using instrumental variables, policy changes and disaggregating by type of owner we find that the effect of institutions on innovation does not appear to be due to endogenous selection.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0911.pdf

Peer Effects in Science - Evidence from the Dismissal of Scientists in Nazi Germany

Fabian Waldinger

CEPDP0910. February 2009.This paper analyzes peer effects among university scientists. Specifically, it investigates whether the number of peers and their average quality affects the productivity of researchers in physics, chemistry, and mathematics. The usual endogeneity problems related to estimating peer effects are addressed by using the dismissal of scientists by the Nazi government as a source of exogenous variation in the peer group of scientists staying in Germany. Using a newly constructed panel dataset covering the universe of physicists, chemists, and mathematicians at all German universities from 1925 until 1938 I investigate peer effects at the local level and among co-authors. There is no evidence for localized peer effects, as neither department level (e.g. the physics department) nor specialization level (e.g. all theoretical physicists in the department) peers affect a researcher's productivity. Among co-authors, however, there is strong and significant evidence that peer quality affects a researcher's productivity. Loosing a co-author of average quality reduces the productivity of an average scientist by about 13 percent in physics and 16.5 percent in chemistry.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0910.pdf

The Macroeconomic Role of Unemployment Compensation

Tomer Blumkin Yossi Hadar Eran Yashiv

CEPDP0909. February 2009.The standard motivation for unemployment compensation is consumption smoothing and most papers in the literature have analyzed trade-offs involving consumption smoothing and moral hazard. This paper shows how such policy can increase output by enhancing the assignment of workers to jobs in the face of firm productivity heterogeneity and skill-biased technological change. It shows that in order to do so policy needs to be a function of the properties of the firm’s productivity distribution. The paper undertakes an empiricallygrounded, normative analysis of this issue. The analysis also bears upon the wage distribution, showing how optimal unemployment compensation policy is affected by wages and affects them in turn. A key insight emerging from the analysis is that the degree of firm productivity heterogeneity, in terms of skewness and variance, matters for the design of the time path of unemployment compensation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0909.pdf

International Trade Integration: A Disaggregated Approach

Natalie Chen Dennis Novy

CEPDP0908. January 2009.This paper investigates the sources and size of trade barriers at the industry level. We derive a micro-founded measure of industry-specific bilateral trade integration that has an in-built control for time-varying multilateral resistance. This trade integration measure is consistent with a broad range of recent trade models including the Anderson and van Wincoop (2003) framework, the Ricardian model by Eaton and Kortum (2002) and heterogeneous firms models. We use it to explore trade barriers for manufacturing industries in European Union countries between 1999 and 2003. We find a large degree of trade cost heterogeneity across industries. The most important trade barriers are transportation costs and policy factors such as Technical Barriers to Trade. Trade integration is generally lower for countries that opted out of the Euro or did not abolish border controls in accordance with the Schengen Agreement. Reductions in trade barriers explain about one-half of the growth in trade over the period 1999-2003 and are therefore a major driving force of the EU Single Market.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0908.pdf

To Leave or Not to Leave? A Regression Discontinuity Analysis of the Impact of Failing the High School Exit Exam

Dongshu Ou

CEPDP0907. January 2009.The high school exit exam (HSEE) is rapidly becoming a standardized assessment procedure for educational accountability in the United States. I use a unique state-specific dataset to identify the effect of failing the HSEE on the likelihood that a student drops out early based on a Regression Discontinuity design. It shows that students who barely fail the exam are more likely to exit than those who barely pass despite being offered retest opportunities. The discontinuity amounts to a large proportion of the dropout probability of barely-failers, particularly for minority and low-income students, suggesting that the potential benefit of raising educational standards might come at the cost of increasing inequalities in the educational system.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0907.pdf

The Margins of US Trade

Andrew B. Bernard J. Bradford Jensen Stephen Redding Peter K. Schott

CEPDP0906. January 2009.Recent research in international trade emphasizes the importance of firms’ extensive margins for understanding overall patterns of trade as well as how firms respond to specific events such as trade liberalization. In this paper, we use detailed U.S. trade statistics to provide a broad overview of how the margins of trade contribute to variation in U.S. imports and exports across trading partners, types of trade (i.e. arm’s-length versus related-party) and both short and long time horizons. Among other results, we highlight the differential behaviour of related-party and arm’s-length trade in response to the 1997 Asian financial crisis.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0906.pdf

On the International Dimension of Fiscal Policy

Gianluca Benigno Bianca De Paoli

CEPDP0905. January 2009.This paper analyses the international dimension of fiscal policy using a small open economy framework in which the government finances its spending by levying distortionary taxation and issuing non-state-contingent debt. The main finding of the paper is that, once the open economy aspect of the policy problem is considered, it is not optimal to smooth taxes following idiosyncratic shocks. Even when prices are flexible and inflation can costlessly act as a shock absorber to restore fiscal equilibrium, the presence of a terms of trade externality lead to movements in the tax rate. Also in contrast with the closed economy, the introduction of sticky prices can reduce the optimal volatility of taxes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0905.pdf

Economic Geography: A Review of the Theoretical and Empirical Literature

Stephen Redding

CEPDP0904. January 2009.This paper reviews the new economic geography literature, which accounts for the uneven distribution of economic activity across space in terms of a combination of love of variety preferences, increasing returns to scale and transport costs. After outlining the canonical core and periphery model, the paper examines the empirical evidence on three of its central predictions: the role of market access in deter- mining factor prices, the related home market effect in which demand has a more than proportionate effect on production, and the potential existence of multiple equilibria. In reviewing the evidence, we highlight issues of measurement and identification, alternative potential explanations, and remaining areas for further research.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0904.pdf

Change and Continuity Among Minority Communities in Britain

Andreas Georgiadis Alan Manning

CEPDP0903. January 2009.There is widespread concern currently that some ethnic minority communities within Britain, especially Muslim, are not following the stereotypical immigrant path of economic and cultural assimilation into British society. Indeed, many seem to have the impression that differences between Muslims and non-Muslims are widening. In this paper we compare the two largest Muslim communities in Britain (Pakistanis and Bangladeshis) with other ethnic minorities to ask the questions ‘are Muslims different?’ and ‘is their behaviour changing over time?’ The indicators we look at are the gender gap in education, age at marriage, cohabitation and inter-marriage, fertility and the employment of women. In all these dimensions we find that the Muslim communities are different but we also find evidence of change. This is partly because those born in Britain generally have markedly different behaviours from those born in the country of origin, but also because there is change within both the UK-born and foreign-born communities. The evidence suggests there is, along almost all dimensions, a movement towards convergence in behaviour.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0903.pdf

Trade, Technology Adoption and Wage Inequalities: Theory and Evidence

Maria Bas

CEPDP0902. December 2008.This paper develops a model of trade that features heterogeneous firms, technology choice and different types of skilled labor in a general equilibrium framework. Its main contribution is to explain the impact of trade integration on technology adoption and wage inequalities. It also provides empirical evidence to support the model’s predictions using plant-level panel data from Chile’s manufacturing sector (1990-1999). The theoretical framework offers a possible explanation of the puzzling increase in skill premium in the developing countries. The key mechanism is found in the effects of trade policy on the number of new firms upgrading technology and on the skill-intensity of labor. Trade liberalization pushes up export revenues, raising the probability that the most productive exporters will upgrade their technology. These firms then increase their relative demand for skilled labor, thereby raising inequalities.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0902.pdf

Service Traders in the UK

Holger Breinlich Chiara Criscuolo

CEPDP0901. December 2008.We provide a novel set of stylized facts on firms engaging in international trade in services, using unique firm-level data on services exports and imports in the United Kingdom in 2000- 2005. Less than 10% of firms trade in services but they can be found in all sectors of the UK economy. While the services sector accounts for 80% of total exports and imports, the frequency and trade intensity of services traders is often higher in sectors such as high- tech manufacturing. Services traders are bigger, more productive and are more likely to be foreign owned or part of a multinational enterprise. These ‘trade premia’ are smaller then for goods traders, however, with the exception of skill intensity which is higher among services traders. There are also significant differences between exporters and importers of services. Furthermore, we show that most firms only export or import a single service type and trade with a small number of countries. Trade volume, employment, turnover and value added are highly concentrated among a small group of firms trading with many countries and/or in many services types. These firms are characterised by bigger size and higher than average productivity, all of which seem to be principally correlated with more trade along the intensive margin (trade per services and country) .although there are a number of noteworthy exceptions. Interestingly, trade is also concentrated within .rms. The top export and import destination make up 70% of the average firm’s total trade and the top services type around 90%. This strong concentration is still present among firms trading with many countries and/or in many products.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0901.pdf

Protection and International Sourcing

Emanuel Ornelas John L. Turner

CEPDP0900. December 2008.We study the impact of import protection on relationship-specific investments, organizational choice and welfare. We show that a tariff on intermediate inputs can improve social welfare through mitigating hold-up problems. It does so if it discriminates in favor of the investing party, thereby improving its bargaining position. On the other hand, a tariff can prompt inefficient organizational choices if it discriminates in favor of less productive firms or if integration costs are low. Protection distorts organizational choices because tariff revenue, which is external to the firms, drives a wedge between the private and social gains to offshoring and integration.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0900.pdf

Central Bank's Two-Way Communication with the Public and Inflation Dynamics

Kosuke Aoki Takeshi Kimura

CEPDP0899. November 2008.Using a model of island economy where financial markets aggregate dispersed information of the public, we analyze how two-way communication between the central bank and the public affects inflation dynamics. When inflation target is observable and credible to the public, markets provide the bank with information about the aggregate state of the economy, and hence the bank can stabilize inflation. However, when inflation target is unobservable or less credible, the public updates their perceived inflation target and the information revealed from markets to the bank becomes less perfect. The degree of uncertainty facing the bank crucially depends on how two-way communication works.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0899.pdf

Understanding the Gender Pay Gap: What's Competition Got to Do with It?

Alan Manning Farzad Saidi

CEPDP0898. November 2008.A number of papers have recently argued that men and women have different attitudes and behavioural responses to competition. Laboratory experiments suggest that these gender differences are very large but it is important to be able to map these findings into real world differences. In this paper, we use performance pay as an indicator of competition in the workplace and compare the gender gap in incidence of performance pay and earnings and work effort under these contracts. Women are less likely to found in performance pay contracts but the gender gap is small. Furthermore, the effect of performance pay on earnings is modest and does not differ markedly by gender. Consequently the ability of these theories to explain the gender pay gap seems very limited.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0898.pdf

Improving Access to Psychological Therapy: Initial Evaluation of the Two Demonstration Sites

David M. Clark Richard Layard Rachel Smithies

CEPDP0897. November 2008.The Government’s Improving Access to Psychological Therapy (IAPT) programme aims to implement NICE Guidance for people with depression and anxiety disorders. In the first phase of the programme, two demonstration sites were established in Doncaster and Newham with funding to provide increased availability of cognitive-behaviour therapy-based (CBT) services to those in the community who need them. The services opened in late summer 2006. This paper documents the achievements of the sites up to September 2007 (roughly their first year of operation) and makes recommendations for the future roll out of IAPT services.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0897.pdf

Does Family Control Affect Trade Performance? Evidence for Italian Firms

Giorgio Barba Navaretti Riccardo Faini Alessandra Tucci

CEPDP0896. November 2008.This paper examines whether the export decision of firms is affected by their ownership structure, specifically it looks at whether family control is an obstacle to entering foreign markets. The underlying assumption is that family firms are risk averse. Risk aversion may be an obstacle to entering foreign markets, as far as these are perceived as more volatile and risky than the domestic one, particularly when such choice entices bearing relatively high sunk costs. We develop an illustrative theoretical model that shows how the combination between high risk aversion and low initial productivity may hinder family firms’ decision to enter foreign markets, particularly distant ones. The empirical analysis, based on a detailed panel data set of Italian firms covering the years from 1995 to 2003, confirms such predictions by showing that family controlled firms do indeed export less than other type of companies even after controlling for firm heterogeneity in productivity, size, technology and access to credit.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0896.pdf

Why Capital does not Migrate to the South: A New Economic Geography Perspective

Jang Ping Thia

CEPDP0895. November 2008.This paper explains why capital does not flow from the North to the South - the Lucas Paradox - with a New Economic Geography model that incorporates mobile capital, immobile labour, and productively heterogeneous firms. In contrast to neoclassical theories, the results show that even a small difference in the ex-ante productivity distribution between North and South can a have significant impact on the location of firms. Despite differences in aggregate capital to labour ratios, wage and rental rates continue to be the same in both locations. The paper also analyses the effects of risk on industrial locations, and shows why ‘low-tech’ industries tend to migrate to the South, while ‘high-tech’ industries continue to locate in the North.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0895.pdf

Survival of the Fittest in Cities: Agglomeration, Selection, and Polarisation

Kristian Behrens Frédéric Robert-Nicoud

CEPDP0894. October 2008.Empirical studies consistently report that labour productivity and TFP rise with city size. The reason is that cities attract the most productive agents, select the best of them, and make the selected ones even more productive via various agglomeration economies. This paper provides a microeconomically founded model of vertical city differentiation in which the latter two mechanisms (`agglomeration' and `selection') operate simultaneously. Our model is both rich and tractable enough to allow for a detailed investigation of when cities emerge, what determines their size, and how they interact through the channels of trade. We then uncover stylised facts and suggestive econometric evidence that are consistent with the most distinctive equilibrium features of our model. We show, in particular, that larger cities are both more productive and more unequal (`polarised'), that inter-city trade is associated with higher income inequalities, and that the proximity of large urban centres inhibits the development of nearby cities.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0894.pdf

Motivation and Sorting in Open Source Software Innovation

Sharon Belenzon Mark Schankerman

CEPDP0893. October 2008.This paper studies the role of intrinsic motivation, reputation, and reciprocity in driving open source software innovation. Unlike previous literature based on survey data, we exploit the observed pattern of contributions - the .revealed preference. of developers - to infer the underlying incentives driving the decision to contribute source code. Using detailed information on code contributions and project membership, we classify software developers into distinct types and study how contributions from each developer type vary according to the open source license type and other project characteristics. We find that developers strongly sort by license type, project size, and corporate sponsorship, and that reciprocity is important only for a small subset of projects. We also show that contributions have a substantial impact on the performance of open source projects.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0893.pdf

Urbanisation and Structural Transformation

Guy Michaels Ferdinand Rauch Stephen Redding

CEPDP0892. October 2008.This paper presents new evidence on urbanization using sub-county data for the United States from 1880-2000 and municipality data for Brazil from 1970-2000. We show that the two central stylized features of population growth for cities – Gibrat’s Law and a stable population distribution - are strongly rejected when both rural and urban areas are considered. Population growth exhibits a U-shaped relationship with initial population density, and only becomes uncorrelated with initial population density at the high densities found in predominantly urban areas. We provide evidence that the explanation for these patterns lies in different employment growth dynamics in the agricultural and non-agricultural sectors and the process of structural transformation away from the agricultural sector.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0892.pdf

Modern Management: Good for the Environment or Just Hot Air?

Nick Bloom Christos Genakos Ralf Martin Raffaella Sadun

CEPDP0891. October 2008.We use an innovative methodology to measure management practices in over 300 manufacturing firms in the UK. We then match this management data to production and energy usage information for establishments owned by these firms. We find that establishments in better managed firms are significantly less energy intensive. They use less energy per unit of output, and also in relation to other factor inputs. This is quantitatively substantial: going from the 25th to the 75th percentile of management practices is associated with a 17.4% reduction in energy intensity. This negative relationship is robust to a variety of controls for industry, location, technology and other factor inputs. Better managed firms are also significantly more productive. One interpretation of these results is that well managed firms are adopting modern lean manufacturing practices, which allows them to increase productivity by using energy more efficiently. This suggests that improving the management practices of manufacturing firms may help to reduce greenhouse gas emissions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0891.pdf

Comparing Willingness-to-Pay and Subjective Well-Being in the Context of Non-Market Goods

Paul Dolan Robert Metcalfe

CEPDP0890. October 2008.In order to value non-market goods, economists estimate individuals’ willingness to pay (WTP) for these goods using revealed or stated preference methods. We compare these conventional approaches with subjective well-being (SWB), which is based on individuals’ ratings of their happiness or life satisfaction rather than on their preferences. In the context of a quasi- experiment in urban regeneration, we find that monetary estimates from SWB data are significantly higher than from revealed and stated preference data. Stigma in revealed preferences, mental accounting in stated preferences and unspecified duration in SWB ratings might explain some of the difference between the valuation methods.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0890.pdf

Patent Thickets and the Market for Innovation: Evidence from Settlement of Patent Disputes

Alberto Galasso Mark Schankerman

CEPDP0889. August 2008.We study how fragmentation of patent rights (‘patent thickets’) and the formation of the Court of Appeal for the Federal Circuit (CAFC) affected the duration of patent disputes, and thus the speed of technology diffusion through licensing. We develop a model of patent litigation which predicts faster settlement agreements when patent rights are fragmented and when there is less uncertainty about court outcomes, as was associated with the ‘pro-patent shift’ of CAFC. The model also predicts that the impact of fragmentation on settlement duration should be smaller under CAFC. We confirm these predictions empirically using a dataset that covers nearly all patent suits in U.S. federal district courts during the period 1975-2000. Finally, we analyze how fragmentation affects total settlement delay, taking into account both reduction in duration per dispute and the increase in the number of required patent negotiations associated with patent thickets.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0889.pdf

Does Planning Regulation Protect Independent Retailers?

Raffaella Sadun

CEPDP0888. August 2008.Entry regulations against big-box retailers have been introduced in many countries to protect smaller independent stores. Using a new dataset from the UK, I show that in fact these entry regulations have been associated with greater employment declines in independent stores they were meant to protect. The reason is that when large retail chains are prevented from entering a new area with a big-box store, they typically enter instead using a smaller in-town store format. These smaller format stores compete more directly with independent stores. To causally identify this impact I use the changing nature of local political control in the UK from 1993 to 2003. Since local politicians directly control planning regulation in the UK, and political parties have very different views on the ideal amount of planning control, this provides exogenous variation in the ease of entry for big-box retailers. I estimate that 15% of the employment decline experienced by independent retailers between 1998 and 2004 can be attributed to the perverse effect of planning regulation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0888.pdf

Sales and Monetary Policy

Bernardo Guimaraes Kevin D. Sheedy

CEPDP0887. August 2008.A striking fact about prices is the prevalence of ``sales'': large temporary price cuts followed by a return exactly to the former price. This paper builds a macroeconomic model with a rationale for sales based on firms facing consumers with different price sensitivities. Even if firms can vary sales without cost, monetary policy has large real effects owing to sales being strategic substitutes: a firm's incentive to have a sale is decreasing in the number of other firms having sales. Thus the flexibility of prices at the micro level due to sales does not translate into flexibility at the macro level.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0887.pdf

Effort and Comparison Income: Experimental and Survey Evidence

Andrew E. Clark David Masclet Marie-Claire Villeval

CEPDP0886. August 2008.This paper considers the effect of status or relative income on work effort, combining experimental evidence from a gift-exchange game with the analysis of multi-country ISSP survey data. We find a consistent negative effect of others’ incomes on individual effort in both datasets. The individual’s rank in the income distribution is a stronger determinant of effort than is others’ average income, suggesting that comparisons are more ordinal than cardinal. In the experiment, effort is also affected by comparisons over time: those who received higher income offers or enjoyed higher income rank in the past exert lower levels of effort for a given current income and rank.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0886.pdf

How Does Shared Capitalism Affect Economic Performance in the UK?

Alex Bryson Richard Freeman

CEPDP0885. August 2008.This paper uses nationally representative linked workplace-employee data from the British 2004 Workplace Employment Relations Survey to examine the operation of shared capitalist forms of pay – profit-sharing and group pay for performance, employee share ownership, and stock options—and their link to productivity. It shows that shared capitalism has grown in the UK, as it has in the US; that different forms of shared capitalist pay complement each other and other labour practices in the sense that firms use them together more than they would if they chose modes of pay and work practices independently; and that workplaces switch among schemes frequently, which suggests that they have trouble optimizing and the transactions cost of switching are relatively low. Among the single schemes, share ownership has the clearest positive association with productivity, but its impact is largest when firms combine it with other forms of shared capitalist pay and modes of organization.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0885.pdf

Trading Places: Employers, Unions and the Manufacture of Voice

Alex Bryson Rafael Gomez P Willman

CEPDP0884. August 2008.Using nationally representative workplace data for Britain we show that over the last quarter century union voice – especially union-only voice – has been associated with poorer climate, more industrial action, poorer financial performance and poorer labour productivity than nonunion voice and, in particular, direct voice. On the other hand, union-based voice regimes have experienced lower quit rates than non-union and “no voice” regimes, as theory predicts. Over that time, while the workplace incidence of voice has remained constant, with roughly 8 workplaces out of 10 providing some form of voice, there has been a big shift from union to non-union voice, particularly direct employer-made voice. Thus employers are prepared generally to bear the costs of voice provision and manifest a reluctance to engage with their workforce without voice mechanisms in place. The associations between non-union voice mechanisms and desirable workplace outcomes suggest that these costs may be lower than the benefits voice generates.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0884.pdf

The Impact of Trade on Aggregate Productivity and Welfare with Heterogeneous Firms and Business Cycle Uncertainty

Jang Ping Thia

CEPDP0883. July 2008.This paper presents a model with monopolistic competition, productively heterogeneous firms, and business cycle aggregate shocks. With firm-specific productive heterogeneity, weaker firms quit when faced with a negative aggregate shock. Consequently, trade does not always increase firm-level aggregate productivity as negative shocks on the home market can be compensated for by positive shocks elsewhere. Weaker firms, which would otherwise quit in autarky, can continue to operate by exporting. Despite this, trade can still improve welfare for risk-averse consumers by reducing aggregate price fluctuations.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0883.pdf

When Workers Share in Profits: Effort and Responses to Shirking

Richard Freeman

CEPDP0882. July 2008.This paper summarizes new evidence from the “Shared Capitalism” Project on the extent to which workers’ earnings depend on the performance of their firm or work group in the US and advanced European countries and on the impact of sharing arrangements on economic behavior. The evidence shows that: 1) a large and growing proportion of workers are covered by shared capitalism through worker profit-sharing, bonuses, or worker ownership of shares; 2) outcomes for workers and firms are higher under shared capitalism than under other work and pay arrangements; and 3) that worker co-monitoring helps overcome the free rider problem that arises when part of workers pay depends on the productivity and effort of all workers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0882.pdf

Organizational Commitment: Do Workplace Practices Matter?

Alex Bryson Michael White

CEPDP0881. July 2008.Using nationally-representative linked employer-employee data for Britain this paper considers whether employers are able to influence the organizational commitment (OC) of their employees through the practices they deploy. We examine the association between OC and two broad groups of HRM practices emphasised in two different strands of the literature, namely “High-Performance Workplace Practices” (HPWPs) and practices associated with “Perceived Organizational Support” (POS). We consider their associations with mean workplace-level OC and individual employees’ OC. Although employers may be able to engender greater OC on the part of their employees, the practices that do so are not those emphasized in the HPWP literature, with the exception of consultation and the involvement of employees in decision-taking. POS practices fare a little better but, again, the findings are far from unequivocal. Furthermore, those practices that are ‘effective’ in engendering higher OC such as tolerance of absence, recruiting on ‘values’ and allowing employees to make decisions, tend to have a fairly low incidence in British workplaces. There is, however, one finding which chimes with the ideas underpinning the HPWP literature, namely that there are returns to the use of practices in combination. Analyses of both mean workplace-level OC and individual employee OC find an independent positive association between OC and the deployment of multiple practices in combination. This evidence is consistent with practices having synergies, as emphasised in some of the HPWP literature.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0881.pdf

Minimum Wages and Earnings Inequality in Urban Mexico. Revisiting the Evidence

Mariano Bosch Marco Manacorda

CEPDP0880. July 2008.This paper explores the contribution of the minimum wage to the well documented rise in earnings inequality in Mexico between the late 1980 and the late 1990s. In contrast to the view that sees minimum wages as an ineffective redistributive tool in developing countries, we find that the deterioration in the real bite of the minimum wage is responsible for the entire rise in inequality at the bottom of the distribution. Our result challenges the widespread perception that trade induced shocks are the single most important factor behind the recent rise in earnings inequality in several less developed economies.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0880.pdf

Relative Factor Endowments and International Portfolio Choice

Alejandro Cuñat Christian Fons-Rosen

CEPDP0879. July 2008.This paper presents a model of international portfolio choice based on cross-country differences in relative factor abundance. Countries have varying degrees of similarity in their factor endowment ratios, and are subject to aggregate productivity shocks. Risk averse consumers can insure against these shocks by investing their wealth at home and abroad. In a many-good setup, the change in relative prices after a positive shock in a particular country provides insurance to countries that have dissimilar factor endowment ratios, but is bad news for countries with similar factor endowment ratios, since their incomes will worsen. Therefore countries with similar relative factor endowments have a stronger incentive to invest in one another for insurance purposes than countries with dissimilar endowments. Empirical evidence linking bilateral international investment positions to a proxy for relative factor endowments supports our theory: the similarity of host and source countries in their relative capital-labor ratios has a positive effect on the source country’s investment position in the host country. The effect of similarity is enhanced by the size of host countries as predicted by the theory.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0879.pdf

The Cost of Grade Retention

Marco Manacorda

CEPDP0878. July 2008.This paper uses administrative longitudinal micro data on the universe of Junior High school students in Uruguay to measure the effect of grade failure on students' subsequent school outcomes. Exploiting the discontinuity induced by a rule establishing automatic grade failure for pupils missing more than 25 days, I show that grade failure leads to substantial drop-out and lower educational attainment even after 4 to 5 years since the time when failure first occurred. Complementary evidence based on a change in the regime of grade promotion leads to very similar conclusions, suggesting that non-random sorting around the discontinuity point is unlikely to drive my results.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0878.pdf

A 'New Trade' Theory of GATT/WTO Negotiations

Ralph Ossa

CEPDP0877. June 2008.I develop a novel theory of GATT/WTO negotiations. This theory provides new answers to two prominent questions in the trade policy literature: first, what is the purpose of trade negotiations? And second, what is the role played by the fundamental GATT/WTO principles of reciprocity and nondiscrimination? Relative to the standard terms-of-trade theory of GATT/WTO negotiations, my theory makes two main contributions: first, it builds on a ‘new trade’ model rather than the neoclassical trade model and therefore sheds new light on GATT/WTO negotiations between similar countries. Second, it relies on a production relocation externality rather than the terms-of-trade externality and therefore demonstrates that the terms-of-trade externality is not the only trade policy externality which can be internalized in GATT/WTO negotiations.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0877.pdf

Real Origins of the Great Depression: Monopoly Power, Unions and the American Business Cycle in the 1920s

Monique Ebell Albrecht Ritschl

CEPDP0876. June 2008.We attempt to explain the severe 1920-21 recession, the roaring 1920s boom, and the slide into the Great Depression after 1929 in a unified framework. The model combines monopolistic product market competition with search frictions in the labor market, allowing for both individual and collective wage bargaining. We attribute the extraordinary macroeconomic and financial volatility of this period to two factors: Shifts in the wage bargaining regime and in the degree of monopoly power in the economy. A shift from individual to collective bargaining presents as a recession, involving declines in output and asset values, and increases in unemployment and real wages. The pro-union provisions of the Clayton Act of 1914 facilitated the rise of collective bargaining after World War I, leading to the asset price crash and recession of 1920-21. A series of tough anti-union Supreme Court decisions in late 1921 induced a shift back to individual bargaining, leading the economy out of the recession. This, coupled with the lax anti-trust enforcement of the Coolidge and Hoover administrations enabled a major rise in corporate profits and stock market valuations throughout the 1920s. Landmark pro-union court decisions in the late 1920s, as well as political pressure on firms to adopt the welfare capitalism model of high wages, led to collapsing profit expectations, contributing substantially to the stock market crash. We model the onset of the Great Depression as an equilibrium switch from individual wage bargaining to (actual or mimicked) collective wage bargaining. The general equilibrium effects of this regime change are consistent with large decreases in output, employment, and stock prices and moderate increases in real wages.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0876.pdf

Evolution of Locations, Specialisation and Factor Returns with Two Distinct Waves of Globalisation

Jang Ping Thia

CEPDP0875. June 2008.This paper presents an economic geography model with two differentiated sectors that exhibit weaker inter and stronger intra-industry input-output linkages. Labour is also differentiated according to skills in a hierarchy of tasks they can perform. Globalisation occurs in two distinct phases, leading to the agglomeration of an industry (manufacturing) in the first wave, which is subsequently displaced by the other industry (services) when the second wave of globalisation takes place. Because of agglomeration effects, the increase in relative endowment of a factor may increase its relative wages, leading to more inequality. Within and between nations inequality can result.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0875.pdf

Product Market Deregulation and the U.S. Employment Miracle

Monique Ebell Christian Haefke

CEPDP0874. June 2008.We consider the dynamic relationship between product market entry regulation and equilibrium unemployment. The main theoretical contribution is combining a job matching model with monopolistic competition in the goods market and individual bargaining. We calibrate the model to US data and perform a policy experiment to assess whether the decrease in trend unemployment during the 1980's and 1990's could be attributed to product market deregulation. Under a traditional calibration, our results suggest that a decrease of less than two-tenths of a percentage point of unemployment rates can be attributed to product market deregulation, a surprisingly small amount. Under a small surplus calibration, however, product market deregulation can account for the entire decline in US trend unemployment over the 1980's and 1990's.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0874.pdf

Resurrecting the Participation Margin

Monique Ebell

CEPDP0873. June 2008.This paper considers a real business cycle model with search frictions in the labor market and labor supply which is elastic along the participation margin. Previous authors have found that such models generate counterfactually procyclical unemployment and a positively-sloped Beveridge curve. This paper presents a calibrated model which succeeds at generating countercyclical unemployment and a negatively-sloped Beveridge curve despite the presence of a participation margin.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0873.pdf

Wage Setting Patterns and Monetary Policy: International Evidence

Giovanni Olivei Silvana Tenreyro

CEPDP0872. June 2008.Systematic differences in the timing of wage setting decisions among industrialized countries provide an ideal framework to study the importance of wage rigidity in the transmission of monetary policy. The Japanese Shunto presents the most well-known case of bunching in wage setting decisions: From February to May, most firms set wages that remain in place until the following year; wage rigidity, thus, is relatively higher immediately after the Shunto. Similarly, in the United States, a large fraction of firms adjust wages in the last quarter of the calendar year. In contrast, wage agreements in Germany are well-spread within the year, implying a relatively uniform degree of rigidity. We exploit variation in the timing of wagesetting decisions within the year in Japan, the United States, Germany, the United Kingdom, and France to investigate the effects of monetary policy under different degrees of effective wage rigidity. Our findings lend support to the long-held, though scarcely tested, view that wage-rigidity plays a key role in the transmission of monetary policy.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0872.pdf

Vulnerability of Currency Pegs: Evidence from Brazil

Bernardo Guimaraes

CEPDP0871. June 2008.This paper analyses predictions of a simple model of currency crises in which the peg will be abandoned when the currency overvaluation hits a certain threshold, unknown to the agents. Due to learning about the threshold, some features usually observed in the data and identified with models with multiple equilibria arise in the model. But the model yields distinctive predictions about the behaviour of the probability and the expected magnitude of a currency devaluation. The paper identifies the probability and expected magnitude of a devaluation of Brazilian Real in the period leading up to the end of the Brazilian pegged exchange rate regime, using data on exchange rate options. The empirical results are consistent with model predictions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0871.pdf

Was Germany Ever United? Evidence from Intra- and International Trade 1885-1933

Nikolaus Wolf

CEPDP0870. May 2008.This paper asks whether Germany was ever an economically integrated area. I explore the geography of trade costs in a new data set of about 40,000 observations on regional trade flows within and across the borders of Germany over the period 1885 – 1933. There are three key results. First, the German Empire before 1914 was a poorly integrated economy, both relative to integration across the borders of the German state and internally. Second, this internal fragmentation had its origins in administrative borders within Germany, in a geographical barrier that divided Germany roughly along natural trade routes into east and west, and in a considerable cultural heterogeneity within Germany prior to 1919. Third, internal integration improved along with external disintegration in the wake of the war, partly due to border changes along the lines of ethno-linguistic heterogeneity and again with the Great Depression. By the end of the Weimar Republic in 1933, Germany was reasonably well integrated.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0870.pdf

Mapping Prices into Productivity in Multisector Growth Models

L. Rachel Ngai Roberto M. Samaniego

CEPDP0869. May 2008.Two issues related to mapping a multi-sector model into a reduced-form value-added model are often neglected: the composition of intermediate goods, and the distinction between value added productivity and gross output productivity. We demonstrate their quantitative significance for the case of the well known model of Greenwood, Hercowitz and Krusell (1997), who find that about 60% of economic growth can be attributed to investment-specific technical change (ISTC). When we recalibrate their model to allow for even a small equipment share of intermediates, we find that ISTC accounts for almost the entirety of postwar US growth.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0869.pdf

Does Regionalism Affect Trade Liberalization Towards Non-Members?

Antoni Estevadeordal Caroline Freund Emanuel Ornelas

CEPDP0868. May 2008.We examine the effect of regionalism on unilateral trade liberalization using industry-level data on applied MFN tariffs and bilateral preferences for ten Latin American countries from 1990 to 2001. We find that preferential tariff reduction in a given sector leads to a reduction in the external (MFN) tariff in that sector. External liberalization is greater if preferences are granted to important suppliers. However, these “complementarity effects” of preferential liberalization on external liberalization do not arise in customs unions. Overall, our results suggest that concerns about a negative effect of preferential liberalization on external trade liberalization are unfounded.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0868.pdf

A Tale of Two Countries: Unions, Closures and Growth in Britain and Norway

Alex Bryson Harald Dale-Olsen

CEPDP0867. May 2008.Using linked private sector employer-employee panel data for Britain and Norway we explore the effects of unionization on workplace closure and employment growth over the period 1997-2004. Unions prolonged the life of low-wage workplaces in Britain, whereas Norwegian unions increased (reduced) closure hazards in high (low) waged workplaces. Contrary to earlier studies, unions had no effect on workplace growth in Britain. In Norway, union workplaces experienced 4 percent per annum lower growth. However, the estimation of a dynamic panel data model for Norway indicates positive long-term causal effects of union density on employment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0867.pdf

Multinational Firms, Monopolistic Competition and Foreign Investment Uncertainty

Arunish Chawla

CEPDP0866. April 2008.This is a model of multinational firms, which introduces option value of foreign direct investment, into a framework of Dixit-Stiglitz type monopolistic competition. Starting from a pure trading equilibrium and solving for the optimal investment rule gives a scale-up factor which implies existence of a wedge between markup revenues and foreign investment costs. Greater volatility and risk aversion increase this scale-up over foreign investment costs implying a delay in the exercise of FDI option, while growing market size and national income facilitate early exercise. The model is extended to include a Poisson jump process, which has policy implications for FDI reforms and explains ‘wait and watch’ behaviour of multinational firms better than a pure comparative advantage-trade cost framework does. While investment under uncertainty literature is based on the theory of call options, I solve ‘FDI option’ as a put option, thereby also enriching the theory of real options.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0866.pdf

Labor Market Reforms, Job Instability, and the Flexibility of the Employment Relationship

Niko Matouschek P Ramezzana Frédéric Robert-Nicoud

CEPDP0865. April 2008.We endogenize separation in a search model of the labor market and allow for bargaining over the continuation of employment relationships following productivity shocks to take place under asymmetric information. In such a setting separation may occur even if continuation of the employment relationship is privately efficient for workers and firms. We show that reductions in the cost of separation, owing for example to a reduction in firing taxes, lead to an increase in job instability and, when separation costs are initially high, may be welfare decreasing for workers and firms. We furthermore show that, in response to an exogenous reduction in firing taxes, workers and firms may switch from rigid to flexible employment contracts, which further amplifies the increase in job instability caused by policy reform.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0865.pdf

Union Decline in Britain

David Blanchflower Alex Bryson

CEPDP0864. April 2008.This paper investigates the demise of unionisation in British private sector workplaces over the last quarter century. We show that dramatic union decline has occurred across all types of workplace. Although the union wage premium persists it is quite small in 2004. Negative union effects on employment growth and financial performance are largely confined to the 1980s. Managerial perceptions of the climate of relations between managers and workers has deteriorated since the early 1980s across the whole private sector, whether the workplace is unionised or not.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0864.pdf

Policy Uncertainty and Precautionary Savings

Francesco Giavazzi Michael F. McMahon

CEPDP0863. April 2008.In 1997 Chancellor Kohl proposed a major pension reform: he pushed the law through Parliament explaining that the German PAYG system had become unsustainable. One limitation of the new law - one that is crucial for our identification strategy - is that it left the generous pension entitlements of civil servants intact. The year after, in 1998, Kohl lost the elections and was replaced by Gerhard Shroeder. One of the first decisions of the new Chancellor was to revoke of the 1997 pension reform. We use the quasi-experiment of the adoption and subsequent revocation of the pension reform to study how households reacted to the increase in uncertainty about the future path of income that such an event produced. Our estimates are obtained from a diff-in-diff estimator: this helps us overcome the identification problem that often affects measures of precautionary saving. Departing from the majority of studies on precautionary saving we also analyze households' response in terms of labor market choices: we find evidence of a labor supply response by those workers who can use the margin offered by part-time employment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0863.pdf

Delayed Doves: MPC Voting Behaviour of Externals

Stephen Hansen Michael F. McMahon

CEPDP0862. April 2008.The use of independent committees for the setting of interest rates, such as the Monetary Policy Committee (MPC) at the Bank of England, is quickly becoming the norm in developed economies. In this paper we examine the issue of appointing external members (members who are outside the staff of the central bank) to these committees. We construct a model of MPC voting behaviour, and show that members who begin voting for similar interest rates should not systematically diverge from each other at any future point. However, econometric results in fact show that external members initially vote in line with internal members, but after a year, begin voting for substantially lower interest rates. The robustness of this effect to including member fixed effects provides strong evidence that externals behave differently from internals because of institutional differences between the groups, and not some unobserved heterogeneity. We then examine whether career concerns can explain these findings, and conclude that they cannot.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0862.pdf

Private Sector Employment Growth, 1998-2004: A Panel Analysis of British Workplaces

Alex Bryson Satu Nurmi

CEPDP0861. April 2008.Using nationally representative panel data for British private sector workplaces this paper points to the importance of distinguishing between workplace and firm size when analysing employment growth, and finds that the factors associated with growth differ markedly between single independent establishments and those belonging to multi-site firms. Results also differ according to whether one adjusts for sample selection arising from workplace survival, and according to whether one distinguishes between growth per se and internal, organic employment growth. We find evidence at the plant level that is consistent with creative job destruction.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0861.pdf

Tax Cuts in Open Economies

Alejandro Cuñat Szabolcs Deak Marco Maffezzoli

CEPDP0860. March 2008.A reduction in income tax rates generates substantial dynamic responses within the framework of the standard neoclassical growth model. The short-run revenue loss after an income tax cut is partly - or, depending on parameter values, even completely - offset by growth in the long-run, due to the resulting incentives to further accumulate capital. We study how the dynamic response of government revenue to a tax cut changes if we allow a Ramsey economy to engage in international trade: the open economy's ability to reallocate resources between labor-intensive and capital-intensive industries reduces the negative effect of factor accumulation on factor returns, thus encouraging the economy to accumulate more than it would do under autarky. We explore the quantitative implications of this intuition for the US in terms of two issues recently treated in the literature: dynamic scoring and the Laffer curve. Our results demonstrate the internaional trade enhances the response of government revenue to tax cuts by a relevant amount. In our benchmark calibration, a reduction in the capital-income tax rate has virtually no effect on government revenue in steady state.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0860.pdf

Union Density and Varieties of Coverage: The Anatomy of Union Wage Effects in Germany

Bernd Fitzenberger Karsten Kohn Alexander C. Lembcke

CEPDP0859. March 2008.Collective bargaining in Germany takes place either at the industry level or at the firm level; collective bargaining coverage is much higher than union density; and not all employees in a covered firm are necessarily covered. This institutional setup suggests to distinguish explicitly union power as measured by net union density (NUD) in a labor market segment, coverage at the firm level, and coverage at the individual level. Using linked employer-employee data and applying quantile regressions, this is the first empirical paper which simultaneously analyzes these three dimensions of union influence on the structure of wages. Ceteris paribus, a higher share of employees in a firm covered by industry-wide or firm-level contracts is associated with higher wages. Yet, individual bargaining coverage in a covered firm shows a negative impact both on the wage level and on wage dispersion. A higher union density is negative at all points in the wage distribution for uncovered employees. In line with an insurance motive, higher union density compresses the wage structure and, at the same time, it is associated with a uniform leftward movement of the distribution for uncovered employees.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0859.pdf

International Trade, Minimum Quality Standards and the Prisoners' Dilemma

Dimitra Petropoulou

CEPDP0858. February 2008.Unilateral minimum quality standards are endogenously determined as the outcome of a non-cooperative standard-setting game between the governments of two countries. Cross-country externalities from the implementation of minimum quality standards are shown to give rise to a Prisoners' Dilemma structure in the incentives of policy-makers leading to inefficient policy outcomes. The role of minimum quality standards as non-tariff barriers is examined and the scope for mutual gains from reciprocal adjustment in minimum standards analysed. The analysis delivers four results. First, there exist four unregulated Nash equilibria in minimum standards, two symmetric and two asymmetric, depending on the quality ranking of firms in each market. The analysis establishes that in all four cases, unilaterally selected minimum quality standards are inefficient as a result of cross-country externalities. Second, minimum quality standards are shown to operate as non-tariff barriers to trade. Third, the world welfare maximising symmetric standard can be reached through reciprocal adjustments in national minimum standards from either of the two symmetric Nash equilibria. Finally, the scope for mutually beneficial cooperation is shown to be significantly restricted when cross-country externalities are asymmetric. Asymmetric externalities make a cooperative agreement at the world optimum infeasible.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0858.pdf

Efficiency Wages and the Economic Effects of the Minimum Wage: Evidence from a Low-Wage Labour Market

Andreas Georgiadis

CEPDP0857. February 2008.We exploit a natural experiment provided by the 1990 introduction of the UK National Minimum Wage (NMW) to investigate the relationship between wages and monitoring and to test for Efficiency Wages considerations in a low-wage sector, the UK residential care homes industry. Our findings seem to support the wage-supervision trade-off prediction of the shirking model, and that employers didn't dissipate minimum wage rents by increasing work intensity or effort requirements on the job. Estimation results suggest that higher wage costs were more than offset by lower monitoring costs, and thus the overall evidence imply that the NMW may have operated as an Efficiency Wage. These findings support Efficiency Wage models used to explain a non-negative employment effect of the Minimum Wage and provide an explanation of recent evidence from the care homes sector that although the wage structure was heavily affected by the NMW introduction, there were moderate employment effects.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0857.pdf

Employment Outcomes in the Welfare State

L. Rachel Ngai Christopher A. Pissarides

CEPDP0856. February 2008.We examine the implications of tax and subsidy policies for employment in the "three worlds of welfare", Anglo-Saxon, Continental European and Scandinavian. We argue that home production is key to a proper evaluation of the employment outcomes. Anglo-Saxon low-support policies encourage more overall market employment. Continental transfer polilcies encourage more home production in services with close substitutes at home. Scandinavian policies give incentives to move home production in social services to the market but discourage other service activity. We find support for our claims in sectoral employment data for five representative countries, United States, Britain, France, Italy and Sweden.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0856.pdf

Talking Less and Moving the Market More: Is this the Recipe for Monetary Policy Effectiveness? Evidence from the ECB and the Fed

Carlo Rosa

CEPDP0855. February 2008.This paper examines and compares the communication strategies of the Federal Reserve and the European Central Bank, and their effectiveness. First we do a comparative study exercise. We find that on monetary policy committee meeting days both the ECB and the Fed can move market rates using either monetary policy or news shocks. However, the response of the long-end of the American term structure to the surprise component of Fed's statements is significantly larger than the reaction of European long-term yields to ECB's announcements. This result is intimately related to the higher transparency of U.S. Fed statements compared to ECB announcements rather than to the different institutional mandate of the two central banks. Second, we investigate the cross-effects i.e. the Fed's ability to move European interest rates and the corresponding ECB's capacity to move American rates. We find that the Fed has been more able to move the European interst rates of all maturities than the ECB to move American rates. This finding is tied to the predominance of dollar fixed income assets rather than to an attempt of the ECB to mimic the Fed.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0855.pdf

Competing for Contacts: Network Competition, Trade Intermediation and Fragmented Duopoly

Dimitra Petropoulou

CEPDP0854. February 2008.A two-sided, pair-wise matching model is developed to analyse the strategic interaction between two information intermediaries who compete in commission rates and network size, giving rise to a fragmented duopoly market structure. The model suggests that network competition between information intermediaries has a distinctive market structure, where intermediaries are monopolistic service providers to some contacts but duopolists over contacts they share in their network overlap. the intermediaries' inability to price discriminate between the competitive and non-competitive market segments, gives rise to an undercutting game, which has no pure strategy Nash equilibrium. The incentive to randomise commission rates yields a mixed strategy Nash equilibrium. Finally, competition is affected by the technology of network development. The analysis shows that either a monopoly or a fragmented duopoly can prevail in equilibrium, depending on the network-building technology. Under convexity assumptions, both intermediaries invest in a network and compete over common matches, while randomising commission rates. In contrast, linear network development costs can only give rise to a monopolistic outcome.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0854.pdf

The Ins and Outs of European Unemployment

Barbara Petrongolo Christopher A. Pissarides

CEPDP0853. February 2008.In this paper we study the contribution of inflows and outflows to the dynamics of unemployment in three European countries, the United Kingdom, France and Spain. We compare performance in these three countries making use of both administrative and labor force survey data. We find that the impact of the 1980s reforms in Britain is evident in the contributions of the inflow and outflow rates. The inflow rate became a bigger contributor after the mid 1980s, although its significance subsided again in the late 1990s and 2000s. In France the dynamics of unemployment are driven virtually entirely by the outflow rate, which is consistent with a regime with strict employment protection legislation. In Spain, however, both rates contribute significantly to the dynamics, very likely as a consequence of the prominence of fixed-term contracts since the late 1980s.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0853.pdf

Panic on the Streets of London: Police, Crime and the July 2005 Terror Attacks

Mirko Draca Stephen Machin Robert Witt

CEPDP0852. February 2008.In this paper we study the causal impact of police on crime by looking at what happened to crime before and after the terror attacks that hit central London in July 2005. The attacks resulted in a large redeployment of police officers to central London boroughs as compared to outer London - in fact, police deployment in central London increased by over 30 percent in the six weeks following the July 7 bombings. During this time crime fell significantly in central relative to outer London. Study of the timing of the crime reductions and their magnitude, the types of crime which were more likely to be affected and a series of robustness tests looking at possible biases all make us confident that our research approach identifies a causal impact of police on crime. Implementing an instrumental variable approach shows an elasticity of crime with respect to police approximately -0.3, so that a 10 percent increase in police activity reduces crime by around 3 percent.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0852.pdf

On the Relative Gains to Immigration: A Comparison of the Labour Market Position of Indians in the USA, the UK and India

Jonathan Wadsworth Augustin de Coulon

CEPDP0851. February 2008.While most studies of the decision to immigrate focus on the absolute income differences between countries, we argue that relative change in purchasing power or status, as captured by an individual’s ranking in the wage distribution, may also be important. This will in turn be influenced by differential levels of supply, demand and migration costs across the skill distribution and across countries. Using data on Indian immigrants in the United States and the UK matched to comparable data on individuals who remained in India, we show that the average Indian immigrant will experience a fall in their relative ranking in the wage distribution compared to the position they would have achieved had they remained in the origin country. The fall in relative rankings is larger for immigrants to the UK than to the US, and largest of all for those with intermediate skills.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0851.pdf

A Swing-State Theory of Trade Protection in the Electoral College

Mirabelle Muûls Dimitra Petropoulou

CEPDP0849. February 2008.This paper develops an infinite-horizon, political agency model with a continuum of political districts, in which incumbent politicians can improve their re-election probability by attracting swing voters in key states through strategic trade protection. A unique equilibrium is shown to exist where incumbents build a reputation of protectionism through their policy decisions. We show that strategic trade protection is more likely when protectionist swing voters have a lead over free-trade supporters in states with relatively strong electoral competition that represent a larger proportion of Electoral College votes. US data is used to test the hypothesis that industrial concentration in swing and decisive states is an important determinant of trade protection of that industry. The empirical findings provide support for the theory and highlight an important, and previously overlooked, determinant of trade protection in the US Electoral College.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0849.pdf

Information Costs, Networks and Intermediation in International Trade

Dimitra Petropoulou

CEPDP0848. February 2008.This paper presents a pairwise matching model with two-sided information asymmetry to analyse the impact of information costs on endogenous network building and matching by information intermediaries. The framework innovates by examining the role of information costs on incentives for trade intermediation, thereby endogenising the pattern of direct and indirect trade. Intermediation is shown to unambiguously raise expected trade volume and social welfare by expanding the set of matching technologies available to traders. Moreover, convexity in network-building costs is necessary for both direct and indirect trade to arise in equilibrium while the pattern of trade is shown to depend on the level of information costs as well as the relative effectiveness of direct and indirect matching technologies with changing information costs. The model sheds light on the relationship between information frictions and aggregate trade volume, which may be non-monotonic as a result of conflicting effects of information costs on the incentives for direct and indirect trade.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0848.pdf

Optimal External Debt and Default

Bernardo Guimaraes

CEPDP0847. February 2008.This paper analyses whether sovereign default episodes can be seen as contingencies of optimal international lending contracts. The model considers a small open economy with capital accumulation and without commitment to repay debt. Taking first order approximations of Bellman equations, I derive analytical expressions for the equilibrium level of debt and the optimal debt contract. In this environment, debt relief generated by reasonable fluctuations in productivity is an order of magnitude below that generated by shocks to world interest rates. Debt relief prescribed by the model following the interest rate hikes of 1980-81 accounts for a substantial part of the debt forgiveness obtained by the main Latin American countries through the Brady agreements.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0847.pdf

On the Extent of Re-Entitlement Effects in Unemployment Compensation

Javier Ortega Laurence Rioux

CEPDP0846. January 2008.A dynamic labor matching economy is presented, in which the unemployed are either entitled to unemployment insurance (UI) or unemployment assistance (UA), and the employees are either eligible for UI or UA upon future separations. Eligibility for UI requires a minimum duration of contributions and UI benefits are then paid for a limited duration. Workers are risk-averse and wages are determined in a bilateral Nash bargain. As eligibility for UI does not automatically follow from employment, the two types of unemployed workers have different threat points, which delivers equilibrium wage dispersion. Most of the variables and parameters of the model are estimated using the French sample of the European Community Household Panel (1994-2000). We show that extending the UI entitlement improves the situation of all groups of workers and slightly lowers unemployment, while raising UI benefits harms the unemployed on assistance and raises unemployment. Easier eligibility fo r UI also improves the situation of all groups of workers and favors relatively more the least well-off than longer entitlement. The re-entitlement effect in France lowers by 10% the rise in the wage and by 13% the rise in unemployment following a 10% increase in benefit levels.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0846.pdf

A Simple Model of the Juggernaut Effect of Trade Liberalisation

Richard E. Baldwin Frédéric Robert-Nicoud

CEPDP0845. January 2008.This paper posits a formal political economy model where the principle of reciprocity in multilateral trade talks results in the gradual elimination of tariffs. Reciprocity trade talks turn each nation’s exporters into anti-protectionists at home; they lower foreign tariffs by convincing their own government to lower home tariffs. Due to the new array of political forces, each government finds it politically optimal to remove tariffs that it previously found politically optimal to impose. The one-off global tariff cut then reshapes the political economy landscape via entry and exit – reducing the size/influence of import-competing sectors and increasing that of exporters. In the next round of trade talks governments therefore find it politically optimal to cut tariffs again. The process may continue until tariffs are eliminated.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0845.pdf

Labor Market Institutions Around the World

Richard Freeman

CEPDP0844. January 2008.This paper documents the large cross-country differences in labor institutions that make them a candidate explanatory factor for the divergent economic performance of countries and reviews what economists have learned about the effects of these institutions on economic outcomes. It identifies three ways in which institutions affect economic performance: by altering incentives, by facilitating efficient bargaining, and by increasing information, communication, and trust. The evidence shows that labor institutions reduce the dispersion of earnings and income inequality, which alters incentives, but finds equivocal effects on other aggregate outcomes, such as employment and unemployment. Given weaknesses in the crosscountry data on which most studies focus, the paper argues for increased use of micro-data, simulations, and experiments to illuminate how labor institutions operate and affect outcomes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0844.pdf

Can Pay Regulation Kill? Panel Data Evidence on the Effect of Labor Markets on Hospital Performance

Emma Hall Carol Propper John Van Reenen

CEPDP0843. January 2008.Labor market regulation can have harmful unintended consequences. In many markets, especially for public sector workers, pay is regulated to be the same for individuals across heterogeneous geographical labor markets. We would predict that this will mean labor supply problems and potential falls in the quality of service provision in areas with stronger labor markets. In this paper we exploit panel data from the population of English acute hospitals where pay for medical staff is almost flat across the country. We predict that areas with higher outside wages should suffer from problems of recruiting, retaining and motivating high quality workers and this should harm hospital performance. We construct hospital-level panel data on both quality - as measured by death rates (within hospital deaths within thirty days of emergency admission for acute myocardial infarction, AMI) - and productivity. We present evidence that stronger local labor markets significantly worsen hospital outcomes in terms of quality and productivity. A 10% increase in the outside wage is associated with a 4% to 8% increase in AMI death rates. We find that an important part of this effect operates through hospitals in high outside wage areas having to rely more on temporary “agency staff” as they are unable to increase (regulated) wages in order to attract permanent employees. By contrast, we find no systematic role for an effect of outside wages of performance when we run placebo experiments in 42 other service sectors (including nursing homes) where pay is unregulated.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0843.pdf

Productivity and the Sourcing Modes of Multinational Firms: Evidence from French Firm-Level Data

Fabrice Defever Farid Toubal

CEPDP0842. December 2007.We investigate the role of a firm’s total factor productivity in its decision to import from their affiliates rather than from independent input suppliers. We propose a slightly modified version of the Antràs and Helpman (2004) model. We assume higher fixed costs under outsourcing and a firm-specific production function. We use detailed French firm-level data that provides a geographical breakdown of French firms’ import at product level and their sourcing modes in 1999. We find strong empirical support for the theoretical predictions of the model. In particular, high-productivity firms that have a production process intensive in suppliers’ inputs source their inputs through independent foreign suppliers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0842.pdf

What Are the Long-Term Effects of UI? Evidence from the UK JSA Reform

Barbara Petrongolo

CEPDP0841. December 2007.This paper investigates long-term returns from unemployment compensation, exploiting variation from the UK JSA reform of 1996, which implied a major increase in job search requirements for eligibility and in the related administrative hurdle. Search theory predicts that such changes should raise the proportion of non-claimant nonemployed, with consequences on search effort and labor market attachment, and lower the reservation wage of the unemployed, with negative effects on post-unemployment wages. I test these ideas on longitudinal data from Social Security records (LLMDB). Using a difference in differences approach, I find that individuals who start an unemployment spell soon after JSA introduction, as opposed to six months earlier, are 2.5-3% more likely to move from unemployment into Incapacity Benefits spells, and 4% less likely to have positive earnings in the following year. This latter employment effect only vanishes four years after the initial unemployment shock. At the same time, earnings for the treated individuals seem to be lower than for the non treated, but the confidence intervals around these estimated effects are quite large to exclude a wider variety of scenarios. These results suggest that while tighter search requirements were successful in moving individuals off unemployment benefits, they were not successful in moving them onto new or better jobs, with fairly long lasting unintended consequences on a number of labor market outcomes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0841.pdf

Robustly Optimal Monetary Policy

Kevin D. Sheedy

CEPDP0840. November 2007.This paper analyses optimal monetary policy in response to shocks using a model that avoids making specific assumptions about the stickiness of prices, and thus the nature of the Phillips curve. Nonetheless, certain robust features of the optimal monetary policy commitment are found. The optimal policy rule is a flexible inflation target which is adhered to in the short run without any accommodation of structural inflation persistence, that is, inflation which it is costly to eliminate. The target is also made more stringent when it has been missed in the past. With discretion on the other hand, the target is loosened to accommodate fully any structural inflation persistence, and any past deviations from the inflation target are ignored. These results apply to a wide range of price stickiness models because the market failure which the policymaker should aim to mitigate arises from imperfect competition, not from price stickiness itself.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0840.pdf

The Unemployment Volatility Puzzle: Is Wage Stickiness the Answer?

Christopher A. Pissarides

CEPDP0839. November 2007.I study the cyclical behavior of an equilibrium search model with endogenous job creation and destruction, with focus on the model’s failure to match the observed cyclical volatility of unemployment. Job creation in the model is influenced by wages in new matches. I summarize microeconometric evidence on wages in new matches and show that the key model elasticities are consistent with the evidence. Therefore explanations of the unemployment volatility puzzle have to preserve the cyclical volatility of wages. I discuss some extensions of the model that can increase cyclical unemployment volatility through mechanisms other than wage stickiness.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0839.pdf

Inflation Persistence When Price Stickiness Differs Between Industries

Kevin D. Sheedy

CEPDP0838. November 2007.There is much evidence that price-adjustment frequencies vary widely across industries. This paper shows that inflation persistence is lower with heterogeneity in price stickiness than without it, taking as given the degree of persistence in variables affecting inflation. Differences in the frequency of price adjustment mean that the pool of firms which responds to any macroeconomic shock is unrepresentative, containing a disproportionately large number of firms from industries with more flexible prices. Consequently, this group of firms is more likely to reverse any initial price change after a shock has dissipated, making inflation persistence much harder to explain.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0838.pdf

Intrinsic Inflation Persistence

Kevin D. Sheedy

CEPDP0837. November 2007.It is often argued that the New Keynesian Phillips curve is at odds with the data because it cannot explain inflation persistence — the difficulty of returning inflation immediately to target after a shock without any loss of output. This paper explains how a model where newer prices are stickier than older prices is consistent with this phenomenon, even though it introduces no deviation from optimizing, forwards-looking price setting. The probability of adjusting new and old prices is estimated using a novel method that draws only on macroeconomic data, and the findings strongly support the premise of the model.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0837.pdf

Lags and Leads in Life Satisfaction: A Test of the Baseline Hypothesis

Andrew E. Clark Ed Diener Yannis Georgellis Richard E. Lucas

CEPDP0836. November 2007.We look for evidence of habituation in twenty waves of German panel data: do individuals, after life and labour market events, tend to return to some baseline level of well-being? Although the strongest life satisfaction effect is often at the time of the event, we find significant lag and lead effects. We cannot reject the hypothesis of complete adaptation to marriage, divorce, widowhood, birth of child, and layoff. However, there is little evidence of adaptation to unemployment. Men are somewhat more affected by labour market events (unemployment and layoffs) than are women, but in general the patterns of anticipation and adaptation are remarkably similar by sex.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0836.pdf

Creative Destruction with On-the-Job Search

Jean-Baptiste Michau

CEPDP0835. November 2007.This paper is about the labour market consequences of creative destruction with on-the-job search. We consider a matching model in an economy with embodied technological progress and show that its dynamics are profoundly affected by allowing on-the-job search. We obtain that the elasticity of unemployment with respect to growth shrinks from 1.63 to 0.13. Moreover, the underlying transmission channels change as the flow of obsolete jobs practically disappears and is replaced by a flow of job-to-job transitions. These effects persist even if employed job seekers are significantly less efficient in the search process than the unemployed. Thus, we show that, rather than contributing to unemployment, creative destruction induces a direct reallocation of workers from low to high productivity jobs. These results could be strengthened by assuming that search efforts are unobservable by firms which induces more on-the-job search. However, the action of worker is no longer surplus maximizing and, hence, the worker’s welfare is increasing in the cost of search which acts as a commitment device. Finally, we show that the model could be extended by allowing for variable search intensity.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0835.pdf

Scylla and Charybdis. The European Economy and Poland's Adherence to Gold, 1928-1936

Nikolaus Wolf

CEPDP0834. November 2007.This paper examines the timing of exit from the gold-exchange standard for European countries based on a panel of monthly observations 1928-1936 for two purposes: first it aims to understand the enormous variation in monetary policy choices across Europe. I show that the pattern of exit from gold can be understood in terms of variation in factors commonly suggested in the theoretical literature, which makes it possible to predict with reasonable accuracy the very month when a country will exit gold in the 1930s. Second, I analyse the case of Poland more closely because it appears to be an intriguing outlier. Poland did not leave gold until April 1936 and suffered through one of the worst examples of a depression, with massive deflation and a complete collapse of industrial production. The estimated model fares worst for Poland, and predicts an exit even later than April 1936. By closer inspection, the factors that drive this prediction are the non-democratic character of the regime and a surprisingly high degree of trade integration with France. I argue that Poland’s monetary policy was determined by attempts of the Piłsudski regime to defend Poland against foreign (esp. German) aggression. I provide evidence that strongly supports this view until about mid-1933. Ironically, just when Poland had joined the gold-bloc there were signs of a broad strategic reorientation, which paved the way for an exit in 1936.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0834.pdf

Innovation in Business Groups

Sharon Belenzon Tomer Berkovitz

CEPDP0833. November 2007.Using novel data on European firms, this paper examines the effect of business group affiliation on innovation. We find that business groups foster the scale and novelty of corporate innovation. Group affiliation is particularly important in industries that rely more on external finance and have a higher degree of information asymmetry. We also find that the innovation of affiliates is less sensitive to operating cash flows. We interpret our results as supporting the ‘bright side’ of business group internal capital markets and explain how legal boundaries between group affiliates mitigate the inefficiencies found in internal capital markets of US conglomerates.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0833.pdf

Incentives in Competitive Search Equilibrium

Espen R. Moen A Rosen

CEPDP0832. November 2007.This paper analyses the interaction between internal agency problems within firms and external search frictions when workers have private information. We show that the allocation of resources is determined by a modified Hosios Rule. We then analyze the effect of changes in the macro economic variables on the wage contract and the unemployment rate. We find that private information may increase the responsiveness of the unemployment rate to changes in productivity. The incentive power of the wage contracts is positively related to high productivity, low unemployment benefits and high search frictions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0832.pdf

U.S. Labor Market Dynamics Revisited

Eran Yashiv

CEPDP0831. November 2007.The picture of U.S. labor market dynamics is opaque. Empirical studies have yielded contradictory findings and debates have emerged regarding their implications. This paper aims at clarifying the picture, which is important for the understanding of the operation of the labor market, for the study of business cycles, for the explanation of wage behavior, and for the formulation of policy. The paper determines what facts can be established, what are their implications, and what remains to be further investigated. The main contributions made here are: (i) Listing of data facts that can be agreed upon. These indicate that there is considerable cyclicality and volatility of both accessions to employment and separations from it. Hence, both are important for the understanding of the business cycle. (ii) Presenting the business cycle facts of key series. (iii) Pointing to specific gaps in the data picture: disparities in the measurement of the sizeable flows between employment and the pool of workers out of the labor force, disagreements about the relative volatility of job finding and separation rates across data sets, and the fact that the fit of the gross flows data with net employment growth data differs across studies and is not high. The definite characterization of labor market dynamics depends upon the closing of these data gaps.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0831.pdf

Growth and the Quality of Foreign Direct Investment: Is All FDI Equal?

Laura Alfaro Andrew Charlton

CEPDP0830. November 2007.In this paper we distinguish different “qualities” of FDI to re-examine the relationship between FDI and growth. We use ‘quality’ to mean the effect of a unit of FDI on economic growth. However this is difficult to establish because it is a function of many different country and project characteristics which are often hard to measure Hence, we differentiate “quality FDI” in several different ways. First, we look at the possibility that the effects of FDI differ by sector. Second, we differentiate FDI based on objective qualitative industry characteristics including the average skill intensity and reliance on external capital. Third, we use a new dataset on industry-level targeting to analyze quality FDI based on the subjective preferences expressed by the receiving countries themselves. Finally, we use a two-stage least squares methodology to control for measurement error and endogeneity. Exploiting a new comprehensive industry level data set of 29 countries between 1985 and 2000, we find that the growth effects of FDI increase when we account for the quality of FDI.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0830.pdf

Cost-Benefit Analysis of Psychological Therapy

David Clark Martin Knapp Richard Layard Guy Mayraz

CEPDP0829. October 2007.At present six million people are suffering from clinical depression or anxiety disorders, but only a quarter of them are in treatment. NICE Guidelines prescribe the offer of evidence-based psychological therapy, but they are not implemented, due to lack of therapists within the NHS. We therefore estimate the economic costs and benefits of providing psychological therapy to people not now in treatment. The cost to the government would be fully covered by the savings in incapacity benefits and extra taxes that result from more people being able to work. On our estimates the cost could be recovered within two years – and certainly within five. And the benefits to the whole economy are greater still. This is not because we expect the extra therapy to be targeted especially at people with problems about work. It is because the cost of the therapy is so small (£750 in total), the recovery rates are so high (50%) and the cost of a person on IB is so large (£750 per month). These findings strongly reinforce the humanitarian case for implementing the NICE Guidelines. Current proposals for doing this would require some 8,000 extra psychological therapists within the NHS over the next six years.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0829.pdf

Maternal Smoking During Pregnancy and Early Child Outcomes

Emma Tominey

CEPDP0828. October 2007.We estimate the harm from smoking during pregnancy upon child birth outcomes, using a rich dataset on a cohort of mothers and their births. We exploit a fixed effects approach to disentangle the correlation between smoking and birth weight from the causal effect. We find that, despite a detailed set of controls for maternal traits, around one-third of the harm from smoking is explained by unobservable traits of the mother. Smoking tends to reduce birth weight by 1.7%, but has no significant effect on the probability of having a low birth weight child, pre-term gestation or weeks of gestation. Exploring heterogeneity in the effect on birth weight, it is mothers who smoke for the 9 months of gestation that suffer the harm, whereas there is an insignificant effect for mothers who chose to quit by month 5. Additionally, there is evidence of potential complementarity in investment of human capital, as the impact on birth weight of smoking is much greater for low educated mothers, even controlling for the quantity of cigarettes they smoke. We suggest policy should target the low educated mothers, offering a more holistic approach to improving child health, as quitting smoking is only half of the battle.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0828.pdf

Testing the "Waterbed" Effect in Mobile Telephony

Christos Genakos Tommaso Valletti

CEPDP0827. October 2007.This paper examines the impact of regulatory intervention to cut termination rates of calls from fixed lines to mobile phones. Under quite general conditions of competition, theory suggests that lower termination charges will result in higher prices for mobile subscribers, a phenomenon known as the “waterbed” effect. The waterbed effect has long been hypothesized as a feature of many two-sided markets and especially the mobile network industry. Using a uniquely constructed panel of mobile operators’ prices and profit margins across more than twenty countries over six years, we document empirically the existence and magnitude of this effect. Our results suggest that the waterbed effect is strong, but not full. We also provide evidence that both competition and market saturation, but most importantly their interaction, affect the overall impact of the waterbed effect on prices.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0827.pdf

Information Technology, Organization, and Productivity in the Public Sector: Evidence from Police Departments

Luis Garicano Paul Heaton

CEPDP0826. October 2007.We examine how information technology (IT) contributes to organizational change, labor demand, and improved productivity in the public sector using a new panel data set of police departments covering 1987-2003. While IT adoption is associated with increased administrative and organizational complexity and use of more highly educated officers, IT itself does not appear to enhance crimefighting effectiveness. These results are robust to various methods for controlling for agency-level characteristics and the endogeneity of IT use. IT investments do, however, appear to improve police productivity when complemented with particular management practices–in this case, those associated with the Compstat program.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0826.pdf

Intra-Industry Foreign Direct Investment

Laura Alfaro Andrew Charlton

CEPDP0825. October 2007.We use a new firm level data set that establishes the location, ownership, and activity of 650,000 multinational subsidiaries—close to a comprehensive picture of global multinational activity. A number of patterns emerge from the data. Most foreign direct investment (FDI) occurs between rich countries. The share of vertical FDI (subsidiaries which provide inputs to their parent firms) is larger than commonly thought, even within developed countries. More than half of all vertical subsidiaries are only observable at the four-digit level because the inputs they are supplying are so proximate to their parent firms’ final good that they appear identical at the two-digit level. We call these proximate subsidiaries ‘intra-industry’ vertical FDI and find that their location and activity are significantly different to the inter-industry vertical FDI visible at the two-digit level. These subsidiaries are not readily explained by the comparative advantage considerations in traditional models, where firms locate their low skill production stages abroad in low skill countries to take advantage of factor cost differences. We find that overwhelmingly, multinationals tend to own the stages of production proximate to their final production giving rise to a class of high-skill intra-industry vertical FDI.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0825.pdf

Technological Diversification

Miklos Koren Silvana Tenreyro

CEPDP0824. October 2007.Economies at early stages of development are often shaken by abrupt changes in growth rates, whereas in advanced economies growth rates tend to be relatively stable. To explain this pattern, we propose a theory of technological diversification. Production makes use of different input varieties, which are subject to imperfectly correlated shocks. Technological progress takes the form of an increase in the number of varieties, raising average productivity. In addition, the expansion in the number of varieties in our model provides diversification benefits against variety-specific shocks and it can hence lower the volatility of output growth. Technological complexity evolves endogenously in response to profit incentives. The decline in volatility thus arises as a by-product of firms' incentives to increase profits and is hence a likely outcome of the development process. We quantitatively asses the predictions of the model in light of the empirical evidence and find th at for reasonable parameter values, the model can generate a decline in volatility with the level of development comparable to that in the data.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0824.pdf

The Shimer Puzzle and the Correct Identification of Productivity Shocks

Régis Barnichon

CEPDP0823. August 2007.Shimer (2005a) claims that the Mortensen-Pissarides search model of unemployment lacks an ampiflication mechanism because it cannot generate the observed business cycle fluctuations in unemployment given labor productivity shocks of plausible magnitude. This paper argues that part of the problem lies with the correct identification of productivity shocks. Because of the endogeneity of measured labor productivity, filtering out the trend component as in Shimer (2005a) may not correctly identify the shocks driving unemployment. Using a New- Keynesian framework with search unemployment, this paper estimates that close to 50% of the Shimer puzzle is due to the misidentification of productivity shocks. In addition, I show that extending the search model with an aggregate demand side remarkably improves the ability of the standard search model to match the moments of key labor market variables.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0823.pdf

Search Frictions, Real Rigidities and Inflation Dynamics

Carlos Thomas

CEPDP0822. August 2007.The standard New Keynesian model suffers from the so-called .macro-micro pricing conflict: in order to match the dynamics of inflation implied by macroeconomic data, the model needs to assume an average duration of price contracts which is much longer than what is observed in micro data. Here I show how departing from the standard model’s assumption of a perfectly competitive labor market can help resolve the pricing conflict. I do so by assuming search frictions in the labor market. In this framework, labor becomes firm-specific and marginal cost curves become upward-sloping. This mechanism reduces the slope of the New Keynesian Phillips curve given a frequency of price adjustment. Conversely, given an estimate of this slope, my model implies shorter price durations than the standard model. For a plausible calibration and for different slope values, my model consistently delivers price durations that are roughly half of those implied by the standard model.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0822.pdf

The Evolution of Inequality in Productivity and Wages: Panel Data Evidence

Giulia Faggio Kjell Salvanes John Van Reenen

CEPDP0821. August 2007.There has been a remarkable increase in wage inequality in the US, UK and many other countries over the past three decades. A significant part of this appears to be within observable groups (such as age-gender-skill cells). A generally untested implication of many theories rationalizing the growth of within-group inequality is that firm-level productivity dispersion should also have increased. Since the relevant data do not exist in the US we utilize a UK longitudinal panel dataset covering the manufacturing and non-manufacturing sectors since the early 1980s. We find evidence that productivity inequality has increased. Existing studies have underestimated this increased dispersion because they use data from the manufacturing sector which has been in rapid decline. Most of the increase in individual wage inequality has occurred because of an increase in inequality between firms (and within industries). Increased productivity dispersion appears to be linked with new technologies as suggested by models such as Caselli (1999) and is not primarily due to an increase in transitory shocks, greater sorting or entry/exit dynamics.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0821.pdf

Trust-Based Trade

Luis Araujo Emanuel Ornelas

CEPDP0820. August 2007.Weak enforcement of international contracts can substantially reduce international trade. We develop a model where agents build reputations to overcome the difficulties that this institutional failure causes in a context of incomplete information. The model describes the interplay between institutional quality, reputations and the dynamics of international trade. We find that the conditional probability that a firm will stop exporting decreases and its foreign sales increase as the firm acquires greater export experience. The reason is that the informational costs that an exporter faces fall as the exporter becomes more confident about the reliability of its distributor. An improvement in the institutional quality of a country affects its imports through several distinct channels, as it changes the incentives of both current and potential exporters. Trade liberalization induces current exporters to increase their sales. It could induce entry as well, but this will happen only when the initial tariff is high and/or the institutional quality of the country is low.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0820.pdf

Productivity, Aggregate Demand and Unemployment Fluctuations

Régis Barnichon

CEPDP0819. August 2007.This paper presents new empirical evidence on the cyclical behavior of US unemployment that poses a challenge to standard search and matching models. The correlation between cyclical unemployment and the cyclical component of labor productivity switched sign at the beginning of the Great Moderation in the mid 80s: from negative it became positive, while standard search models imply a negative correlation. I argue that the inconsistency arises because search models do not allow output to be demand determined in the short run. I present a search model with nominal rigidities that can rationalize the empirical findings, and I document two new facts about the Great Moderation that can account for the large and swift increase in the unemployment-productivity correlation in the mid-80s.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0819.pdf

Is Distance Dying at Last? Falling Home Bias in Fixed Effects Models of Patent Citations

Rachel Griffith Sokbae Lee John Van Reenen

CEPDP0818. August 2007.We examine the “home bias” of international knowledge spillovers as measured by the speed of patent citations (i.e. knowledge spreads slowly over international boundaries). We present the first compelling econometric evidence that the geographical localization of knowledge spillovers has fallen over time, as we would expect from the dramatic fall in communication and travel costs. Our proposed estimator controls for correlated fixed effects and censoring in duration models and we apply it to data on over two million citations between 1975 and 1999. Home bias declines substantially when we control for fixed effects: there is practically no home bias for the more “modern” sectors such as pharmaceuticals and information/communication technologies.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0818.pdf

Measuring Organization Capital in Japan: An Empirical Assessment Using Firm-Level Data

YoungGak Kim Tsutomu Miyagawa

CEPDP0817. August 2007.Globalization and the ICT revolution of the 1990s have forced many firms to reorganize in order to survive in a more competitive market. There are several approaches that can be used to assess the measurement of organization capital since it is unobservable. Using an optimizing firm model and assuming that a firm holds multiple assets as suggested by Yang and Brynjolfsson (2001) and Cummins (2005), we examined whether organization capital is accumulated with investment in several types of assets. In contrast to Cummins’s (2005) results, we found that the accumulation of organization capital is associated with investment in R&D assets and marketing assets. Using these results and following Basu, Fernald, Oulton, and Srinivasan (2003), we measured the contribution of organization capital to the conventional TFP growth. The estimation results implied that the growth of organization capital did not have significant effects on productivity growth.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0817.pdf

Spend It Like Beckham? Inequality and Redistribution in the UK, 1983-2004

Andreas Georgiadis Alan Manning

CEPDP0816. August 2007.A main activity of the state is to redistribute resources. Models of the political process generally predict that a rise in inequality will lead to more redistribution. This paper shows that, for the UK in the period 1983-2004, a plausibly exogenous rise in income inequality has not been associated with increased redistribution. We then explore this further using attitudinal data. We show that the demand for redistribution, having shown considerable variation over time, is at an all-time low. We argue that the decline in the demand for redistribution can mostly be accounted for by an increasing belief in the importance of incentives though changes in preferences over the distribution of income have been important in some sub-periods.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0816.pdf

Freedom Fries

Guy Michaels Xiaojia Zhi

CEPDP0815. July 2007.Do firms choose inputs that minimize their cost of production, ignoring the attitudes of their owners and employees? We examine this question using an episode of worsening relations between the US and France: from February 2002 to March 2003, France's favorability rating in US public opinion polls fell from 83 percent to 35 percent. Very negative attitudes towards France became common even among college educated Americans with high levels of income, so they were likely prevalent among managers. Using data from 1999-2005, we find that the worsening relations reduced US imports from France by about 15 percent and US exports to France by about 8 percent, compared to other Eurozone or OECD countries. This decline was due in large part to a fall in France's share of the quantity of inputs traded between the Eurozone and the US; this decline is significant even after we control for changes in the product composition of trade flows. We also find that the decline in trade w as accompanied by a similar drop in both business trips and tourist visitations of US residents to France compared to Western Europe. Taken together, our findings suggest that competition cannot eliminate the effect of attitudes on firms' choice of inputs.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0815.pdf

Trade Liberalization, Outsourcing, and Firm Productivity

Ralph Ossa

CEPDP0814. July 2007.Empirical evidence suggests that trade liberalization increases firm productivity. This paper offers a novel explanation for this finding. I develop a simple general equilibrium model of trade in which trade liberalization leads to outsourcing as firms focus on their core competencies in response to tougher competition. Since firms are the better at performing tasks the closer they are to their core competencies, this outsourcing increases firm productivity. Moreover, I also investigate the links between various technological parameters and outsourcing. In particular, I analyze how technological progress, changes in fixed costs, and changes in internal governance costs affect firms’ integration decisions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0814.pdf

Wage Distributions by Bargaining Regime: Linked Employer-Employee Data Evidence from Germany

Karsten Kohn Alexander C. Lembcke

CEPDP0813. July 2007.Using linked employer-employee data from the German Structure of Earnings Survey 2001, this paper provides a comprehensive picture of the wage structure in three wage-setting regimes prevalent in the German system of industrial relations. We analyze wage distributions for various labor market subgroups by means of kernel density estimation, variance decompositions, and individual and firm-level wage regressions. Unions’ impact through collective and firm-level bargaining mainly works towards a higher wage level and reduced overall and residual wage dispersion. Yet observed effects are considerably heterogeneous across different labor market groups. There is no clear evidence for wage floors formed by collectively bargained low wage brackets which would operate as minimum wages for different groups of workers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0813.pdf

The Effect of Information and Communication Technologies on Urban Structure

Y Ioannides Henry Overman Esteban Rossi-Hansberg Kurt Schmidheiny

CEPDP0812. July 2007.The geographic concentration of economic activity occurs because transport costs for goods, people and ideas give individuals and organisations incentives to locate close to each other. Historically, all of these costs have been falling. Such changes could lead us to predict the death of distance. This paper is concerned with one aspect of this prediction: the impact that less costly communication and transmission of information might have on cities and the urban structure. We develop a model which suggests that improvements in ICT will increase the dispersion of economic activity across cities making city sizes more uniform. We test this prediction using cross country data and find empirical support for this conclusion.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0812.pdf

The Division of Labor, Coordination, and the Demand for Information Processing

Guy Michaels

CEPDP0811. July 2007.Since Adam Smith’s time, the division of labor in production has increased significantly, while information processing has become an important part of work. This paper examines whether the need to coordinate an increasingly complex division of labor has raised the demand for clerical office workers, who process information that is used to coordinate production. In order to examine this question empirically, I introduce a measure of the complexity of an industry’s division of labor that uses the Herfindahl index of occupations it employs, excluding clerks and managers. Using US data I find that throughout the 20th century more complex industries employed relatively more clerks, and recent Mexican data shows a similar relationship. The relative complexity of industries is persistent over time and correlated across these two countries. I further document the relationship between complexity and the employment of clerks using an early information technology (IT) revolution that took place around 1900, when telephones, typewriters, and improved filing techniques were introduced. This IT revolution raised the demand for clerks in all manufacturing industries, but significantly more so in industries with a more complex division of labor. Interestingly, recent reductions in the price of IT have enabled firms to substitute computers for clerks, and I find that more complex industries have substituted clerks more rapidly.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0811.pdf

Intergenerational Mobility and the Informative Content of Surnames

Maia Güell José V. Rodríguez Mora Chris Telmer

CEPDP0810. July 2007.We propose an alternative method for measuring intergenerational mobility. Traditional methods based on panel data provide measurements that are scarce, difficult to compare across countries and almost impossible to get across time. In particular this means that we do not know how intergenerational mobility is correlated with growth, income or the degree of inequality. Our proposal is to measure the informative content of surnames in one census. The more information does the surname have on the income of an individual, the more important is background in determining outcomes; and thus, the less mobility there is. The reason for this is that surnames inform on family relationships because the distribution of surnames is necessarily much skewed. A large percentage of the population is bound to have a very unfrequent surname. For them the partition generated by surnames is very informative on family linkages. First, we develop a model whose endogenous variable is the joint distribution of surnames and income. Then we explore the relationship between mobility and the informative content of surnames. We allow for assortative mating to be a determinant of both. Then, we use our methodology to show that in a large Spanish region the informative content of surnames is large and consistent with the model. We also show that it has increased over time, indicating a substantial drop in the degree of mobility. Finally, using the peculiarities of the Spanish surname convention we show that the degree of assortative mating has also increased over time, in such a manner that might explain the decrease in mobility observed. Our method allows us to provide measures of mobility comparable across time. It should also allow us to study other issues related to inheritance.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0810.pdf

History and Industry Location: Evidence from German Airports

Stephen Redding Daniel M. Sturm Nikolaus Wolf

CEPDP0809. July 2007.A central prediction of a large class of theoretical models is that industry location is not necessarily uniquely determined by fundamentals. In these models, historical accident or expectations determine which of several steady-state locations is selected. Despite the theoretical prominence of these ideas, there is surprisingly little systematic evidence on their empirical relevance. This paper exploits the combination of the division of Germany after the Second World War and the reunification of East and West Germany as an exogenous shock to industry location. We focus on a particular economic activity and establish that division caused a shift of Germany’s air hub from Berlin to Frankfurt and there is no evidence of a return of the air hub to Berlin after reunification. We develop a body of evidence that the relocation of the air hub is not driven by a change in economic fundamentals but is instead a shift between multiple steady-states.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0809.pdf

The Maastricht Convergence Criteria and Optimal Monetary Policy for the EMU Accession Countries

Anna Lipinska

CEPDP0808. July 2007.The EMU accession countries are obliged to fulfill the Maastricht convergence criteria prior to entering the EMU. What should be the optimal monetary policy satisfying these criteria? To answer this question, the paper proposes a DSGE model of a two-sector small open economy. First, I derive the micro founded loss function that represents the objective function of the optimal monetary policy not constrained to satisfy the criteria. I find that the optimal monetary policy should not only target inflation rates in the domestic sectors and aggregate output fluctuations but also domestic and international terms of trade. Second, I show how the loss function changes when the monetary policy is constrained to satisfy the Maastricht criteria. The loss function of such a constrained policy is characterized by additional elements penalizing fluctuations of the CPI inflation rate, the nominal interest rate and the nominal exchange rate around the new targets which are different from the steady state of the unconstrained optimal monetary policy. Under the chosen parameterization, the optimal monetary policy violates two criteria: concerning the CPI inflation rate and the nominal interest rate. The constrained optimal policy is characterized by a deflationary bias. This results in targeting the CPI inflation rate and the nominal interest rate that are 0.7% lower (in annual terms) than the CPI inflation rate and the nominal interest rate in the countries taken as a reference. Such a policy leads to additional welfare costs amounting to 30% of the optimal monetary policy loss.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0808.pdf

The Beveridge Curve

Eran Yashiv

CEPDP0807. June 2007.The Beveridge curve depicts a negative relationship between unemployed workers and job vacancies, a robust finding across countries. The position of the economy on the curve gives an idea as to the state of the labour market. The modern underlying theory is the search and matching model, with workers and firms engaging in costly search leading to random matching. The Beveridge curve depicts the steady state of the model, whereby inflows into unemployment are equal to the outflows from it, generated by matching.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0807.pdf

Privatization, Entry Regulation and the Decline of Labor's Share of GDP: A Cross-Country Analysis of the Network Industries

Ghazala Azmat Alan Manning John Van Reenen

CEPDP0806. June 2007.Labor’s share of GDP in most OECD countries has declined over the last two decades. Some authors have suggested that these changes are linked to deregulation of product and labor markets. To examine this we focus on a large quasi-experiment in the OECD: the privatization of many network industries (e.g. telecommunications and utilities). We present a model with agency problems, imperfect product market competition and worker bargaining which makes clear predictions on how the labor share, employment and wages respond to privatization and other regulatory changes. We exploit cross-country panel data on several network industries and find that privatization can account for a significant proportion of the fall of labor’s share (a fifth overall, but over half in Britain and France). The impact of privatization has been offset by falling barriers to entry, which consistent with theory, dampens profit margins.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0806.pdf

Economic Linkages Across Space

Henry Overman Patricia Rice Anthony J. Venables

CEPDP0805. June 2007.We develop a diagrammatic framework that can be used to study the economic linkages between regions or cities. Hitherto, such linkages have not been the primary focus of either the theoretical or empirical literatures. We show that our general framework can be used to interpret both the New Economic Geography and Urban Systems literatures to help us understand spatial economic linkages. We then extend the theoretical framework to allow us to consider a number of additional issues which may be particularly important for analyzing the impact of policy. Such policy analysis will also require empirical work to identify the nature of key relationships. In a final section, we consider what the existing empirical literature can tell us about these relationships.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0805.pdf

The Returns to Temporary Migration to the United States: Evidence from the Mexican Urban Employment Survey

Benjamin Aleman-Castilla

CEPDP0804. June 2007.Mexican migration to the United States has been a very important issue throughout the twentieth century, and its relevance has reached unprecedented levels during the last two decades. Even though there is a huge body of literature that analyses many different aspects of this phenomenon, the economic performance of migrants with respect to the Mexican labour markets has received very little attention. This paper aims at filling this gap by presenting new evidence on the effect that migration to the United States has on labour market outcomes of Mexican workers. It uses data from the Mexican National Survey of Urban Labour (ENEU) for the period 1994-2002. Among other advantages, the panel structure of the survey is ideal for minimizing the problems of self-selection bias that are common in most of the alternative data sources. Fixed-effects estimation indicates that Mexican workers that migrate temporarily to the United States obtain significantly higher earnings in the U.S. labour market than in the Mexican one during the period of migration. They also tend to work longer hours and face a generally higher likelihood of non employment during the period of return migration. Finally, the gains from temporary migration are lower for more skilled workers and for those migrating from the most distant regions in Mexico, relative to the United States.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0804.pdf

Labor Search and Matching in Macroeconomics

Eran Yashiv

CEPDP0803. June 2007.The labor search and matching model plays a growing role in macroeconomic analysis. This paper provides a critical, selective survey of the literature. Four fundamental questions are explored: how are unemployment, job vacancies, and employment determined as equilibrium phenomena? What determines worker flows and transition rates from one labor market state to another? How are wages determined? What role do labor market dynamics play in explaining business cycles and growth? The survey describes the basic model, reviews its theoretical extensions, and discusses its empirical applications in macroeconomics. The model has developed against the background of difficulties with the use of the neoclassical, frictionless model of the labor market in macroeconomics. Its success includes the modelling of labor market outcomes as equilibrium phenomena, the reasonable fit of the data, and — when inserted into business cycle models — improved performance of more general macroeconomic models. At the same time, there is evidence against the Nash solution used for wage setting and an active debate as to the ability of the model to account for some of the cyclical facts.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0803.pdf

Jeremy Greenwood and Per Krusell, "Growth Accounting with Investment-Specific Technological Progress: A Discussion of Two Approaches" A Rejoinder

Nicholas Oulton

CEPDP0802. June 2007.The May 2007 issue of the Journal of Monetary Economics published a paper of mine entitled ‘Investment-Specific Technological Progress and Growth Accounting’ which critiqued the work of Greenwood, Hercowitz and Krusell. I argued that the Greenwood-Hercowitz-Krusell (GHK) model is a special case of a two-sector, neoclassical growth model with differing rates of technical progress in the two sectors; that a version of Jorgensonian growth accounting can be constructed for this two-sector model and hence for the GHK model; and that there is therefore a mapping between the growth accounting concepts of total factor productivity (TFP) growth in each of the two sectors, and GHK’s concepts of investment specific and neutral technological progress. The same issue of the JME published a response by Greenwood and Krusell (‘Growth Accounting with Investment-Specific Technological Progress: a Discussion of Two Approaches’). This paper is a rejoinder to theirs. It attempts to delineate both the common ground and the remaining areas of disagreement.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0802.pdf

Imports and Exports at the Level of the Firm: Evidence from Belgium

Mirabelle Muûls Mauro Pisu

CEPDP0801. June 2007.This paper explores a newly-available panel data set merging balance sheet and international trade transaction data for Belgium. Both imports and exports appear to be highly concentrated among few firms and seem to have become more so over time. Focusing on manufacturing, we find that facts previously reported in the literature for exports only actually apply to imports too. We note that the number of trading firms diminishes as the number of export destinations or import origins increases. The same is true if we consider the number of products traded. With regard to productivity differentials, firms that both import and export appear to be the most productive, followed, in descending order, by importers only, exporters only and non-traders. These results point to the presence of fixed costs; not only of exporting, but also of importing and to a process of self-selection in both export and import markets. Also, the productivity advantage of exporters reported in the literature may be overstated because imports were not considered.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0801.pdf

Protection for Sale Made Easy

Richard E. Baldwin Frédéric Robert-Nicoud

CEPDP0800. June 2007.Formal analysis of the political economy of trade policy was substantially redirected by the appearance of Gene Grossman and Elhanan Helpman’s 1994 paper, “Protection for Sale”. Before that article a fairly wide range of approaches were favoured by various authors on various issues, but afterwards, the vast majority of theoretical tracts on endogenous trade policy have used the Protection for Sale framework (PFS for short) as their main vehicle. The reason, of course, is that the framework is both respectable – because its microfoundations are distinctly firmer than were those of the earlier lobbying approaches – and it is very easy to work with. Despite the popularity of the PFS framework, it appears that no one has presented a simple diagram that illustrates how the PFS frameworks and explains why it is so easy. This short note aims to remedy that ommission.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0800.pdf

Volatility, Labor Market Flexibility, and the Pattern of Comparative Advantage

Alejandro Cuñat Marc J. Melitz

CEPDP0799. June 2007.This paper studies the link between volatility, labor market flexibility, and international trade. International differences in labor market regulations affect how firms can adjust to idiosyncratic shocks. These institutional differences interact with sector specific differences in volatility (the variance of the firm-specific shocks in a sector) to generate a new source of comparative advantage. Other things equal, countries with more flexible labor markets specialize in sectors with higher volatility. Empirical evidence for a large sample of countries strongly supports this theory: the exports of countries with more flexible labor markets are biased towards high-volatility sectors. We show how differences in labor market institutions can be parsimoniously integrated into the workhorse model of Ricardian comparative advantage of Dornbush, Fisher and Samuelson (1977). We also show how our model can be extended to multiple factors of production.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0799.pdf

Job Destruction, Job Creation and Unemployment in Transition Countries: What Can We Learn?

Giulia Faggio

CEPDP0798. May 2007.Sixteen years into the transition, the problem of high joblessness has not been solved. Of the three explanations commonly discussed (i.e. ongoing reallocation; finished reallocation with redundant labour; wrong choice of institutional framework), we concentrated on the ongoing reallocation hypothesis. We show that there is a negative correlation between job creation in the private sector and unemployment. We also show that long-term unemployment depends on current and past values of short-term unemployment and that this path-dependence fades away as soon as we reach time t-3. We interpret this result as an indication that the process of reallocation started at the beginning of the 1990s still influences today’s labour market. We address three components of the transition debate: shock therapy versus gradualism; privatization; and political change. Contrary to Godoy and Stiglitz (2006), we do not find gradualism superior to shock therapy in terms of private sector growth. In addition, we confirm that full privatization is positively associated with job destruction in the state sector. Finally, we show that during early years of democratization the state sector was dismantled more vigorously than in other periods.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0798.pdf

Chain Indices of the Cost of Living and the Path-Dependence Problem: An Empirical Solution

Nicholas Oulton

CEPDP0797. May 2007.This paper proposes an empirically feasible method for correcting the path-dependence bias of chain indices of the cost of living. Chain indices are discrete approximations to Divisia indices and it is well known that the latter are path-dependent: the level of a Divisia index is affected not just by the level of prices at the two endpoints but also by the path between the endpoints. It is also well-known that a Divisia index of the cost of living is path-independent if and only if all income elasticities are equal to one, a restriction that is decisively rejected by studies of consumer demand. In theory, the true cost of living index (or Konüs price index) could be derived by estimating the expenditure function. But this seems impractical due to data limitations: the number of independent parameters rises roughly in proportion to the square of the number of commodities and consumer price indices contain hundreds of items. This paper shows how this problem can in fact be overcome empirically using a flexible model of demand like the “Quadratic Almost Ideal Demand System”. The proposed method requires data only on prices, aggregate budget shares and aggregate expenditure. The method is applied to estimate Konüs price indices for 70 products covering nearly all the UK’s Retail Prices Index over 1974-2004, with each year in turn as the base. The choice of base year for utility is found to have a significant effect on the index, even in the low inflation period since 1990.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0797.pdf

Incentive Pay Systems and the Management of Human Resources in France and Great Britain

Richard Belfield Salima Benhamou David Marsden

CEPDP0796. May 2007.Incentive pay systems have undergone major changes in recent decades. This paper investigates use of incentive pay systems in British and French private sector establishments in 2004, focusing on payment-by-results, merit pay, and profit sharing, using British and French workplace surveys: WERS and Réponse. Despite the stereotypes of Britain as a deregulated economy and France as a more coordinated social-market economy, French firms make considerably greater use of incentive pay, and particularly, merit pay. The paper explores the organisational and institutional determinants of this. It finds that personnel economics and management theories explain a significant share of the within country variation in use of incentive pay systems.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0796.pdf

Firms in International Trade

Andrew B. Bernard J. Bradford Jensen Stephen Redding Peter K. Schott

CEPDP0795. May 2007.Despite the fact that importing and exporting are extremely rare firm activities, economists generally devote little attention to the role of firms when discussing international trade. This paper summarizes key differences between trading and non-trading firms, demonstrates how these differences present a challenge to standard trade models and shows how recent “heterogeneous-firm” models of international trade address these challenges. We then make use of transaction-level U.S. trade data to introduce a number of new stylized facts about firms and trade. These facts reveal that the extensive margins of trade – that is, the number of products firms trade as well as the number of countries with which they trade – are central to understanding the well-known role of distance in dampening aggregate trade flows.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0795.pdf

Offshoring: General Equilibrium Effects on Wages, Production and Trade

Richard E. Baldwin Frédéric Robert-Nicoud

CEPDP0794. May 2007.A simple model of offshoring is used to integrate the complex gallery of results that exist in the theoretical offshoring/fragmentation literature. The paper depicts offshoring as ‘shadow migration’ and shows that this allows straightforward derivation of the general equilibrium effects on prices, wages, production and trade (necessary and sufficient conditions are provided). We show that offshoring requires modification of the four HO theorems, so econometricians who ignore offshoring might reject the HO theorem when a properly specified version held in the data. We also show that offshoring is an independent source of comparative advantage and can lead to intra-industry trade in a Walrasian setting.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0794.pdf

Respect

Alan Manning

CEPDP0793. May 2007.Becker (1974) introduced to modern economics the idea that others care about what others think about them and derived many useful insights from this assumption. But he did not provide a very complete description of the general equilibrium of an economy in which people both demand respect from and supply respect to others. This paper analyzes the equilibrium price of respect, showing how it depends on the distribution of material endowments and discussing whether we would expect that, as society gets richer, the market for respect becomes more or less important. It explains why a demand for respect is a human universal in terms of Becker’s observation that this helps to provide insurance where markets are absent. Although the demand for respect is universal, the activities that command respect have enormous cultural diversity – the paper explains how there can be many Nash equilibria if respect is withheld from those who violate prescribed behaviour. Finally the paper discusses where, in a modern economy, respect is demanded and supplied arguing it is primarily bundled up with other goods and services because of the nature of the costs of supplying it.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0793.pdf

Uncertainty and the Dynamics of R&D

Nick Bloom

CEPDP0792. May 2007.Uncertainty varies strongly over time, rising by 50% to 100% in recessions and by up to 200% after major economic and political shocks. This paper shows that higher uncertainty reduces the responsiveness of R&D to changes in business conditions - a “caution-effect” - making it more persistent over time. Thus, uncertainty will play a critical role in shaping the dynamics of R&D through the business cycle, and its response to technology policy. I also show that if firms are increasing their level of R&D then the effect of uncertainty will be negative, while if firms are reducing R&D then the effect of uncertainty will be positive.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0792.pdf

Entry and Asymmetric Lobbying: Why Governments Pick Losers

Richard E. Baldwin Frédéric Robert-Nicoud

CEPDP0791. May 2007.Governments frequently intervene to support domestic industries, but a surprising amount of this support goes to ailing sectors. We explain this with a lobbying model that allows for entry and sunk costs. Specifically, policy is influenced by pressure groups that incur lobbying expenses to create rents. In expanding industries, entry tends to erode such rents, but in declining industries, sunk costs rule out entry as long as the rents are not too high. This asymmetric appropriability of rents means losers lobby harder. Thus it is not that government policy picks losers, it is that losers pick government policy.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0791.pdf

Culture Clash or Culture Club? The Identity and Attitudes of Immigrants in Britain

Alan Manning Sanchari Roy

CEPDP0790. April 2007.There is economic evidence that diversity has consequences for economic performance (see Alesina and La Ferrara, 2005). This might have consequences for immigration policy – how many immigrants to allow into a country and from what cultural background. But, central to such a discussion is the pace of cultural assimilation among immigrants – this under-researched topic is the focus of this paper. It investigates the extent and determinants of British identity among those living in Britain and the views on rights and responsibilities in societies. We find no evidence for a culture clash in general, and one connected with Muslims in particular. The vast majority of those born in Britain, of whatever ethnicity or religion, think of themselves as British and we find evidence that third-generation immigrants are more likely to think of themselves as British than second generation. Newly arrived immigrants almost never think of themselves as British but the longer they remain in the UK, the more likely it is that they do. This process of assimilation is faster for those from poorer and less democratic countries, even though immigrants from these countries are often regarded as a particular cause for concern. Our analysis of rights and responsibilities finds much smaller differences in views between the UK-born and immigrants than within the UK-born population.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0790.pdf

Does the Underground Economy Hold Back Financial Deepening? Evidence from the Italian Credit Market

Giorgio Gobbi Roberta Zizza

CEPDP0789. April 2007.The paper investigates the relationship between underground activities and financial deepening. The access to external finance requires entrepreneurs to disclose credible information through formal documentation. This requirement may be impossible to oblige to for many informal producers who lack a proper book-keeping of their operations. For the same reason irregular workers may find difficult to borrow for financing both consumption and housing purchase. Using panel data on Italian regional credit markets we find a strong negative impact of the share of irregular employment on outstanding credit to the private sector. According to our estimates a shift of 1 per cent of the employees from regular activities to irregular ones corresponds to a decline of about 2 percentage points in the volume of business lending and of 0.3 percentage points in outstanding credit to households, both expressed as ratios to GDP. Conversely, the feedback effects from financial deepening to the size of the informal sector are weak and statistically not significant. Through a difference-in-difference approach exploiting the regularisation program for immigrant workers launched in 2002 we also identify a negative effect of the irregular labour on banks’ entry decisions in the local credit markets, now defined in terms of provinces.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0789.pdf

Americans Do I.T. Better: US Multinationals and the Productivity Miracle

Nick Bloom Raffaella Sadun John Van Reenen

CEPDP0788. April 2007.The US has experienced a sustained increase in productivity growth since the mid-1990s, particularly in sectors that intensively use information technologies (IT). This has not occurred in Europe. If the US “productivity miracle” is due to a natural advantage of being located in the US then we would not expect to see any evidence of it for US establishments located abroad. This paper shows in fact that US multinationals operating in the UK do have higher productivity than non-US multinationals in the UK, and this is primarily due to the higher productivity of their IT. Furthermore, establishments that are taken over by US multinationals increase the productivity of their IT, whereas observationally identical establishments taken over by non-US multinationals do not. One explanation for these patterns is that US firms are organized in a way that allows them to use new technologies more efficiently. A model of endogenously chosen organizational form and IT is developed to explain these new micro and macro findings.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0788.pdf

The Effect of Marital Breakup on the Income Distribution of Women with Children

Elizabeth O. Ananat Guy Michaels

CEPDP0787. April 2007.Having a female firstborn child significantly increases the probability that a woman’s first marriage breaks up. Recent work has exploited this exogenous variation to measure the effect of marital breakup on economic outcomes, and has concluded that divorce has little effect on women’s average household income. Employing an Abadie (2003) technique that allows us to look at the impact of marital breakup throughout the income distribution, however, we find that divorce greatly increases the probability that a woman lives in a household with income in the bottom quartile. While women partially offset the loss of spousal earnings with child support, welfare, combining households, and substantially increasing their labor supply, divorce significantly increases the odds that a woman with children is poor.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0787.pdf

Seigniorage

Willem Buiter

CEPDP0786. April 2007.In this paper I analyse four different but related concepts, each of which highlights some aspect of the way in which the state acquires command over real resources through its ability to issue fiat money. They are (1) seigniorage (the change in the monetary base), (2) Central Bank revenue (the interest bill saved by the authorities on the outstanding stock of base money liabilities), (3) the inflation tax (the reduction in the real value of the stock of base money due to inflation and (4) the operating profits of the central bank, or the taxes paid by the Central Bank to the Treasury. To understand the relationship between these four concepts, an explicitly intertemporal approach is required, which focuses on the present discounted value of the current and future resource transfers between the private sector and the state. Furthermore, when the Central Bank is operationally independent, it is essential to decompose the familiar consolidated ‘government budget constraint’ and consolidated ‘government intertemporal budget constraint’ into the separate accounts and budget constraints of the Central Bank and the Treasury. Only by doing this can we appreciate the financial constraints on the Central Bank’s ability to pursue and achieve an inflation target, and the importance of cooperation and coordination between the Treasury and the Central Bank when faced with financial sector crises involving the need for long-term recapitalisation or when confronted with the need to mimic Milton Friedman’s helicopter drop of money in an economy faced with a liquidity trap.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0786.pdf

Productivity Growth, Knowledge Flows and Spillovers

Gustavo Crespi Chiara Criscuolo Jonathan Haskel Matthew Slaughter

CEPDP0785. April 2007.This paper explores the role of knowledge flows and TFP growth by using direct survey data on knowledge flows linked to firm-level TFP growth data. Our knowledge flow data correspond to the kind of information flows often argued, especially by policy-makers, as important, such as within the firm, or from suppliers, purchasers, universities and competitors. We examine three questions (a) What is the source of knowledge flows? (b) To what extent do such flows contribute to productivity growth? (c) Do such flows constitute a spillover flow of free knowledge? Our evidence show that the main sources of knowledge are competitors; suppliers; plants that belong to the same group and universities. We conclude that the main “free” information flow spillover is from competitors and that multi-national presence may be a proximate source of this spillover.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0785.pdf

The Marginal Utility of Income

Richard Layard Guy Mayraz Stephen Nickell

CEPDP0784. March 2007.In normative public economics it is crucial to know how fast the marginal utility of income declines as income increases. One needs this parameter for cost-benefit analysis, for optimal taxation and for the (Atkinson) measurement of inequality. We estimate this parameter using four large cross-sectional surveys of subjective happiness and two panel surveys. Altogether, the data cover over 50 countries and time periods between 1972 and 2005. In each of the six very different surveys, using a number of assumptions, we are able to estimate the elasticity of marginal utility with respect to income. We obtain very similar results from each survey. The highest (absolute) value is 1.34 and the lowest is 1.19, with a combined estimate of 1.26. The results are also very similar for subgroups in the population. We also examine whether these estimates (which are based directly on the scale of reported happiness) could be biased upwards if true utility is convex with respect to reported happiness. We find some evidence of such bias, but it is small—yielding a new estimated elasticity of 1.24 for the combined sample.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0784.pdf

Information Technology, Organisational Change and Productivity Growth: Evidence from UK Firms

Gustavo Crespi Chiara Criscuolo Jonathan Haskel

CEPDP0783. March 2007.We examine the relationships between productivity growth, IT investment and organisational change (∆O) using UK firm data. Consistent with the small number of other micro studies we find (a) IT appears to have high returns in a growth accounting sense when ∆O is omitted; when ∆O is included the IT returns are greatly reduced, (b) IT and ∆O interact in their effect on productivity growth, (c) non-IT investment and ∆O do not interact in their effect on productivity growth. Some new findings are (a) ∆O is affected by competition; (b) US-owned firms are much more likely to introduce ∆O relative to foreign owned firms who are more likely still relative to UK firms; (c) our predicted measured TFP growth slowdown for firms who are not doing ∆O and/or are in the early stages of IT investment compare well with the macro numbers documenting a UK measured TFP growth slowdown.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0783.pdf

Inflation Premium and Oil Price Volatility

Paul Castillo Carlos Montoro Vicente Tuesta

CEPDP0782. March 2007.This paper provides a fully micro-founded New Keynesian framework to study the interaction between oil price volatility, pricing behavior of firms and monetary policy. We show that when oil has low substitutability, firms find it optimal to charge higher relative prices as a premium in compensation for the risk that oil price volatility generates on their marginal costs. Overall, in general equilibrium, the interaction of the aforementioned mechanisms produces a positive relationship between oil price volatility and average inflation, which we denominate inflation premium. We characterize analytically this relationship by using the perturbation method to solve the rational expectations equilibrium of the model up to second order of accuracy. The solution implies that the inflation premium is higher when: a) oil has low substitutability, b) the Phillips Curve is convex, and c) the central bank puts higher weight on output fluctuations. We also provide some quantitative evidence showing that a calibrated model for the US with an estimated active Taylor rule produces a sizable inflation premium, similar to the levels observed in the US during the 70s.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0782.pdf

Why Has the British National Minimum Wage Had Little or No Impact on Employment?

David Metcalf

CEPDP0781. April 2007.A century has passed since the first call for a British national minimum wage (NMW). That remarkable Fabian tract discussed wage setting, coverage, monopsony, international labour standards, inspection and compliance and the interaction between the NMW and the social security system. The NMW was finally introduced in 1999. It has raised the real and relative pay of low wage workers, narrowed the gender pay gap and now covers around 1-worker-in-10. The consequences for employment have been extensively analysed using information on individuals, areas and firms. There is little or no evidence of any employment effects. The reasons for this include: an impact on hours rather than workers; employer wage setting and labour market frictions; offsets via the tax credit system; incomplete compliance; improvements in productivity; an increase in the relative price of minimum wage-produced consumer services; and a reduction in the relative profits of firms employing low paid workers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0781.pdf

Monetary Policy Committees and Interest Rate Smoothing

Carlos Montoro

CEPDP0780. February 2007.We extend the New Keynesian Monetary Policy literature relaxing the assumption that the decisions are taken by a single policymaker, considering instead that monetary policy decisions are taken collectively in a committee. We introduce a Monetary Policy Committee (MPC), whose members have different preferences between output and inflation variability and have to vote on the level of the interest rate. This paper helps to explain interest rate smoothing from a political economy point of view, in which MPC members face a bargaining problem on the level of the interest rate. In this framework, the interest rate is a non-linear reaction function on the lagged interest rate and the expected inflation. This result comes from a political equilibrium in which there is a strategic behaviour of the agenda setter with respect to the rest of the MPC’s members. Our approach can also reproduce both features documented by the empirical evidence on interest rate smoothing: a) the modest response of the interest rate to inflation and output gap; and b) the dependence on lagged interest rate; features that are difficult to reproduce in standard New Keynesian models all together. It also provides a theoretical framework on how disagreement among policymakers can slow down the adjustment on interest rates and on “menu costs” in interest rate decisions. Furthermore, a numerical exercise shows that this inertial behaviour of the interest rate is internalised by the economic agents through an increase in expected inflation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0780.pdf

The Impact of Private Ownership, Incentives and Local Development Objectives on University Technology Transfer Performance

Sharon Belenzon Mark Schankerman

CEPDP0779. September 2007.We study the impact of private ownership, incentive pay and local development objectives on university licensing performance. We develop and test a simple contracting model of technology licensing offices, using new survey information together with panel data on U.S. universities for 1995-99. We find that private universities are much more likely to adopt incentive pay than public ones, but ownership does not affect licensing performance conditional on the use of incentive pay. Adopting incentive pay is associated with about 30-40 percent more income per license. Universities with strong local development objectives generate about 30 percent less income per license, but are more likely to license to local (in-state) startup companies. In addition, we show that government constraints on university licensing activity are .costly. in terms of foregone license income and the creation of start-up companies. These results are robust to controls for observed and unobserved heterogeneity.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0779.pdf

Decomposing the Growth in Residential Land in the United States

Henry Overman Diego Puga Matthew Turner

CEPDP0778. February 2007.This paper decomposes the growth in land occupied by residences in the United States to give the relative contributions of changing demographics versus increases in the land area used by individual households. Between 1976 and 1992 the amount of residential land in the United States grew 47.5% while population only grew 17.8%. At first glance, this suggests an important role for per-household increases. However, the calculations in this paper show that only 24.3% of the growth in residential land area can be attributed to State level changes in land per household. 37.5% is due to overall population growth, 5.9% to the shift of population towards States with larger houses, 22.7% to an increase in the number of households over this period, and the remaining 9.5% to interactions between these changes. There are large differences across states and metropolitan areas in the relative importance of these components.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0778.pdf

Conflict-Induced Displacement and Labour Market Outcomes: Evidence from Post-War Bosnia and Herzegovina

Florence Kondylis

CEPDP0777. November 2007.This study uses a longitudinal data source to study the effects of conflict-induced displacement on labour market outcomes for Bosnians in post-war Bosnia and Herzegovina. To account for endogeneity in the displacement status, I exploit the fact that the level of violence in the pre-war residence likely affected the displacement decision for Bosnians and yet is not associated to economic performance. I find evidence of positive selection into displacement, i.e. more "able" individuals in terms of labour market outcomes are more likely to be displaced, and that displaced Bosnians men and women are less likely to be in work relative to stayers. Interestingly, whereas this translates into higher unemployment for men, it decreases women's participation with no effect on unemployment once selection is accounted for. The informality of the labour market in BiH and the destruction of networks are not only the most plausible candidates to explain the high cost of displacement in terms of labour market outcomes, but they also help rationalise the lack of an effect on participation for displaced men. However, differences in selection suggest that the experience of war was highly contrasted along gender lines and that sociological and cultural factors may also play a significant role.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0777.pdf

Is Numérairology the Future of Monetary Economics? Unbundling numéraire and medium of exchange through a virtual currency and a shadow exchange rate

W.H. Buiter

CEPDP0776. January 2007.The paper discusses some fundamental problems in monetary economics associated with the determination and role of the numéraire. The issues are introduced by formalising a proposal, attributed to Eisler, to remove the zero lower bound on nominal interest rates by unbundling the numéraire and medium of exchange/means of payment functions of money. The monetary authorities manage the exchange rate between the numéraire (‘sterling’) and the means of payment (‘drachma’). The short nominal interest rate on sterling bonds can then be used to target stability for the sterling price level. The paper puts question marks behind two key bits of conventional wisdom in contemporary monetary economics. The first is the assumption that the monetary authorities define and determine the numéraire used in private transactions. The second is the proposition that price stability in terms of that numéraire is the appropriate objective of monetary policy. The paper also discusses the merits of the next step following the decoupling of the numéraire from the currency: doing away with currency altogether - the cashless economy. Because the unit of account plays such a central role in New-Keynesian models with nominal rigidities, monetary economics needs to devote more attention to numérairology - the study of the individual and collective choice processes that govern the adoption of a unit of account and its role in economic behaviour.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0776.pdf

Economics and Politics of Alternative Institutional Reforms

Francesco Caselli Nicola Gennaioli

CEPDP0775. January 2007.We compare the economic consequences and political feasibility of reforms aimed at reducing barriers to entry (deregulation) and improving contractual enforcement (legal reform). Deregulation fosters entry, thereby increasing the number of firms (entrepreneurship) and the average quality of management (meritocracy). Legal reform also reduces financial constraints on entry, but in addition it facilitates transfers of control of incumbent firms, from untalented to talented managers. Since when incumbent firms are better run entry by new firms is less profitable, in general equilibrium legal reform may improve meritocracy at the expense of entrepreneurship. As a result, legal reform encounters less political opposition than deregulation, as it preserves incumbents’ rents, while at the same time allowing the less efficient among them to transfer control and capture (part of) the resulting efficiency gains. Using this insight, we show that there may be dynamic complementarities in the reform path, whereby reformers can skillfully use legal reform in the short run to create a constituency supporting future deregulations. Generally speaking, our model suggests that “Coasian” reforms improving the scope of private contracting are likely to mobilize greater political support because — rather than undermining the rents of incumbents — they allow for an endogenous compensation of losers. Some preliminary empirical evidence supports the view that the market for control of incumbent firms plays an important role in an industry’s response to legal reform.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0775.pdf

Union Organization in Great Britain

Alex Bryson P Willman

CEPDP0774. January 2007.Union membership and density in Britain has experienced substantial decline since 1979. The fall in private sector membership and density has been much greater than in the public sector. The size of the union sector, measured by employer recognition, has shrunk. Membership decline has been accompanied by financial decline. Much of the decline occurred before 1997, under Conservative governments. Since 1997 and the return of a Labour government, the position has in some respects stabilized. Currently, unions have a substantially reduced economic impact, but a continued, if limited, role in workplace communication and grievance handling, often as part of a voice regime including non union elements.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0774.pdf

The Plant Size-Place Effect: Agglomeration and Monopsony in Labour Markets

Alan Manning

CEPDP0773. January 2007.This paper shows, using data from both the US and the UK, that average plant size is larger in denser markets. However, many popular theories of agglomeration – spillovers, cost advantages and improved match quality – predict that establishments should be smaller in cities. The paper proposes a theory based on monopsony in labour markets that can explain the stylized fact – that firms in all labour markets have some market power but that they have less market power in cities. It also presents evidence that the labour supply curve to individual firms is more elastic in larger markets.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0773.pdf

The Effect of Trade on the Demand for Skill - Evidence from the Interstate Highway System

Guy Michaels

CEPDP0772. December 2006.Since changes in trade openness are typically confounded with other factors, it has been difficult to identify the labor market consequences of increased international trade. The advent of the United States Interstate Highway System provides a unique policy experiment, which I use to identify the effect of reducing trade barriers on the relative demand for skilled labor. The Interstate Highway System was designed to connect major metropolitan areas, to serve national defence and to connect the United States to Canada and Mexico. As a consequence – though not an objective – many rural counties were also connected to the highway system. I find that these counties experienced an increase in trade-related activities, such as trucking and retail sales, by 7-10 percentage points per capita. Most significantly, by increasing trade the highways raised the relative demand for skilled manufacturing workers in counties with a high endowment of human capital and reduced it elsewhere, consistent with the predictions of the Heckscher-Ohlin model.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0772.pdf

Consumption and Real Exchange Rates with Incomplete Markets and Non-Traded Goods

Gianluca Benigno Christoph Theonissen

CEPDP0771. December 2006.This paper addresses the consumption-real exchange rate anomaly. International real business cycle models based on complete financial markets predict a unitary correlation between the real exchange rate and the ratio of home to foreign consumption when subjected to supply side shocks. In the data, this correlation is usually small and often negative. This paper shows that this anomaly can be successfully addressed by models that have an incomplete financial market structure and a non-traded as well as traded goods production sector.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0771.pdf

Term Limits and Electoral Accountability

Michael Smart Daniel M. Sturm

CEPDP0770. December 2006.Periodic elections are the main instrument through which voters can hold politicians accountable. From this perspective term limits, which restrict voters’ ability to reward politicians with re-election, appear counterproductive. We show that despite the disciplining effect of elections, term limits can be ex ante welfare improving from the perspective of voters. By reducing the value of holding office term limits can induce politicians to implement policies that are closer to their private preferences. Such “truthful” behavior by incumbents in turn results in better screening of incumbents. We show that the combination of these two effects can strictly increase the utility of voters.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0770.pdf

Multi-Product Firms and Trade Liberalization

Andrew B. Bernard Stephen Redding Peter K. Schott

CEPDP0769. December 2006.This paper develops a general equilibrium model of multi-product firms and analyzes their behavior during trade liberalization. Firm productivity in a given product is modeled as a combination of firm-level “ability” and firmproduct- level “expertise”, both of which are stochastic and unknown prior to the firm’s payment of a sunk cost of entry. Higher firm-level ability raises a firm’s productivity across all products, which induces a positive correlation between a firm’s intensive (output per product) and extensive (number of products) margins. Trade liberalization fosters productivity growth within and across firms and in aggregate by inducing firms to shed marginally productive products and forcing the lowest-productivity firms to exit. Though exporters produce a smaller range of products after liberalization, they increase the share of products sold abroad as well as exports per product. All of these adjustments are shown to be relatively more pronounced in countries’ comparative advantage industries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0769.pdf

Accounting for Collective Action: Resource Acquisition and Mobilization in British Unions

Alex Bryson P Willman

CEPDP0768. December 2006.The paper uses two data sources to map trends in resource availability for trade unions in Britain. Union resources exist on the one hand in the form of subscription income and accumulated assets shown in union accounts and, on the other, establishment level resources provided by employers and union members. The paper documents a substantial decline in both forms of resource across the period 1990 -2004 and attempts to explain both the reasons for this decline and its consequences for employee representation in Britain.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0768.pdf

Shifts in Economic Geography and their Causes

Anthony J. Venables

CEPDP0767. December 2006.This paper analyses some of the forces that are changing the spatial distribution of activity in the world economy. It draws on the 'new economic geography' literature to argue the importance of increasing returns to scale and cumulative causation processes in shaping the productivity and comparative advantage of different regions. In the presence of such increasing returns there may be persistent spatial disparities in productivity. Economic development will tend to be 'lumpy', with some regions (countries, or smaller areas such as cities) experiencing rapid growth and others being left behind.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0767.pdf

The Long-Term Consequences of Regional Specialization

Guy Michaels

CEPDP0766. December 2006.What are the consequences of resource-based regional specialization, when it persists over a long period of time? While much of the literature argues that specialization is beneficial, recent work suggests it may be costly in the long run, due to economic or political reasons. I examine this question empirically, using exogenous geological variation in the location of subsurface oil in the Southern United States. I find that oil abundant counties are highly specialized: for many decades their mining sector was almost as large as their entire manufacturing sector. During the 1940s and 1950s, oil abundant counties enjoyed per capita income that was 20-30 percent higher than other nearby counties, and their workforce was better educated. But whereas in 1940 oil production crowded out agriculture, over the next 50 years it caused the oil abundant counties to develop a smaller manufacturing sector. This led to slower accumulation of human capital in the oil abundant counties, and to a narrowing of per capita income differentials to about 5 percentage points. Despite this caveat, the gains from specialization were large, and specialization had little impact on the fraction of total income spent by local government or on income inequality.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0766.pdf

American Economic Development Since the Civil War or the Virtue of Education

Fabrice Murtin

CEPDP0765. December 2006.This paper is the first empirical framework that explains the phenomenon of fast growth combined with the demographic transition occurring in the United States since 1860. I propose a structural model that unifies those events through the role of education: the key feature is that parental education determines simultaneously fertility, mortality and children's education, so that the accumulation of education from one generation to another explains both fast growth and the reduction of fertility and mortality rates. Using original data, the model is estimated and fits in a remarkable way income, the distribution of education and age pyramids. Moreover, some historical data on Blacks, assumed to constitute the bottom of the distribution of education, show that the model predicts correctly the joint distribution of fertility and education, and that of mortality and education. Comparisons with the PSID suggest that the intergenerational correlation of income is also well captured. Thus, this microfunded growth model based on human capital accumulation accounts for many traits of American economic development since 1860. In a second step, I investigate the long-run influence of income inequality on growth. Because children's human capital is a concave function of parental income, income inequality slows down the accumulation of human capital across generations and hence growth. Simulations show that this effect is large.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0765.pdf

The Impact of Central Bank Announcements on Asset Prices in Real Time: Testing the Efficiency of the Euribor Futures Market

Carlo Rosa Giovanni Verga

CEPDP0764. December 2006.This paper examines the effect of European Central Bank communication on the price discovery process in the Euribor futures market using a new tick-by-tick dataset. First, we show that two pieces of news systematically hit financial markets on Governing Council meeting days: the ECB policy rate decision and the explanation of its monetary policy stance. Second, we find that the unexpected component of ECB explanations has a significant and sizeable impact on futures prices. This indicates that the ECB has already acquired some credibility: financial markets seem to believe that it does what it says it will do. Finally, our results suggest that the Euribor futures market is semi-strong form informational efficient.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0764.pdf

The Effect of Trade Liberalization on Informality and Wages: Evidence from Mexico

Benjamin Aleman-Castilla

CEPDP0763. December 2006.This paper studies the impact of NAFTA on informality and real wages in Mexico. Using a dynamic industry model with firm heterogeneity, it is predicted that import tariff elimination could reduce the incidence of informality by making more profitable to some firms to enter the formal sector, forcing the less productive informal firms to exit the industry, and inducing the most productive formal firms to engage in trade. The model also predicts market share reallocations towards the most productive firms, and an increase in real wages due to the increased labour demand by these firms. Using data on Mexican and U.S. import tariffs together with the Mexican National Survey of Urban Labour (ENEU), I find that reductions in the Mexican import tariffs are significantly related to reductions in the likelihood of informality in the tradable industries. I also find that informality decreases less in industries with higher levels of import penetration, while it decreases more in industries that are relatively more export oriented. Finally, I confirm that the elimination of the Mexican import tariffs is related to an increase in real wages, and that the elimination of the U.S. import tariff has contributed to the expansion of the formal-informal wage differentials.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0763.pdf

An R&D-Based Model of Multi-Sector Growth

L. Rachel Ngai Roberto M. Samaniego

CEPDP0762. December 2006.We develop a multi-sector general equilibrium model in which productivity growth is driven by the production of sector-specific knowledge. In the model, we find that long run differences in total factor productivity growth across sectors are independent of the parameters of the knowledge production function except for one, which we term the fertility of knowledge. Differences in R&D intensity are also independent of most other parameters. The fertility of knowledge in the capital sector is central to the growth properties of the model economy.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0762.pdf

Job Creation and Job Destruction in the Presence of Informal Labour Markets

Mariano Bosch

CEPDP0761. November 2006.Recessions and policy interventions in labour markets in developing countries are characterized not only by changes in the unemployment rate, but also by changes in the proportion of formal or protected jobs. This reallocation between formal and informal jobs is large and occurs mainly because the job finding rate of formal jobs reacts substantially more than the job finding rate of informal jobs. This paper presents a search and matching model to capture this fact. I assume that firms operate the within firm margin of formality, choosing to legalize only those matches that are good enough to compensate the costs of formality. In this framework, recessions or stricter regulations in the labour market trigger two effects. As expected, they lower the incentives to post vacancies (meeting effect), but also affect the firms’ hiring standards, favouring informal contracts (offer effect). This new channel sheds light on how the actions of policy makers alter the outcomes in an economy with informal jobs. For instance, attempts to protect employment by increasing .ring costs will reallocate workers to informal jobs, where job separation is high. They are also likely to increase unemployment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0761.pdf

Owners of Developed Land versus Owners of Undeveloped Land: Why Land Use is More Constrained in the Bay Area than in Pittsburgh

Christian Hilber Frédéric Robert-Nicoud

CEPDP0760. November 2006.We model residential land use constraints as the outcome of a political economy game between owners of developed and owners of undeveloped land. Land use constraints are interpreted as shadow taxes that increase the land rent of already developed plots and reduce the amount of new housing developments. In general equilibrium, locations with nicer amenities are more developed and, as a consequence, more regulated. We test our model predictions by geographically matching amenity, land use, and historical Census data to metropolitan area level survey data on regulatory restrictiveness. Following the predictions of the model, we use amenities as instrumental variables and demonstrate that metropolitan areas with better amenities are more developed and more tightly regulated than other areas. Consistent with theory, metropolitan areas that are more regulated also grow more slowly.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0760.pdf

The CEP-OECD Institutions Data Set (1960-2004)

William Nickell

CEPDP0759. November 2006.This dataset contains information about the evolution of labour market institutions in twenty OECD countries from 1960 to 2004. The countries in the sample are:
Australia, Austria, Belgium, Canada, Denmark, Finland, France, Germany, Ireland, Italy, Japan, Netherlands, New Zealand, Norway, Portugal, Spain, Sweden, Switzerland, United Kingdom, United States

Where possible the data refers to West Germany throughout. Note that the temporal coverage of these data differs from series to series and country to country.

The accompanying data can be downloaded at the link above

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0759.pdf

Fat City: The Relationship Between Urban Sprawl and Obesity

Jean Eid Henry Overman Diego Puga Matthew Turner

CEPDP0758. November 2006.We study the relationship between urban sprawl and obesity. Using data that tracks individuals over time, we find no evidence that urban sprawl causes obesity. We show that previous findings of a positive relationship most likely reflect a failure to properly control for the fact the individuals who are more likely to be obese choose to live in more sprawling neighborhoods. Our results indicate that current interest in changing the built environment to counter the rise in obesity is misguided.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0758.pdf

Unemployment and Hours of Work: The North Atlantic Divide Revisited

Christopher A. Pissarides

CEPDP0757. October 2006.I examine the dynamic evolutions of unemployment, hours of work and the service share since the war in the United States and Europe. The theoretical model brings together all three and emphasizes technological growth. Computations show that the very low unemployment in Europe in the 1960s was due to the high productivity growth associated with technological catch-up. Productivity also played a role in the dynamics of hours but a full explanation for the fast rise of service employment and the big fall in aggregate hours needs further research. Taxation has played a role but results are mixed.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0757.pdf

Exploring the Detailed Location Patterns of UK Manufacturing Industries Using Microgeographic Data

Gilles Duranton Henry Overman

CEPDP0756. October 2006.We use a point-pattern methodology to explore the detailed location patterns of UK manufacturing industries. In particular, we consider the location of entrants and exiters vs. continuing establishments, domestic- vs. foreign-owned, large vs. small, and affiliated vs. independent. We also examine co-localisation between vertically linked industries. Our analysis provides a set of new stylised facts and confirmation for others.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0756.pdf

International Financial Integration and Entrepreneurship

Laura Alfaro Andrew Charlton

CEPDP0755. October 2006.We explore the relation between international financial integration and the level of entrepreneurial activity in a country. Using a unique data set of approximately 24 million firms in nearly 100 countries in 1999 and 2004, we find suggestive evidence that international financial integration has been associated with higher levels of entrepreneurial activity. Our results are robust to using various proxies for entrepreneurial activity such as entry, size, and skewness of the firm-size distribution; controlling for level of economic development, regulation, institutional constraints, and other variables that might affect the business environment; and using different empirical specifications. We further explore various channels through which international financial integration can affect entrepreneurship (a foreign direct investment channel and a capital/credit availability channel) and provide consistent evidence to support our results.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0755.pdf

The Impact of Immigration on the Structure of Male Wages: Theory and Evidence from Britain

Marco Manacorda Alan Manning Jonathan Wadsworth

CEPDP0754. October 2006.Immigration to the UK has risen in the past 10 years and has had a measurable effect on the supply of different types of labour. But, existing studies of the impact of immigration on the wages of native-born workers in the UK (e.g. Dustmann, Fabbri and Preston, 2005) have failed to find any significant effect. This is something of a puzzle since Card and Lemieux, (2001) have shown that changes in the relative supply of educated natives do seem to have measurable effects on the wage structure. This paper offers a resolution of this puzzle – natives and immigrants are imperfect substitutes, so that an increase in immigration reduces the wages of immigrants relative to natives. We show this using a pooled time series of British cross-sectional micro data of observations on male wages and employment from the mid-1970s to the mid-2000s. This lack of substitution also means that there is little discernable effect of increased immigration on the wages of native-born workers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0754.pdf

Gross Worker Flows in the Presence of Informal Labor Markets. The Mexican Experience 1987-2002

Mariano Bosch William Maloney

CEPDP0753. October 2006.This paper applies recent advances in the study of labor market dynamics to a representative developing country with a large unregulated of “informal” sector, Mexico. It finds, first, that the formal salaried sector shows the same procyclical job finding rate and mildly countercyclical separation behavior identified in the recent US literature by Shimer (2005a) and Hall (2005). The unregulated informal sector, however, shows reasonable acyclicality in the job finding rate coupled with sharp countercyclical movements in the job separation rate, consistent with standard small firm dynamics and Davis and Haltiwanger (1992 and 1999). The differential behavior of regulated and unregulated sectors, and the finding of relative wage rigidity in the former, sheds suggestive light on the roots of countercyclical job finding behavior in the US. Second, the patterns of worker transitions between all sectors, formal and informal correspond to the job-to-job dynamics observed in the US and not to the traditional idea of informality constituting the inferior sector of a segmented market. That said, the counter cyclical job finding in the formal sector combined with the acyclical job finding in informality does lead to the latter absorbing relatively more labor during downturns, even as its increased separation rates drive movements in unemployment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0753.pdf

Individual Employee Voice: Renegotiation and Performance Management in Public Services

David Marsden

CEPDP0752. October 2006.Periodically, the ‘zone of acceptance’ within which management may use its authority to direct employees’ work needs to be adapted to the changing needs of organisations. This article focuses especially on the non-codified elements of employees’ work, such as those commonly the subject of ‘psychological contracts’, and considers the role of individual employee voice in the process of adaptation, and how it relates to more familiar forms of collective employee voice. It is argued that the process can be analysed as a form of integrative bargaining, and applies the framework from Walton and McKersie. Employee voice enters into this process by virtue of consideration of the respective goals and preferences of both parties. The element of employee voice may be very weak when new work goals and priorities are imposed unilaterally by management, and they may be strong when full consideration is given to the changing needs of both parties. Two examples from work on performance management in the public services are used to illustrate these processes. The article concludes with a discussion of the ways in which collective employee voice may help to reinforce individual level integrative negotiation. The article seeks to contribute to the recent work on why employers choose employee voice mechanisms by broadening the range of policies that should be taken into account, and in particular looking at the potential of performance management as one such form.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0752.pdf

Lowering Child Mortality in Poor Countries: The Power of Knowledgeable Parents

Peter Boone Zhaoguo Zhan

CEPDP0751. October 2006.Why do over 20% of children die in some poor countries, while in others only 2% die? We examine this question using survey data covering 278,000 children in 45 low-income countries. We find that parents’ education and a mother’s propensity to seek out modern healthcare are empirically important when explaining child survival, while the prevalence of common diseases, along with infrastructure such as improved water and sanitation, are not. Using a GINI coefficient we construct for treatment services, we find that public and private health systems are “equally unequal”, that is, both tend to favor children in relatively well-off households, and neither appears superior at improving outcomes in very poor communities. These facts contrast with a common view that a much-expanded public health sector is necessary to reduce child mortality. Instead, we believe the empirical evidence points to the essential role of parents as advocates for their child’s health. If we can provide better health knowledge and general education to parents, a private healthcare sector can arise to meet demand. We provide evidence that this alternative route to low mortality is indeed a reason behind the current success of many countries with low child mortality, including Vietnam, Indonesia, Egypt, and the Indian state of Kerala. Finally, we calculate a realistic package of interventions that target education, health knowledge and treatment seeking could reduce child mortality by 32%.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0751.pdf

Information and Communication Technologies in a Multi-Sector Endogenous Growth Model

Evangelia Vourvachaki

CEPDP0750. August 2006.This paper investigates the impact of Information and Communication Technologies (ICT) on growth in an economy, consisting of three sectors, ICT-producing, ICT-using and non-ICT-using. The benefits from ICT come from the falling prices of the ICT-using sector’s good, which is used for the production of intermediate goods. Their falling prices provide incentives for investment for sectors using them, so the non-ICT using sector experiences sustained growth driven by capital accumulation. Rates of growth across the three sectors differ, but the aggregate economy is on a balanced growth path with constant labour shares across sectors. US evidence confirms the model’s predictions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0750.pdf

Productivity and ICT: A Review of the Evidence

Mirko Draca Raffaella Sadun John Van Reenen

CEPDP0749. August 2006.We survey the micro and macro literature on the impact of Information and Communication Technologies (ICTs) on productivity. The “Solow Paradox” of the absence of an impact of ICT on productivity no longer holds, if it ever did. Both growth accounting and econometric evidence suggest an important role for ICTs in accounting for productivity. In fact, the empirical estimates suggest a much larger impact of ICT on productivity than would be expected from the standard neoclassical model that we focus on. We discuss the various explanations for these results, including the popular notion of complementary organizational capital. Finally, we offer suggestions for where the literature needs to go.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0749.pdf

Assessing the Effects of Local Taxation Using Microgeographic Data

Gilles Duranton Laurent Gobillon Henry Overman

CEPDP0748. August 2006.We study the impact of local taxation on the location and growth of firms. Our empirical methodology pairs establishments across jurisdictional boundaries to estimate the impact of taxation. Our approach improves on existing work as it corrects for unobserved establishment heterogeneity, for unobserved time-varying site specific effects, and for the endogeneity of local taxation. Applied to data for English manufacturing establishments we find that local taxation has a negative impact on employment growth, but no effect on entry.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0748.pdf

Pay for Performance Where Output is Hard to Measure: the Case of Performance Pay for School Teachers

Richard Belfield David Marsden

CEPDP0747. August 2006.The introduction of performance-related pay with Performance Management in the state school sector of England and Wales represents a considerable change in the school management system. After 2000, all teachers were subject to annual goal setting performance reviews. Experienced teachers were offered an extended pay scale based on performance instead of seniority, and to gain access to the new upper pay scale, teachers had to go through a ‘threshold assessment’ based on their professional skills and performance. This paper reports the results of a panel survey of classroom and head teachers which started in 2000 just before implementation of the new system, and then after one and after four years of operation. We find that both classroom and head teacher views have changed considerably over time, from initial general skepticism and opposition towards a more positive view, especially among head teachers by 2004. We argue that the adoption of an integrative bargaining approach to performance reviews explains why a growing minority of schools have achieved improved goal setting, and improved pupil attainments as they have implemented performance management. Pay for performance has been one of the measures of organizational support that head teachers could bring to induce changes in teachers’ classroom priorities. We argue that the teachers’ case shows that a wider range of performance incentives than previously thought can be offered to employees in such occupations, provided that goal setting and performance measurement are approached as a form of negotiation instead of top-down.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0747.pdf

Trends in Hours and Economic Growth

L. Rachel Ngai Christopher A. Pissarides

CEPDP0746. August 2006.We study long-run trends in market hours of work and employment shifts across economic sectors driven by uneven TFP growth in market and home production. We focus on the structural transformation between agriculture, manufacturing and services and on the marketization of home production. The model can rationalize the observed falling or Ushaped pattern for aggregate hours, the shift from agriculture to services and balanced aggregate growth. We find support for the model’s predictions in long-run US data.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0746.pdf

Unions, Job Reductions and Job Security Guarantees: the Experience of British Employees

Alex Bryson Michael White

CEPDP0745. August 2006.A national survey makes it possible to examine employees’ awareness of net overall reductions in the size of the workforce along with their awareness of employer policies that promise ‘no compulsory redundancies’. Differences are investigated between union and nonunion workplaces, and between unionised workplaces with high membership density and those with low-to-medium density. A union presence increases both job reductions and job security guarantees to employees, and high membership density has some additional effects in the market sector, but not the public sector.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0745.pdf

Capital Markets, Ownership and Distance

Wendy Carlin Andrew Charlton Colin Mayer

CEPDP0744. August 2006.This paper uses a new data-set to examine how internal capital markets and foreign ownership affect investment. Our data allow us to compare investment behaviour of listed subsidiaries with stand-alone firms while controlling for investment opportunities of parent and subsidiary firms. We evaluate how the size of ownership and the geographical proximity of majority owners to their subsidiaries affect firm investment efficiency. We find that the investment of subsidiaries is more sensitive to investment opportunities than that of standalone firms and falls when investment opportunities of parent firms improve. This suggests that there are internal capital markets that reallocate funds towards units with better investment opportunities. We find that investment allocation is most efficient where parents have modest ownership stakes and are distant from their subsidiaries and when subsidiaries operate in well developed financial markets. These results indicate that influence costs imposed by dominant parents may outweigh their potential informational benefits, especially when subsidiaries are located in countries with weaker financial development.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0744.pdf

Search and Matching Frictions and Optimal Monetary Policy

Carlos Thomas

CEPDP0743. December 2006.I analyze optimal monetary policy in an economy with search and matching frictions in the labor market and staggered nominal wage and price contracts. In this framework, as opposed to the standard New Keynesian model, preset nominal wages need not have any effect on existing employment relationships. However, staggered bargaining of nominal wages distorts aggregate job creation and creates inefficient dispersion in hiring rates across firms. Targeting zero inflation (the optimal policy in the standard New Keynesian model) only magnifies these distortions. The optimal policy allows for non-zero inflation in response to real shocks, so as to reduce the rigidity of real wages. Quantitatively, the case against price stability as the sole goal of monetary policy turns out to be important.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0743.pdf

Co-Opetition and Prelaunch in Standard-Setting for Developing Technologies

Tobias Kretschmer Katrin Muehlfeld

CEPDP0742. August 2006.Firms faced with the decision of whether to standardize or not prior to introducing a new network technology face a tradeoff: Compatibility improves the technology’s chances of consumer acceptance, but it also means having to share the resulting profits with other sponsors of the standard. In this paper, we show that even prior to market introduction of a new technology, the timing of decisions is important and that firms have to weigh up the cooperative and competitive elements of pre-market choices. We also show that the option to precommit to a technology before it is fully developed (as has been the case with the Compact Disc) can be profitable for network technologies.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0742.pdf

Dynastic Management

Francesco Caselli Nicola Gennaioli

CEPDP0741. August 2006.The most striking difference in corporate-governance arrangements between rich and poor countries is that the latter rely much more heavily on the dynastic family firm, where ownership and control are passed on from one generation to the other. We argue that if the heir to the family firm has no talent for managerial decision making, dynastic management is a failure of meritocracy that reduces a firm’s Total Factor Productivity. We present a simple model that studies the macreconomic causes and consequences of dynastic management. In our model, the incidence of dynastic management depends, among other factors, on the imperfections of contractual enforcement. A plausible calibration suggests that, via dynastic management, poor contract enforcement may be a substantial contributor to observed crosscountry differences in aggregate Total Factor Productivity.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0741.pdf

Strategic Patenting and Software Innovation

Michael Noel Mark Schankerman

CEPDP0740. August 2006.Strategic patenting is widely believed to raise the costs of innovating, especially in industries characterised by cumulative innovation. This paper studies the effects of strategic patenting on R&D, patenting and market value in the computer software industry. We focus on two key aspects: patent portfolio size which affects bargaining power in patent disputes, and the fragmentation of patent rights (.patent thickets.) which increases the transaction costs of enforcement. We develop a model that incorporates both effects, together with R&D spillovers. Using panel data for the period 1980-99, we find evidence that both strategic patenting and R&D spillovers strongly affect innovation and market value of software firms.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0740.pdf

Uncertainty and Investment Dynamics

Nick Bloom Stephen Bond John Van Reenen

CEPDP0739. August 2006.This paper shows that, with (partial) irreversibility, higher uncertainty reduces the impact effect of demand shocks on investment. Uncertainty increases real option values making firms more cautious when investing or disinvesting. This is confirmed both numerically for a model with a rich mix of adjustment costs, time-varying uncertainty, and aggregation over investment decisions and time, and also empirically for a panel of manufacturing firms. These cautionary effects of uncertainty are large - going from the lower quartile to the upper quartile of the uncertainty distribution typically halves the first year investment response to demand shocks. This implies the responsiveness of firms to any given policy stimulus may be much lower in periods of high uncertainty, such as after major shocks like OPEC I and 9/11.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0739.pdf

The Early Career Gender Wage Gap

Sami Napari

CEPDP0738. August 2006.In Finland the gender wage gap increases significantly during the first 10 years after labor market entry accounting most of the life-time increase in the gender wage gap. This paper focuses on the early career gender wage differences among university graduates and considers several explanations for the gender wage gap based on the human capital theory, job mobility and labor market segregation. Gender differences in the accumulation of experience and in the type of education explain about 16 percent of the average gender wage gap that emerges during the first 11 years after labor market entry among university graduates. Differences in employer characteristics between male and female graduates account about 10 percent for the average early career gender wage gap. In all gender differences in background characteristics explain about 27 percent of the average early career wage differences between male and female university graduates. The most important single factor contributing to the gender wage gap is the family type. Women seem to suffer considerable larger wage losses due to marriage and children than men.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0738.pdf

Competing Technologies in the Database Management Systems Market

Tobias Kretschmer

CEPDP0737. August 2006.In this paper, we study the dynamics of the market for Database Management Systems (DBMS), which is commonly assumed to possess network effects and where there is still some viable competition in our study period, 2000 – 2004. Specifically, we make use of a unique and detailed dataset on several thousand UK firms to study individual organizations’ incentives to adopt a particular technology. We find that there are significant internal complement effects – in other words, using an operating system and a DBMS from the same vendor seems to confer some complementarities. We also find evidence for complementarities between enterprise resource planning systems (ERP) and DBMS and find that as ERP are frequently specific and customized, DBMS are unlikely to be changed once they have been customized to an ERP. We also find that organizations have an increasing tendency to use multiple DBMS on one site, which contradicts the notion that different DBMS are near-perfect substitutes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0737.pdf

Multi-Product Firms and Product Switching

Andrew B. Bernard Stephen Redding Peter K. Schott

CEPDP0736. August 2006.This paper examines the frequency, pervasiveness and determinants of product switching among U.S. manufacturing firms. We find that two-thirds of firms alter their mix of five-digit SIC products every five years, that one-third of the increase in real U.S. manufacturing shipments between 1972 and 1997 is due to the net adding and dropping of products by survivors, and that firms are more likely to drop products which are younger and have smaller production volumes relative to other firms producing the same product. The product-switching behavior we observe is consistent with an extended model of industry dynamics emphasizing firm heterogeneity and self-selection into individual product markets. Our findings suggest that product switching contributes towards a reallocation of economic activity within firms towards more productive uses.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0736.pdf

The Marginal Product of Capital

Francesco Caselli James Feyrer

CEPDP0735. August 2006.Whether or not the marginal product of capital (MPK) differs across countries is a question that keeps coming up in discussions of comparative economic development and patterns of capital flows. We use easily accessible macroeconomic data to shed light on this issue, and find that MPKs are remarkably similar across countries. Hence, there is no prima facie support for the view that international credit frictions play a major role in preventing capital flows from rich to poor countries. Lower capital ratios in these countries are instead attributable to lower endowments of complementary factors and lower efficiency, as well as to lower prices of output goods relative to capital. We also show that properly accounting for the share of income accruing to reproducible capital is critical to reach these conclusions. One implication of our findings is that increased aid flows to developing countries will not significantly increase these countries' incomes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0735.pdf

Off-Shoring of Business Services and De-Industrialization: Threat or Opportunity - and for Whom?

Frédéric Robert-Nicoud

CEPDP0734. July 2006.This paper takes a new look at the issue of overseas sourcing of services. In framework in which comparative advantage is endogenous to agglomeration economies and factor mobility, the fragmentation of production made possible by the new communication technologies and low transportation costs allow global firms (multinational corporations or individual firms active in global networks) to simultaneously reap the benefit of agglomeration economies in OECD countries and of low wages prevailing in countries with an ever better educated labour force like India. Thus, the reduction of employment in some routine tasks in rich countries in a general equilibrium helps sustain and reinforces employment in the core competencies in such countries. That is, the loss of some jobs permits to retain the ‘core competencies’ in the ‘core countries’. The welfare implications of this analysis are shown to be not as straightforward as in a neoclassical world.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0734.pdf

Unions, Within-Workplace Job Cuts and Job Security Guarantees

Alex Bryson Michael White

CEPDP0733. July 2006.Using data from the Workplace Employment Relations Survey 1998, this paper shows that unionisation increased the probability of within-workplace job cuts and the incidence of job security guarantees. As theory predicts, both are more prevalent among market-sector workplaces with higher union density and multi-unionism. Expectations that these effects would be more muted in the public sector were also confirmed.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0733.pdf

On the Theory of Ethnic Conflict

Francesco Caselli Wilbur John Coleman II

CEPDP0732. July 2006.We present a theory of ethnic conflict in which coalitions formed along ethnic lines compete for the economy’s resources. The role of ethnicity is to enforce coalition membership: in ethnically homogeneous societies members of the losing coalition can defect to the winners at low cost, and this rules out conflict as an equilibrium outcome. We derive a number of implications of the model relating social, political, and economic indicators such as the incidence of conflict, the distance among ethnic groups, group sizes, income inequality, and expropriable resources.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0732.pdf

What Voice Do British Workers Want?

Alex Bryson Richard Freeman

CEPDP0731. July 2006.The problems/need for representation and participation reported by workers vary across workplaces and by types of jobs. Workers with greater workplace needs are more desirous of unions but their preferences are fine-grained. Workers want unions to negotiate wages and work conditions and for protection but do not see unions as helping them progress in their careers. Many workers see no major workplace problems that would impel them to form or join unions. Unionism raises reported problems while firm-based non-union channels of voice reduce reported problems, but unions that work effectively with management and those that have sufficient strength to be taken seriously by management reduce the number of problems at union workplaces.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0731.pdf

Patterns of Work Across the OECD

Giulia Faggio Stephen Nickell

CEPDP0730. June 2006.Market work per person of working age differs widely across the OECD countries and there have been some significant changes in the last forty years. How to explain this pattern? Taxes are part of the story but much remains to be explained. If we include all the elements of the social security systems like early retirement benefits, sickness and disability benefits and unemployment benefits, then we can capture some aspects of the overall pattern but still a lot remains unexplained. The story favoured by Alesina et al. (CEPR DP.5140, 2005) is that the nexus of strong unions, generous welfare and social democracy implies both high taxes and pressure in favour of work-sharing in response to adverse shocks. This story, however, falls foul of the simple fact that most Scandinavian countries now do much more work than the French and Germans despite having stronger unions, more generous welfare, higher taxes and more social democracy. Ultimately, we are forced into the position that there is no simple story. Some of the broad patterns can be explained but there remain country specific factors which are hard to identify but lead to substantial differences from one country to another.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0730.pdf

Incentives and Invention in Universities

Saul Lach Mark Schankerman

CEPDP0729. June 2006.Using data on U.S. universities, we show that universities that give higher royalty shares to faculty scientists generate greater license income, controlling for university size, academic quality, research funding and other factors. We use pre-sample data on university patenting to control for the potential endogeneity of royalty shares. We find that scientists respond both to cash royalties and to royalties used to support their research labs, suggesting both pecuniary and intrinsic (research) motivations. The incentive effects appear to be larger in private universities than in public ones, and we provide survey evidence indicating this may be related to differences in the use of performance pay, government constraints, and local development objectives of technology license offices. Royalty incentives work both by raising faculty effort and sorting scientists across universities. The effect of incentives works primarily by increasing the quality (value) rather than the quantity of inventions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0729.pdf

The Unequal Effects of Liberalization: Evidence from Dismantling the License Raj in India

Philippe Aghion Robin Burgess Stephen Redding Fabrizio Zilibotti

CEPDP0728. June 2006.This paper investigates whether the effects, on registered manufacturing out- put, employment, entry and investment, of dismantling the .license raja system of central controls regulating entry and production activity in this sector .vary across Indian states with different labor market regulations. The effects are found to be unequal depending on the institutional environment in which industries are embedded. In particular, following de-licensing, industries located in states with pro-employer labor market institutions grew more quickly than those in pro-worker environments. Our results emphasize how local institutions matter for whether industry in a region benefits or is harmed by the nationwide delicensing reform.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0728.pdf

Trade and Growth with Heterogeneous Firms

Richard E. Baldwin Frédéric Robert-Nicoud

CEPDP0727. June 2006.This paper explores the impact of trade on growth when firms are heterogeneous. We find that greater openness produces anti-and pro-growth effects. The Melitz-model selection effects raises the expected cost of introducing a new variety and this tends to slow the rate of new-variety introduction and hence growth. The pro-growth effect stems from the impact that freer trade has on the marginal cost of innovating. The balance of the two effects is ambiguous with the sign depending upon the exact nature of the innovation technology and its connection to international trade in goods and ideas. We consider five special cases (these include the Grossman-Helpman, the Coe- Helpman and Rivera-Batiz-Romer models) two of which suggest that trade harms growth; the others predicting the opposite.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0727.pdf

Productivity, Exporting and the Learning-by-Exporting Hypothesis: Direct Evidence from UK Firms

Gustavo Crespi Chiara Criscuolo Jonathan Haskel

CEPDP0726. May 2006.Case study evidence suggests that exporting firms learn from their clients. But econometric evidence, mostly using exporting and TFP growth, is mixed. We use a UK panel data set with firm-level information on exporting and productivity. Our innovation is that we also have direct data on the sources of learning (in this case about new technologies). Controlling for fixed effects we have two main findings. First, we find firms who exported in the past are more likely to then report that they learnt from buyers (relative to learning from other sources). Second, firms who had learned from buyers (more than they learnt from other sources) in the past are more likely to then have productivity growth. This suggests some support for the learning-by-exporting hypothesis.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0726.pdf

The Timing of Monetary Policy Shocks

Giovanni Olivei Silvana Tenreyro

CEPDP0725. May 2006.A vast empirical literature has documented delayed and persistent effects of monetary policy shocks on output. We show that this finding results from the aggregation of output impulse responses that differ sharply depending on the timing of the shock: when the monetary policy shock takes place in the first two quarters of the year, the response of output is quick, sizable, and dies out at a relatively fast pace. In contrast, output responds very little when the shock takes place in the third or fourth quarter. We propose a potential explanation for the differential responses based on uneven staggering of wage contracts across quarters. Using a stylized dynamic general equilibrium model, we show that a very modest amount of uneven staggering can generate differences in output responses similar to those found in the data.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0725.pdf

The Incidence of an Earned Income Tax Credit: Evaluating the Impact on Wages in the UK

Ghazala Azmat

CEPDP0724. May 2006.Tax credits have been a popular way to alleviate in-work poverty. The assumption is typically that the incidence is on the claimant workers. However, economic theory suggests no particular reason to believe that this should be the case. This paper investigates the incidence of the Working Families Tax Credit in the UK introduced in 1999, which unlike similar tax credit policies was paid through the wage packet, increasing the connection between the employer and worker with regard to the tax credit. Using two stage parametric and nonparametric censored regression methods we find compelling evidence to suggest that (1) the firm discriminates by cutting the wage of claimant workers relative to similarly skilled nonclaimant workers when looking at men and (2) there is a spill-over effect onto the wage of both groups for both men and women.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0724.pdf

Basic Research and Sequential Innovation

Sharon Belenzon

CEPDP0723. May 2006.The commercial value of basic knowledge depends on the arrival of follow-up developments mostly from outside the boundaries of the inventing firm. Private returns would depend on the extent the inventing firm internalizes these follow-up developments. Such internalization is less likely to occur as knowledge becomes more general. This motivates the historical concern of insufficient private incentive for basic research. The present paper develops a novel empirical methodology of identifying unique patterns of knowledge flows (based on patent citations), which provide information about whether ‘spilled’ knowledge is reabsorbed by its inventor. Using comprehensive data on the largest 500 inventing firms in the US the classical problem of underinvestment in basic research is confirmed: spillovers of more general knowledge (and in this respect, more basic) are less likely to feed back to the inventing firm. This translates to lower private returns, as indicated by the effect of the R&D stock of the firm on its market value.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0723.pdf

Technology, Information and the Decentralization of the Firm

Daron Acemoglu Philippe Aghion Claire Lelarge John Van Reenen Fabrizio Zilibotti

CEPDP0722. May 2006.This paper develops a framework to analyze the relationship between the diffusion of new technologies and the decentralization decisions of firms. Centralized control relies on the information of the principal, which we equate with publicly available information. Decentralized control, on the other hand, delegates authority to a manager with superior information. However, the manager can use her informational advantage to make choices that are not in the best interest of the principal. As the available public information about the specific technology increases, the trade-off shifts in favour of centralization. We show that firms closer to the technological frontier, firms in more heterogeneous environments and younger firms are more likely to choose decentralization. Using three datasets of French and British firms in the 1990s, we report robust correlations consistent with these predictions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0722.pdf

Knowledge Flow and Sequential Innovation: Implications for Technology Diffusion, R&D and Market Value

Sharon Belenzon

CEPDP0721. May 2006.It is shown that spillovers can enhance private returns to innovation if they feed back into the dynamic research of the original inventor (Internalized spillovers), but will always reduce private returns, if the original inventor does not benefit from the advancements other inventors build into the “spilled” knowledge (Externalized spillovers). I empirically identify unique patterns of knowledge flows (based on patent citations), which provide information about whether “spilled” knowledge is reabsorbed by its inventor. A simple model of sequential innovation with dynamic spillovers is developed, which predicts that market value and R&D expenditures should rise with Internalized spillovers and fall with Externalized spillovers. These predications are confirmed using panel data on U.S. firms between 1981 and 2001. To the extent that firms internalize some of the spillovers they create, the classical underinvestment problem in R&D will be mitigated and the central role of spillovers in promoting economic growth will be enhanced.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0721.pdf

What Do Unions Do to Executive Compensation?

Rafael Gomez Konstantinos Tzioumis

CEPDP0720. May 2006.We estimate the relation between union presence and executive compensation using a unique panel of executives in publicly listed US firms during the period 1992-2001. We find evidence that union presence is associated with lower levels of total executive compensation. We find this union effect to be primarily the result of substantially lower stock option awards, and to a lesser extent due to lower cash pay. Moreover, the negative relation between unionization and executive remuneration becomes larger at the higher end of the conditional distribution of executive remuneration. We also find that the elasticity of cash pay to financial performance is similar across unionized and non-unionized firms, and that union presence is associated with a more compressed intra-firm and inter-firm executive compensation structure.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0720.pdf

A Gold Rush Theory of Economic Development

Ralph Ossa

CEPDP0719. March 2006.This paper presents a model of social learning about the suitability of local conditions for new business ventures and explores its implications for the microeconomic patterns of economic development. I show that: i) firms tend to ‘rush’ into business ventures with which other firms have had surprising success thus causing development to be ‘lumpy’; ii) sufficient business confidence is crucial for fostering economic growth; iii) development may involve wave-like patterns of growth where successive business ventures are first pursued and then given up; iv) there is, nevertheless, no guarantee that firms pursue the best venture even in the long-run.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0719.pdf

The Impact of Uncertainty Shocks: Firm Level Estimation and a 9/11 Simulation

Nick Bloom

CEPDP0718. March 2006.Uncertainty appears to vary strongly over time, temporarily rising by up to 200% around major shocks like the Cuban Missile crisis, the assassination of JFK and 9/11. This paper offers the first structural framework to analyze uncertainty shocks. I build a model with a time varying second moment, which is numerically solved and estimated using firm level data. The parameterized model is then used to simulate a macro uncertainty shock, which produces a rapid drop and rebound in employment, investment and productivity, and a moderate loss in GDP. This temporary impact of a second moment shock is different from the typically persistent impact of a first moment shock, highlighting the importance for policymakers of identifying their relative magnitudes in major shocks. The simulation of an uncertainty shock is then compared to actual 9/11 data, displaying a surprisingly good match.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0718.pdf

Trade Liberalization and Industrial Restructuring through Mergers and Acquisitions

Holger Breinlich

CEPDP0717. March 2006.This paper analyzes mergers and acquisitions (M&A) as a previously neglected channel of industrial restructuring in the face of trade liberalization. Using the Canada-United States Free Trade Agreement of 1989 as a natural experiment, I show that trade liberalization leads to a significant increase in M&A activity. I also provide evidence that resources are transferred from less to more productive firms in the process and that the magnitude of the overall transfer is quantitatively important. Taken together, these results suggest that M&A is an important alternative to the previously studied adjustment channels of firm and establishment closure and contraction. This has strong implications for the design of competition policy in the wake of trade liberalizations since M&A may offer a more efficient way of transferring resources than contraction and closure of low productivity firms combined with internal growth of more efficient firms.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0717.pdf

Measuring and Explaining Management Practices Across Firms and Countries

Nick Bloom John Van Reenen

CEPDP0716. March 2006.We use an innovative survey tool to collect management practice data from 732 medium sized manufacturing firms in the US, France, Germany and the UK. These measures of managerial practice are strongly associated with firm-level productivity, profitability, Tobin’s Q, sales growth and survival rates. Management practices also display significant cross-country differences with US firms on average better managed than European firms, and significant within-country differences with a long tail of extremely badly managed firms. We find that poor management practices are more prevalent when (a) product market competition is weak and/or when (b) family-owned firms pass management control down to the eldest sons (primo geniture). European firms report lower levels of competition, while French and British firms also report substantially higher levels of primo geniture due to the influence of Norman legal origin and generous estate duty for family firms. We calculate that product market competition and family firms account for about half of the long tail of badly managed firms and up to two thirds of the American advantage over Europe in management practices.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0716.pdf

Minimum Wages and Firm Profitability

Mirko Draca Stephen Machin John Van Reenen

CEPDP0715. February 2006.Although there is a large literature on the economic effects of minimum wages on labour market outcomes (especially employment), there is hardly any evidence on their impact on firm performance. This is surprising: minimum wages appear to have a significant impact on wages, but only a limited impact on jobs, so it is natural to imagine there must be a stronger impact on other aspects of firm behaviour. In this paper we consider the impact of minimum wages on firm profitability by exploiting the introduction of a minimum wage to the UK labour market in 1999. We use pre-policy information on the distribution of wages to construct treatment and comparison groups and implement a difference in differences approach. We show evidence that firm profitability was significantly reduced (and wages significantly raised) by the minimum wage introduction. This emerges from separate analyses of two distinct types of firm level panel data (one on firms in a very low wage sector, UK residential care homes, and a second on firms across all sectors). Interestingly, we find no evidence that the profitability reductions resulted in increases in firm exit, so our findings may be consistent with redistribution of quasi-rents towards low wage employees.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0715.pdf

Do Workers' Remittances Reduce the Probability of Current Account Reversals?

Matteo Bugamelli Francesco Paternò

CEPDP0714. February 2006.The paper combines the literature on financial crises in emerging markets and developing economies with that on international migrations by investigating whether the increasingly large flows of workers’ remittances can help reduce the probability of current account reversals. The rationale for this stands in the great stability and low cyclicality of remittances as compared to other private capital flows: these properties, combined with the fact that remittances are cheap inflows of foreign currencies, might reduce the probability that foreign investors suddenly flee out of emerging markets and developing economies and trigger a dramatic current account adjustment. We find that remittances can indeed have such a beneficial effect. In particular, we show that a high level of remittances, as a ratio of GDP, makes the relationship between a decreasing stock of international reserves (over GDP) and a higher probability of current account crises less stringent. The same occurs, though less neatly, for the positive relationship between an increasing stock of external debt (over GDP) and the probability of current account reversals. Our results point also to a threshold effect of remittances: the mechanisms just described are, in fact, much stronger when remittances are above 3 percent of GDP.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0714.pdf

Union Free-Riding in Britain and New Zealand

Alex Bryson

CEPDP0713. January 2006.The percentage of workers who choose not to join the union available to them at their workplace has been rising in Britain and New Zealand. Social custom, union instrumentality, the fixed costs of joining, employee perceptions of management attitudes to unionization and employee problems at work all influence the propensity to free-ride. Ideological convictions regarding the role of unions also play some role, as do private excludable goods. There is little indication of employer-inspired policies substituting for unionization where unions are already present. Having accounted for all these factors, free-riding remains more common in New Zealand than in Britain.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0713.pdf

Changes in Returns to Education in Latin America: the Role of Demand and Supply of Skills

Marco Manacorda Carolina Sanchez-Paramo Norbert Schady

CEPDP0712. December 2005.Changes in the relative wages of workers with different amounts of education have profound implications for developing countries, where initial levels of inequality are often very high. In this paper we use micro data for five Latin American countries over the 1980s and 1990s to document trends in men's returns to education, and to estimate whether the changes in skill premia we observe can be explained by supply or demand factors. We propose a model of demand for skills with three production inputs, and we allow the elasticity of substitution between the different educational inputs to be different using a nested CES function. Using this model, we show that the dramatic expansion in secondary school in many countries in Latin America depressed the wages of workers with secondary school. We also show that there have been sharp increases in the demand for more skilled workers in the region.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0712.pdf

Unequal Pay or Unequal employment? A Cross-Country Analysis of Gender Gaps

Claudia Olivetti Barbara Petrongolo

CEPDP0711. December 2005.There is evidence of a negative cross-country correlation between gender wage and employment gaps. We argue that non-random selection of women into work explains an important part of such correlation and thus of the observed variation in wage gaps. The idea is that, if women who are employed tend to have relatively high-wage characteristics, low female employment rates may become consistent with low gender wage gaps simply because low-wage women would not feature in the observed wage distribution. We explore this idea across the US and EU countries estimating gender gaps in potential wages. We recover information on wages for those not in work in a given year using alternative imputation techniques. Imputation is based on (i) wage observations from nearest available waves in the sample, (ii) observable characteristics of the nonemployed and (iii) a statistical repeated-sampling model. We then estimate median wage gaps on the resulting imputed wage distributions, thus simply requiring assumptions on the position of the imputed wage observations with respect to the median, but not on their level. We obtain higher median wage gaps on imputed rather than actual wage distributions for most countries in the sample. However, this difference is small in the US, the UK and most central and northern EU countries, and becomes sizeable in Ireland, France and southern EU, all countries in which gender employment gaps are high. In particular, correction for employment selection explains more than a half of the observed correlation between wage and employment gaps.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0711.pdf

Apprenticeship in Europe: 'Fading' or Flourishing?

Hilary Steedman

CEPDP0710. December 2005.This paper sets out the extent and defining characteristics of apprenticeship in Europe. Apprenticeship is then situated within the wider context of European provision for education and training of 16-19 year olds and a simple typology is proposed and explained. The German-speaking dual system countries are characterised as high employer commitment countries with minimal integration of apprenticeship into full-time 16-19 provision and weak links with tertiary education. The UK, the Netherlands and France are characterised as having relatively low levels of employer commitment but greater integration of apprenticeship into full-time provision and stronger links between apprenticeship and tertiary level provision. Recent evidence on the extent to which both apprenticeship models improve employment probabilities is reviewed and pressures on the two apprenticeship models resulting from increasingly competitive global markets and consequent changing skill needs are examined. A final section discusses whether apprenticeship in Europe can adapt to and survive these pressures.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0710.pdf

Agricultural Returns and Conflict: Quasi-Experimental Evidence from a Policy Intervention Programme in Rwanda

Florence Kondylis

CEPDP0709. December 2005.In 1997 Rwanda introduced a re-settlement policy for refugees displaced during previous conflicts. We exploit geographic variation in the speed of implementation of this policy to investigate the impact of conflict-induced displacement and the re-settlement policy on household agricultural output and on skill spill-over mechanisms between returnees and stayers. We find that returns to on-farm labour are higher for returnees relative to stayers, although the evidence suggests that the policy contributed little additional effect to this differential. More speculatively, these differentials suggest that, upon return from conflictinduced exile, returnees are more motivated to increase their economic performance.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0709.pdf

Chinese Unions: Nugatory or Transforming? An 'Alice' Analysis

Jianwei Li David Metcalf

CEPDP0708. December 2005.China has, apparently, more trade union members than the rest of the world put together. But the unions do not function in the same way as western trade unions. In particular Chinese unions are subservient to the Partystate. The theme of the paper is the gap between rhetoric and reality. Issues analysed include union structure, membership, representation, new laws (e.g. promoting collective contracts), new tripartite institutions and the interaction between unions and the Party-state. We suggest that Chinese unions inhabit an Alice in Wonderland dream world. In reality although Chinese unions do have many members (though probably not as many as the official 137 million figure) they are virtually impotent when it comes to representing workers. Because the Party-state recognises that such frailty may lead to instability it has passed new laws promoting collective contracts and established new tripartite institutions to mediate and arbitrate disputes. While such laws are welcome they are largely hollow: collective contracts are very different from collective bargaining and the incidence of cases dealt with by the tripartite institutions is tiny. Much supporting evidence is presented drawing on detailed case studies undertaken in Hainan Province (the first and largest special economic zone) in 2004 and 2005. The need for more effective representation is appreciated by some All China Federation of Trade Unions (ACFTU) officials. But reasonable reforms do seem a long way off, so unions in China will continue to echo the White Queen: “The rule is, jam tomorrow and jam yesterday – but never jam today” and, alas, tomorrow never comes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0708.pdf

Superstars and Renaissance Men: Specialization, Market Size and the Income Distribution

Richard Walker

CEPDP0707. November 2005.A general equilibrium model of individual specialization is presented in which agents trade off the productivity and price implications of producing a narrower range of goods. Agents with highly specific skills turn out to benefit most from large markets. The model is able to replicate features of the long-term evolution of the US income distribution, with specialization-biased technical change and the increase in employed population playing key roles. Among the results is that, at least along one dimension of ability, the skill premium is increasing in the relative supply of skills.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0707.pdf

Volatility and Development

Miklos Koren Silvana Tenreyro

CEPDP0706. November 2005.Why is GDP growth so much more volatile in poor countries than in rich ones? We identify four possible reasons: (i) poor countries specialize in more volatile sectors; (ii) poor countries specialize in fewer sectors; (iii) poor countries experience more frequent and more severe aggregate shocks (e.g. from macroeconomic policy); and (iv) poor countries' macroeconomic fluctuations are more highly correlated with the shocks of the sectors they specialize in. We show how to decompose volatility into these four sources, quantify their contribution to aggregate volatility, and study how they relate to the stage of development. We document the following regularities. First, as countries develop, their productive structure moves from more volatile to less volatile sectors. Second, the level of specialization declines with development at early stages, and slowly increases at later stages of development. Third, the volatility of country-specific macroeconomic shocks falls with development. Fourth, the covariance between sector-specific and country-specific shocks does not vary systematically with the level of development. We argue that many theories linking volatility and development are not consistent with these findings and suggest new directions for future theoretical work.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0706.pdf

The De-Collectivisation of Pay Setting in Britain 1990-1998: Incidence, Determinants and Impact

A Charlwood

CEPDP0705. October 2005.Overall, collective bargaining coverage has dropped by around fourteen percentage points. This paper investigates the causes and consequences of the decline in collective bargaining in Britain between 1990 and 1998. One in three workplaces that practiced collective bargaining in 1990 had abandoned it by 1998 and the incidence and coverage of collective bargaining in newer workplaces was lower than in the workplaces they replaced. The abandonment of collective bargaining was not associated with an increase in individualised payment mechanisms or with the use of ‘high involvement’ HRM practices. Workplaces that abandoned bargaining reported less impressive productivity gains than other workplaces. Male wage inequality rose as a result of the decline of bargaining coverage and of weaker unions where collective bargaining remained. Higher levels of job creation in workplaces that abandoned collective bargaining balance these negative outcomes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0705.pdf

Evaluating the Economic Significance of Downward Nominal Wage Rigidity

Michael W. L. Elsby

CEPDP0704. August 2005.This paper seeks to contribute to the literature on downward nominal wage rigidity (DNWR) along two dimensions. First, we formulate and solve an explicit model of wage-setting in the presence of worker resistance to nominal wage cuts - something that has previously been considered intractable. In particular, we show that this resistance renders wage increases (partially) irreversible. Second, using this model, we can explain why previous estimates of the macroeconomic effects of DNWR have been so weak despite remarkably robust microeconomic evidence. In particular, we show that previous studies have neglected the possibility that DNWR can lead to a compression of wage increases as well as decreases. Thus, the literature may have been overstating the costs of DNWR to firms. Using micro-data for the US and Great Britain, we find robust evidence in support of the predictions of the model. In the light of this evidence, we conclude that increased wage pressure due to DNWR may not be as large as previously envisaged, but that the data is nevertheless consistent with a model in which workers resist nominal wage cuts.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0704.pdf

Performance Pay for Teachers: Linking Individual and Organisational Level Targets

Richard Belfield David Marsden

CEPDP0703. August 2005.The introduction of performance-related pay and performance management schemes in the maintained, state, school sector represents a considerable change in the school management system. This paper combines the results of opinion surveys of classroom and head teachers with Department for Education and Skills school performance data to consider the operation and impact of the new system in England since 2000. We find that teachers’ response to the new system closely resembles that of other groups of public service workers to similar schemes. In particular, teachers appear not to be greatly motivated by the financial-incentive element of the system. However, the goal-setting and appraisal aspect of the system is steadily establishing itself in schools, and seems to be giving rise to a better alignment of teacher and school objectives and with those of nationallevel policy objectives. We present tentative evidence that improvements in goal setting within schools are positively related to rising pupil academic performance.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0703.pdf

The Growth of Network Computing: Quality Adjusted Price Changes for Network Servers

John Van Reenen

CEPDP0702. July 2005.In this paper we investigate the evolution of quality adjusted prices for servers motivated by two facts. First, the productivity acceleration in the US economy since the mid 1990s is closely linked to spread of information technology of which networked computing is a large component. Second, the growth of network computing itself has been fostered by the rapid growth in the quality and quantity of the network server market. Like Pakes’ (2003) analysis of the PC market, we show that our preferred version of the hedonic price index (“complete hybrid”) fell much more rapidly than the standard “matched model” price index (the hedonic index fell on average by about 30% per annum compared to 17% p.a. for the matched model). This difference is mainly due to the selection bias in the standard matched model price index due to the exit of obsolete models which would have had the fastest price falls.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0702.pdf

The Log of Gravity

Joao Santos Silva Silvana Tenreyro

CEPDP0701. July 2005.Although economists have long been aware of Jensen's inequality, many econometric applications have neglected an important implication of it: the standard practice of interpreting the parameters of log-linearized models estimated by ordinary least squares as elasticities can be highly misleading in the presence of heteroskedasticity. This paper explains why this problem arises and proposes an appropriate estimator. Our criticism to conventional practices and the solution we propose extends to a broad range of economic applications where the equation under study is log-linearized. We develop the argument using one particular illustration, the gravity equation for trade, and apply the proposed technique to provide new estimates of this equation. We find significant differences between estimates obtained with the proposed estimator and those obtained with the traditional method. These discrepancies persist even when the gravity equation takes into account multilateral resistance terms or fixed effects

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0701.pdf

The Gender Gap in Early Career Wage Growth

Alan Manning Joanna Swaffield

CEPDP0700. July 2005.In the UK the gender pay gap on entry to the labour market is approximately zero but after ten years after labour market entry, there is a gender wage gap of almost 25 log points. This paper explores the reason for this gender gap in early-career wage growth, considering three main hypotheses - human capital, job-shopping and ‘psychological’ theories. Human capital factors can explain about 12 log points, job-shopping about 1.5 log points and the psychological theories about half a log point. But a substantial unexplained gap remains: women who have continuous full-time employment, have had no children and express no desire to have them earn about 12 log points less than equivalent men after 10 years in the labour market.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0700.pdf

Products and Productivity

Andrew B. Bernard Stephen Redding Peter K. Schott

CEPDP0699. July 2005.Firms' decisions about which goods to produce are often made at a more disaggregate level than the data observed by empirical researchers. When products differ according to production technique or the way in which they enter demand, this data aggregation problem introduces a bias into standard measures of firm productivity. We develop a theoretical model of heterogeneous firms endogenously self-selecting into heterogeneous products. We characterize the bias introduced by unobserved variation in product mix across firms, and the implications of this bias for identifying firm and industry responses to exogenous policy shocks such as deregulation. More generally, we demonstrate that product switching gives rise to a richer set of industry-level dynamics than models where firm product mix remains fixed.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0699.pdf

Ex Post Versus Ex Ante Measures of the User Cost of Capital

Nicholas Oulton

CEPDP0698. July 2005.When doing growth accounting, should we use ex post or ex ante measures of user costs to calculate the contribution of capital? The answer, based on a simple model of temporary equilibrium, is that ex post is better in theory. In practice researchers usually calculate ex post user costs by assuming that the rate of return is equalised across assets. But this is only true if expectations are correct. A numerical example shows that either ex ante or ex post can be closer to the true measure, depending on the parameters. I propose a hybrid method that makes use of elements of both approaches. I test this and the other methods using data for 31 UK industries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0698.pdf

You Can't Always Get What You Want: the Impact of the Jobseeker's Allowance

Alan Manning

CEPDP0697. July 2005.In 1996 the UK made major changes to its welfare system for the support of the unemployed with the introduction of the Jobseeker’s Allowance. This tightened the work search requirements needed for eligibility for benefit. It resulted in large flows out of claimant status, but, this paper concludes, not into employment. The movement out of claimant status was largest for those with low levels of search activity. But, this paper finds no evidence of increased job search activity as a result of this change.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0697.pdf

Factor Price Equality and the Economies of the United States

Andrew B. Bernard Stephen Redding Peter K. Schott

CEPDP0696. July 2005.We develop a methodology for identifying departures from relative factor price equality across regions that is valid under general assumptions about production, markets and factors. Application of this methodology to the United States reveals substantial and increasing deviations in relative skilled wages across labor markets in both 1972 and 1992. These deviations vary systematically with labor markets industry structure both in cross section and over time.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0696.pdf

Cities in the Developing World

Henry Overman Anthony J. Venables

CEPDP0695. July 2005.Rapid urbanisation is a major feature of developing countries. Some 2 billion more people are likely to become city residents in the next 30 years, yet urbanisation has received little attention in the modern development economics literature. This paper reviews theoretical and empirical work on the determinants and effects of urbanisation. This suggests that there are substantial productivity benefits from cities, although unregulated outcomes may well lead to excessive primacy as externalities and coordination failures inhibit decentralisation of economic activity. Policy should operate both by identifying and addressing these market failures, and by seeking to remove institutional obstacles to decentralisation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0695.pdf

The Importance of the Wording of the ECB

Carlo Rosa Giovanni Verga

CEPDP0694. June 2005.This paper analyses the ECB communication, focusing in particular on its transparency dimension. We posit that if the ECB is transparent about its future policy decisions, then we should be able to forecast fairly well its future interest rate setting behaviour. We find that the predicting ability of the European monetary authority’s words, is similar to the one implied by market-based measures of monetary policy expectations. Moreover, the ECB’s wording provides complementary, rather than substitute, information with respect to economic and monetary variables.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0694.pdf

The Employment Effects of the October 2003 Increase in the National Minimum Wage

Richard Dickens Mirko Draca

CEPDP0693. June 2005.There is a growing body of research that measures employment effects of the minimum wage by using longitudinal data on individuals to compare job loss of workers affected by a minimum wage increase with those who are not directly affected. This sort of study requires good quality wage data in order to clearly identify these treatment and control groups. Much of the evidence on the impact of the UK minimum wage uses this technique with poor quality wage data. This paper examines the impact of the October 2003 increase in the National Minimum Wage (NMW) using a much better measure of the wage. We find insignificant negative effects on the employment retention rates of all adults and, most notably, male workers. Analysis of the probability of employment retention across different hourly wage rates also show how sensitive this methodology can be to different definitions of the treatment and control group.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0693.pdf

Productivity Dispersion, Competition and Productivity Measurement

Ralf Martin

CEPDP0692. May 2005.A startling fact of firm level productivity analysis is the large and persistent differences in both labour productivity and total factor productivity (TFP) between firms in narrowly defined sectoral classes. The competitiveness of an industry is potentially an important factor explaining this productivity dispersion. The degree of competition has also implications for the measurement of TFP at the firm level. This paper firstly develops a novel control function approach to production function and TFP estimation explicitly taking imperfect competition into account. This addresses a number of issues with the control function approach to productivity estimation. Secondly, applying this new approach to UK data it shows that productivity dispersion on average is about 50 percent higher than with standard TFP measures. It also shows that accounting for imperfect competition matters for estimates of the persistence of TFP. Thirdly, the paper finds a negative relationship between competition and productivity dispersion.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0692.pdf

Immigrants at Retirement: Stay/Return or 'Va-et-Vient'

Francois-Charles Wolff Augustin de Coulon

CEPDP0691. May 2005.where labour considerations no longer matter, the location decisions are expected to depend not only on a comparison of standard-of-living between the origin and host countries, but should also be affected by the strength of family relationships. Assuming that migrants derive some satisfaction from contact and visits with other family members, we suggest that migrants may choose a third type of migration move beyond the standard stay/return decision called the ‘va-et-vient’ where individuals choose to share their time across the host and the origin country. In the empirical analysis, we test the determinants of the location intention at retirement using a recent data set on migrants currently living in France. We found that the migrant’s choice is significantly related to the location of other family members and that those determinants vary with respect to the different preferred choices.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0691.pdf

Labor and the Market Value of the Firm

Monika Merz Eran Yashiv

CEPDP0690. May 2005.What role does labor play in a firm’s market value? We explore this question using a production-based asset pricing model with frictions in the adjustment of both capital and labor. We posit that hiring of labor is akin to investment in capital and that the two interact, with the interaction being a crucial determinant of the time series behavior of market value. We use aggregate U.S. corporate sector data to estimate firms' optimal hiring and investment decisions and the consequences for firms' value. The model generates a good fit of the data. We decompose the estimated market value, thereby quantifying the link between firms' value and gross hiring flows, employment, gross investment flows, and physical capital. We find that a conventional specification -- quadratic adjustment costs for capital and no hiring costs -- performs poorly. Hiring and investment flows, unlike employment and capital stocks, are volatile and both are essential to account for market value volatility. A key result is that firms' value embodies the value of hiring and investment over and above the capital stock.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0690.pdf

Agglomeration and the Adjustment of the Spatial Economy

Pierre-Philippe Combes Gilles Duranton Henry Overman

CEPDP0689. May 2005.We consider the literatures on urban systems and New Economic Geography to examine questions concerning agglomeration and how areas respond to shocks to the economic environment. We first propose a diagrammatic framework to compare the two approaches. We then use this framework to study a number of extensions and to consider several policy relevant issues.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0689.pdf

The Costs of Remoteness: Evidence from German Division and Reunification

Stephen Redding Daniel M. Sturm

CEPDP0688. May 2005.This paper exploits the division of Germany after the Second World War and the reunification of East and West Germany in 1990 as a natural experiment to provide evidence of the importance of market access for economic development. In line with a standard new economic geography model, we find that following division cities in West Germany that were close to the new border between East and West Germany experienced a substantial decline in population growth relative to other West German cities. We provide several pieces of evidence that the decline of the border cities can be entirely accounted for by their loss in market access and is neither driven by differences in industrial structure nor differences in the degree of warrelated destruction. Finally, we also find some first evidence of a recovery of the border cities after the re-unification of East and West Germany.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0688.pdf

How Does Product Market Competition Shape Incentive Contracts?

Vicente Cuñat María Guadalupe

CEPDP0687. May 2005.This paper studies the effect of product market competition on the explicit compensation packages that firms offer to their CEOs, executives and workers. We use a large sample of both traded and non-traded UK firms and exploit a quasi-natural experiment associated to an increase in competition. The sudden appreciation of the pound in 1996 implied different changes in competition for sectors with different degrees of openness. Our difference in differences estimates show that a higher level of product market competition increases the performance pay sensitivity of compensation schemes, in particular for executives.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0687.pdf

Product Market Competition Returns to Skill and Wage Inequality

María Guadalupe

CEPDP0686. May 2005.This paper shows that increasing product market competition can have a direct impact on the employment relationship and on wage inequality. I develop a simple model in which an increase in product market competition increases returns to skill through the effect of competition on the sensitivity of profits to cost reductions. I then show empirically that relative wages increase with competition using a large panel of United Kingdom workers with complete work histories. I identify the impact of competition on returns to skill in the panel, using two exogenous measures of competition provided by two quasi-natural experiments. Quantile regressions indicate that increased competition also raised returns to unobserved ability.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0686.pdf

New Survey Evidence on Recent Changes in UK Union Recognition

Jo Blanden Stephen Machin John Van Reenen

CEPDP0685. May 2005.This paper reports results from a recent survey we conducted on the union status of over 650 firms in the private sector of the UK. Compared to earlier periods, the survey shows that since 1997 there has been a slight fall in derecognition, but a relatively large increase in union recognition. Almost 11% of firms report experiencing some new recognition, whilst 7% reported some derecognition. In the late 1980s new recognitions among similar firms were much lower (3% between 1985 to 1990 according to Gregg and Yates, 1991). In our survey, new recognitions were more prevalent in larger firms and in regions and industries where union membership was already high. New recognitions were less likely to have occurred in companies with higher wages, higher productivity and higher capital intensity. The ‘blip up’ in new recognitions is consistent with the idea that the incoming Labour government had a positive effect on the ability of unions to gain recognition, either through the 1999 legislation or more indirectly through changing the political climate.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0685.pdf

Capital Mobility and Unemployment Dynamics: Evidence from a Panel of OECD Countries

Giovanna Vallanti

CEPDP0684. April 2005.We use a panel of 20 OECD countries over a 30-year period to estimate the implications of international capital mobility for unemployment. We find that the increase in capital flows since the mid1980s has contributed to an amplification of the impulse response of unemployment to country-specific shocks and to a fall in the persistence of unemployment in response to the same shocks.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0684.pdf

Rising Trade Costs? Agglomeration and Trade with Endogenous Transaction Costs

Gilles Duranton Michael Storper

CEPDP0683. April 2005.While transport costs have fallen, the empirical evidence also points at rising total trade costs. In a model of industry location with endogenous transaction costs, we show how and under which conditions a decline in transport costs can lead to an increase in the total cost of trade.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0683.pdf

Is ECB Communication Effective?

Carlo Rosa Giovanni Verga

CEPDP0682. April 2005.In its Monthly Bulletin of November 2002, the European Central Bank (ECB) stated that the monthly press conference held by its President represents one of its most important communication channels and that it provides a comprehensive summary of the policy relevant assessment of economic developments. After providing a glossary to translate the qualitative information of the press conferences into an ordered scale, we verify empirically whether and to what extent market expectations react to the information released by the ECB. We found that the public not only understand but also believe the signals sent by the European monetary authority.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0682.pdf

Productivity Growth and the Role of ICT in the United Kingdom: An Industry View, 1970-2000

Nicholas Oulton Sylaja Srinivasan

CEPDP0681. March 2005.We use a new industry-level dataset to quantify the role of ICT in explaining productivity growth in the UK, 1970-2000. The dataset is for 34 industries covering the whole economy (31 in the market sector). Using growth accounting, we find that ICT capital played an increasingly important, and in the 1990s the dominant, role in accounting for labour productivity growth in the market sector. Econometric evidence also supports an important role for ICT. We also find econometric evidence that a boom in complementary investment in the 1990s could have led to a decline in the conventional measure of TFP growth.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0681.pdf

Crime and Police Resources: The Street Crime Initiative

Stephen Machin Olivier Marie

CEPDP0680. March 2005.In this paper we look at links between police resources and crime in a different way to the existing economics of crime work. To do so we focus on a policy intervention - the Street Crime Initiative - that was introduced in England and Wales in 2002. This allocated additional resources to some police force areas to combat street crime, whereas other forces did not receive any additional funding. Estimates derived from several empirical strategies show that robberies did fall significantly in SCI police forces relative to non-SCI forces after the initiative was introduced. Moreover, the policy seems to have been a cost effective one. There is some heterogeneity in this positive net social benefit across different SCI police forces, suggesting that some police forces may have made better use of the extra resources than others. Overall, we reach the conclusion that increased police resources do in fact lead to lower crime, at least in the context of the SCI programme we study.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0680.pdf

The Part-Time Pay Penalty

Alan Manning Barbara Petrongolo

CEPDP0679. March 2005.In 2003, women working part-time in the UK earned, on average, 22% less than women working full-time. Compared to women who work FT, PT women are more likely to have low levels of education, to be in a couple, to have young and numerous children, to work in small establishments in distribution, hotels and restaurants and in low-level occupations. Taking account of these differences, the PT penalty for identical women doing the same job is estimated to be about 10% if one does not take account of differences in the occupations of FT and PT women and 3% if one does. The occupational segregation of PT and FT women can explain most of the aggregate PT pay penalty. In particular, women who move from FT to PT work are much more likely to change employer and/or occupation than those who maintain their hours status. And, when making this transition, they tend to make a downward occupational move, evidence that many women working PT are not making full use of their skills and experience. Women working PT in the other EU countries have similar problems to the UK but the UK has the highest PT pay penalty and one of the worst problems in enabling women to move between FT and PT work without occupational demotions. At the same time, PT work in the UK carries a higher job satisfaction premium (or a lower job satisfaction penalty) than in most other countries. Policy initiatives in recent years like the National Minimum Wage, the Part-Time Workers Regulations and the Right to Request Flexible Working appear to have had little impact on the PT pay penalty as yet although it is too early to make a definitive assessment of the full impact of some of these regulations. The most effective way to reduce the PT pay penalty would be to strengthen rights for women to move between FT and PT work without losing their current job.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0679.pdf

Job Security and Job Protection

Andrew Clark Fabien Postel-Vinay

CEPDP0678. February 2005.We construct indicators of the perception of job security for various types of jobs in 12 European countries using individual data from the European Community Household Panel (ECHP). We then consider the relation between reported job security and OECD summary measures of Employment Protection Legislation (EPL) strictness on one hand, and Unemployment Insurance Benefit (UIB) generosity on the other. We find that, after controlling for selection into job types, workers feel most secure in permanent public sector jobs, least secure in temporary jobs, with permanent private sector jobs occupying an intermediate position. We also find that perceived job security in both permanent private and temporary jobs is positively correlated with UIB generosity, while the relationship with EPL strictness is negative: workers feel less secure in countries where jobs are more protected. These correlations are absent for permanent public jobs, suggesting that such jobs are perceived to be by and large insulated from labor market fluctuations.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0678.pdf

Evaluating the Performance of the Search and Matching Model

Eran Yashiv

CEPDP0677. February 2005.Does the search and matching model fit aggregate U.S. labor market data? While the model has become an important tool of macroeconomic analysis, recent literature pointed to some failures in accounting for the data. This paper aims to answer two questions: (i) Does the model fit the data, and, if so, on what dimensions? (ii) Does the data “fit” the model, i.e. what are the data which are relevant to be explained by the model? The analysis shows that the model does fit certain specifications of the data on many dimensions, though not on all. This includes capturing the high persistence and high volatility of most of the key variables, as well as the negative co-variation of unemployment and vacancies. It offers a workable, empirically-grounded version of the model for the analysis of aggregate U.S. labor market dynamics. The paper provides macroeconomists guidance concerning the relevant “building block” for modelling the labor market, both in terms of the model and in terms of the data.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0677.pdf

Catching a Wave: the Adoption of Voice and High Commitment Workplace Practices in Britain: 1984-1998

Alex Bryson Rafael Gomez Tobias Kretschmer

CEPDP0676. February 2005.In this paper we treat workplace voice and systems of high-commitment human resource management (HCHRM) as technological innovations in order to account for the uneven diffusion patterns observed across establishments. Using British data, the paper finds that variables highlighted in the technological diffusion literature are significant predictors of voice and HRM adoption decisions. Workplace size, size of multi-establishment network, ownership type, set-up date and network affects all play a significant role in high-commitment HRM adoption. We also find that union presence, per se, is not an inhibitor to the adoption of high commitment HRM practices.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0676.pdf

Identifying Technology Spillovers and Product Market Rivalry

Nicholas Bloom Mark Schankerman John Van Reenen

CEPDP0675. February 2005.The impact of R&D on growth through spillovers has been a major topic of economic research over the last thirty years. A central problem in the literature is that firm performance is affected by two countervailing “spillovers”: a positive effect from technology (knowledge) spillovers and negative business stealing effects from product market rivals. We develop a general framework incorporating these two types of spillovers and implement this model using measures of a firm’s position in technology space and product market space. Using panel data on U.S. firms we show that technology spillovers quantitatively dominate, so that the gross social returns to R&D are at least twice as high as the private returns. We identify the causal effect of R&D spillovers by using changes in Federal and state tax incentives for R&D. We also find that smaller firms generate lower social returns to R&D because they operate more in technological niches. Finally, we detail the desirable properties of an ideal spillover measure and how existing approaches, including our new Mahalanobis measure, compare to these criteria.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0675.pdf

The Impact of Training on Productivity and Wages: Evidence from British Panel Data

Lorraine Dearden Howard Reed John Van Reenen

CEPDP0674. February 2005.It is standard in the literature on training to use wages as a sufficient statistic for productivity. But there are many reasons why wages and productivity may diverge. This paper is part of a smaller literature on the effects of work-related training on direct measures of productivity. We construct a panel of British industries between 1983 and 1996 containing training, productivity and wages. Using a variety of econometric estimation techniques (including system GMM) we find that training is associated with significantly higher productivity. Raising the proportion of workers trained in an industry by one percentage point (say from the average of 10% to 11%) is associated with an increase in value added per worker of about 0.6% and an increase in wages of about 0.3%. Furthermore, we find that the magnitude of the impact of training on wages is only half as large as the impact of training on productivity, implying that the existing literature has underestimated the importance of training. We also show evidence using complementary datasets (e.g. from individuals) that is suggestive of externalities of training and imperfect competition.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0674.pdf

Inactivity Among Prime Age Men in the UK

Giulia Faggio Stephen Nickell

CEPDP0673. February 2005.Inactivity rates among prime-age men in the UK have risen by at least five times since the early 1970s whereas unemployment rates are much the same. Furthermore, inactivity is strongly concentrated among the unskilled and those suffering from a limiting long-term illness or disability. In our analysis of inactivity rates by region and age group we find that male inactivity responds negatively to variations in the wages of low level occupations and positively to fluctuations in incapacity benefit.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0673.pdf

Multinationals and US Productivity Leadership: Evidence from Great Britain

Chiara Criscuolo Ralf Martin

CEPDP0672. January 2005.We study the productivity of US owned plants in the UK. Using a new dataset that identifies foreign and domestic MNEs, we find that UK MNEs are less productive than US affiliates, but as productive as non US foreign affiliates. We investigate the source of the US and MNE advantage. We find evidence confirming that the MNE advantage is driven by sharing superior firm level assets across plants and by cherry picking the better plants in a country. The additional superiority of US firms seems entirely driven by their particular ability to takeover the best British plants. Thirdly, the study features a novel approach to TFP calculation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0672.pdf

Profit Share and Returns on Capital Stock in Italy: the Role of Privatisations behind the Rise of the 1990s

Roberto Torrini

CEPDP0671. January 2005.Profit share in Italy has been growing between the mid-1970s and the mid-1990s, remaining stable at historically high levels since than. After dropping in the first half of the 1070s, owing to an unprecedented rapid rise in wages, profit share started to recover. The rise during the 1980s involved the entire business sector and was part of this recovery process. During the 1990s profit share continued to grow on average, but with large cross-sector differences. Profit share in manufacturing, which is more exposed to international competition, declined, together with the returns on capital stock, but increased in the rest of the business sector. We show that the better performance of the non-manufacturing business sector is mainly due to the industries most affected by the large-scale privatisations and restructuring of State-owned companies that began in the first half of the 1990s. They led to a rapid growth in total factor productivity and a deceleration in wages, without a major impact on the market power of privatised companies, even those previously in the position of incumbent monopolists. Our evidence for Italy thus strongly supports the hypothesis that profit share growth during the 1990s, which was also observed in other countries, was mainly due to a redistribution of rents rather than to biased technological change.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0671.pdf

Fiscal Discipline and the Cost of Public Debt Service: Some Estimates for OECD Countries

Silvia Ardagna Francesco Caselli Timothy Lane

CEPDP0670. January 2005.We use a panel of 16 OECD countries over several decades to investigate the effects of government debts and deficits on long-term interest rates. In simple static specifications, a one-percentage-point increase in the primary deficit relative to GDP increases contemporaneous long-term interest rates by about 10 basis points. In a vector autoregression (VAR), the same shock leads to a cumulative increase of almost 150 basis points after 10 years. The effect of debt on interest rates is non-linear: only for countries with above-average levels of debt does an increase in debt affect the interest rate. World fiscal policy is also important: an increase in total OECD-government borrowing increases each country’s interest rates. However, domestic fiscal policy continues to affect domestic interest rates even after controlling for worldwide debts and deficits.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0670.pdf

Can Comparative Advantage Explain the Growth of US Trade?

Alejandro Cuñat Marco Maffezzoli

CEPDP0669. January 2005.We present a dynamic comparative advantage model in which moderate reductions in trade costs can generate sizable increases in trade volumes over time. A fall in trade costs has two effects on the volume of trade. First, for given factor endowments, it raises the degree of specialization of countries, leading to a larger volume of trade in the short run. Second, it raises the factor price of each country’s abundant production factor, leading to diverging paths of relative factor endowments across countries and a rising degree of specialization. A simulation exercise shows that a fall in trade costs over time produces a non-linear increase in the trade share of output as in the data. Even when elasticities of substitution are not particularly high, moderate reductions in trade costs lead to large trade volumes over time. We present further empirical evidence in favour of our approach, documenting the link between trade liberalization and the cross-country divergence of investment shares.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0669.pdf

Is Poland the Next Spain?

Francesco Caselli Silvana Tenreyro

CEPDP0668. January 2005.We revisit Western Europe’s record with labor-productivity convergence, and tentatively extrapolate its implications for the future path of Eastern Europe. The poorer Western European countries caught up with the richer ones through both higher rates of physical capital accumulation and greater total factor productivity gains. These (relatively) high rates of capital accumulation and TFP growth reflect convergence along two margins. One margin (between industry) is a massive reallocation of labor from agriculture to manufacturing and services, which have higher capital intensity and use resources more efficiently. The other margin (within industry) reflects capital deepening and technology catchup at the industry level. In Eastern Europe the employment share of agriculture is typically quite large, and agriculture is particularly unproductive. Hence, there are potential gains from sectoral reallocation. However, quantitatively the between-industry component of the East’s income gap is quite small. Hence, the East seems to have only one real margin to exploit: the within industry one. Coupled with the fact that within-industry productivity gaps are enormous, this suggests that convergence will take a long time. On the positive side, however, Eastern Europe already has levels of human capital similar to those of Western Europe. This is good news because human capital gaps have proved very persistent in Western Europe’s experience. Hence, Eastern Europe does start out without the handicap that is harder to overcome.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0668.pdf

Accounting for Cross-Country Income Differences

Francesco Caselli

CEPDP0667. January 2005.Why are some countries so much richer than others? Development Accounting is a first-pass attempt at organizing the answer around two proximate determinants: factors of production and efficiency. It answers the question “how much of the cross-country income variance can be attributed to differences in (physical and human) capital, and how much to differences in the efficiency with which capital is used?” Hence, it does for the cross-section what growth accounting does in the time series. The current consensus is that efficiency is at least as important as capital in explaining income differences. I survey the data and the basic methods that lead to this consensus, and explore several extensions. I argue that some of these extensions may lead to a reconsideration of the evidence.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0667.pdf

Designing Target Rules for International Monetary Policy Cooperation

Gianluca Benigno Pierpaolo Benigno

CEPDP0666. December 2004.This study analyzes a two-country dynamic general equilibrium model with nominal rigidities, monopolistic competition and producer currency pricing. A quadratic approximation to the utility of the consumers is derived and assumed as the policy objective function of the policymakers. It is shown that only under special conditions there are no gains from cooperation and moreover that the paths of the exchange rate and prices in the constrained-efficient solution depend on the kind of disturbance that affects the economy. It might be the case either for fixed or floating exchange rates. Despite this result, simple targeting rules that involve only targets for the growth of output and for both domestic GDP and CPI inflation rates can replicate the cooperative allocation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0666.pdf

Entrepreneurship: Can the Jack-of-All-Trades Attitude be Aquired?

Olmo Silva

CEPDP0665. December 2004.Entrepreneurs are believed to be the ultimate engine of modern economic systems. Yet, the study of entrepreneurship suffers from the lack of consensus on the most crucial question: what makes an entrepreneur? A recent theory developed by Edward Lazear suggests that individuals mastering a balanced set of talents across different fields, i.e. the Jacks-of-All-Trades (JATs), have a high probability of becoming entrepreneurs. In this paper, I investigate whether the JAT Attitude is just an innate ability or a skill that can be trained to enhance individuals’ chances of becoming entrepreneurs. Using panel techniques, I show that changes in the spread of knowledge across different fields do not increase the probability of becoming an entrepreneur. This suggests that, if the JAT Attitude matters for entrepreneurship, it is an innate and time-invariant individual attribute, rather than a skill that can be acquired.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0665.pdf

Sinking the Blues: the Impact of Shop Closing Hours on Labor and Product Markets

Maarten Goos

CEPDP0664. December 2004.There is a growing consensus among economists that extending shop opening hours creates jobs. While this is probably true in deregulating industries, this paper argues there are some deficiencies in the existing hypotheses about how exactly deregulation affects employment. First, this paper exploits recent changes in Sunday Closing Laws in the US to find that total employment, total revenue and the number of shops increase in deregulating industries and possibly decrease in non-deregulating industries. Second, a model assuming consumers like shopping on Sunday, monopolistic competition and low barriers to entry is presented to show how consumer behavior and retail competition can explain the observed impact of deregulation on retail labor and product markets and therefore ultimately employment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0664.pdf

Productivity Growth and Employment: Theory and Panel Estimates

Christopher A. Pissarides Giovanna Vallanti

CEPDP0663. December 2004.Theoretical predictions of the effect of TFP growth on employment are ambiguous, and depend on the extent to which new technology is embodied in new jobs. We estimate a model for employment, wages and investment with an annual panel for the United States, Japan and Europe and find that TFP growth increases employment. For the United States TFP growth explains the trend change in unemployment. We evaluate the model and find that creative destruction plays no part in aggregate unemployment dynamics. The model can explain up to half of the estimated impact of growth on unemployment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0663.pdf

Financial Globalization and Exchange Rates

Philip R. Lane G Milesi-Feretti

CEPDP0662. December 2004.The founders of the Bretton Woods System sixty years ago were primarily concerned with orderly exchange rate adjustment in a world economy that was characterized by widespread restrictions on international capital mobility. In contrast, the rapid pace of financial globalization during recent years poses new challenges for the international monetary system. In particular, large gross cross-holdings of foreign assets and liabilities means that the valuation channel of exchange rate adjustment has grown in importance, relative to the traditional trade balance channel. Accordingly, this paper empirically explores some of the inter-connections between financial globalization and exchange rate adjustment and discusses the policy implications.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0662.pdf

Do Job Security Guarantees Work?

Alex Bryson Lorenzo Cappellari Claudio Lucifora

CEPDP0661. November 2004.We investigate the effect of employer job security guarantees on employee perceptions of job security. Using linked employer-employee data from the 1998 British Workplace Employee Relations Survey, we find job security guarantees reduce employee perceptions of job insecurity. This finding is robust to endogenous selection of job security guarantees by employers engaging in organisational change and workforce reductions. Furthermore, there is no evidence that increased job security through job guarantees results in greater work intensification, stress, or lower job satisfaction.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0661.pdf

Unions, Performance-Related Pay and Procedural Justice: the Case of Classroom Teachers

Richard Belfield David Marsden

CEPDP0660. November 2004.Performance-related pay (PRP) and performance management (PM) are now a part of the organizational landscape that unions face in the UK’s public services. While PRP and PM threaten the scope of traditional union bargaining activities, they simultaneously offer a new role to unions as providers of ‘procedural justice services’ to both union members and employers. We explore the case of the introduction of these systems for classroom teachers in England and Wales as a means of testing this idea. Our survey evidence shows that classroom teachers experiencing the introduction of PRP have expressed a strong demand for such services from the teachers’ unions. Further, analysis of the PRP implementation process for classroom teachers indicates that the teachers’ unions have progressively assumed a ‘procedural justice role’ since its introduction. Union action in this regard has led to substantial modification over time of classroom teachers’ PRP and PM. These changes have addressed many of the concerns of teachers, have created a new institutional role for the relevant unions, and may permit the systems to avoid the operational difficulties they have experienced elsewhere in the UK’s public services.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0660.pdf

How Special is the Special Relationship? Using the Impact of US R&D Spillovers on UK Firms as a Test of Technology Sourcing

Rachel Griffith Rupert Harrison John Van Reenen

CEPDP0659. November 2004.How much does US-based R&D benefit other countries and through what mechanisms? We test the "technology sourcing" hypothesis that foreign research labs located on US soil tap into US R&D spillovers and improve home country productivity. Using panels of UK and US firms matched to patent data we show that UK firms who had established a high proportion of US-based inventors by 1990 benefited disproportionately from the growth of the US R&D stock over the next 10 years. We estimate that UK firms’ Total Factor Productivity would have been at least 5% lower in 2000 (about $14bn) in the absence of the US R&D growth in the 1990s. We also find that technology sourcing is more important for countries and industries who have "most to learn". Within the UK, the benefits of technology sourcing were larger in industries whose TFP gap with the US was greater. Between countries, the growth of the UK R&D stock did not appear to have a major benefit for US firms who located R&D labs in the UK. The "special relationship" between the UK and the US appears distinctly asymmetric.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0659.pdf

Motivating Employee Owners in ESOP Firms: Human Resource Policies and Company Performance

CEPDP0658. November 2004.What enables some employee ownership firms to overcome the free rider problem and motivate employees to improve performance? This study analyzes the role of human resource policies in the performance of employee ownership companies, using employee survey data from 14 companies and a national sample of employee-owners. Between-firm comparisons of 11 ESOP firms show that an index of human resource policies, nominally controlled by management, is positively related to employee reports of co-worker performance and other good workplace outcomes (including perceptions of fairness, good supervision, and worker input and influence). Within-firm comparisons in three ESOP firms, and exploratory results from a national survey, show that employee-owners who participate in employee involvement committees are more likely to exert peer pressure on shirking coworkers. We conclude that an understanding of how and when employee ownership works successfully requires a three-pronged analysis of: 1) the incentives that ownership gives; 2) the participative mechanisms available to workers to act on those incentives; and 3) the corporate culture which battles against tendencies to free ride.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0658.pdf

Inflation, Inequality and Social Conflict

Christopher Crowe

CEPDP0657. November 2004.This paper presents a political economy model of inflation as a result of social conflict. Agents are heterogeneous in terms of income. Agents’ income levels determine their ability to hedge against the effects of inflation. The interaction of heterogeneous cash holdings and preferences over fiscal policy leads to conflict over how to finance government expenditure. The model makes a number of predictions concerning which environments are conducive to the emergence of inflation. Inflation will tend to be higher in countries with higher inequality and with greater pro-rich bias in the political system. Conversely, the use of income tax will be higher in countries with lower inequality and less pro-rich bias. The model also predicts that although inequality and political bias will have an impact on the composition of revenue, it will have no effect on the overall level of government spending (assuming that spending is on public goods only). These results are largely confirmed by the empirical portion of the paper. The paper’s novel features are its simplifications at the household level which allow for richer treatment of the income distribution and political process than in the related literature. The paper also gives unequivocal comparative statics results under relatively undemanding assumptions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0657.pdf

The Internationalisation of Public Welfare Policy

James Banks R Disney Alan Duncan John Van Reenen

CEPDP0656. November 2004.With increasing globalisation of knowledge, there are increased opportunities to 'learn' from the experience of policy interventions elsewhere. This paper presents evidence on the extent of international convergence in public policy, with particular focus on labour, welfare, savings and retirement policy. Questions addressed in this framework include: to what extent is policy diffusion or convergence a real and relevant phenomenon? What role have economists played in the transfer of policy across national domains? Has policy transfer led to 'better' public policy? Are there any practical limitations to policy convergence?

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0656.pdf

The Self Selection of Migrant Workers Revisited

Eran Yashiv

CEPDP0655. October 2004.Work of low-skilled migrant workers from developing countries in developed economies is a growing phenomenon and a key political and economic issue. An extensive literature has found (for the most part) that these workers come from the lower part of the skill distribution. This paper revisits the issue, using a self-selection model, a unique data-set on migrant workers as well as on workers that chose not to migrate (‘stayers’), and direct estimation of the moments of the latent unobserved skill distributions. The main findings are that there are two dimensions to self-selection: in terms of observed skills, a substantial migration premium lures migrant workers, while very low returns to skills in the foreign economy deter skilled workers, leading to negative self-selection. In terms of unobservable skills, self-selection is found to be positive rather than negative. The latter finding entails substantial increases in mean wages and reduction in wage inequality, relative to random assignment and to the alternative of not migrating. The analysis also demonstrates that estimates of skill premia for migrants — an important issue in the immigration literature — are upward biased if selection is not accounted for. Relevant skills are multi-dimensional, hence assignments in this context are non-hierarchical.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0655.pdf

Disengagement 14-16: Context and Evidence

Hilary Steedman Sheila Stoney

CEPDP0654. October 2004.This paper presents an overview of our current state of knowledge regarding poor motivation of 14-16 year old school pupils in the UK. A number of experts in the field from a variety of disciplines presented papers on this topic to a series of seminars held at the London School of Economics between 2002 and 2003. These papers, summarised here, present evidence from a historical, comparative, and social science perspectives and report the results of evaluation of government intervention programmes to improve motivation. International comparisons (PISA) show UK disengagement below the OECD average but the UK has the strongest link between socioeconomic disadvantage and disengagement. We identify a very small ‘out of touch’ group who have practically lost touch with school and a larger group – around one fifth of the cohort - who could be characterised as ‘disaffected but in touch’. Finally, we identify a further group – perhaps 15 per cent of the cohort who gain between 1 and 4 GCSE passes at Grades A*-C but who have not reached full potential as a result of loss of interest in learning. The ‘out of touch’ group often requires intensive one-on-one mentoring outside the school context. Evaluation of government intervention programmes has not so far shown an obvious way forward for the ‘disaffected but in touch’ group, targeted principally by workplace learning measures. For the ‘1-4 Grade C’ group, there may be something of a magic bullet - namely better vocational options.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0654.pdf

Globalisation, ICT and the Nitty Gritty of Plant Level Datasets

Ralf Martin

CEPDP0653. September 2004.The net entry contribution to aggregate productivity growth has increased dramatically in the UK over 1990s according to calculations based on data from the Annual Respondents Database (ARD). Some recent studies have tried to link this to other structural changes over the same period such as increased globalisation and usage of ICT. I argue that the increase might equally have been caused by a systematic bias that is introduced to growth decompositions through random survey sampling of the underlying plant or firm panel datasets. This bias – despite being a general problem of growth decompositions does not seem to have been noticed in the literature yet. In the 1990s the Office for National Statistics (ONS) has successively increased the share of plants in the population of the ARD that are subject to random sampling. I show that this could cause the bias to spuriously increase the net entry contribution. My results show that correcting for the bias makes a substantial difference: the net entry contribution is about 10 percentage points lower on the corrected series in the 1990s. Surprisingly however, the positive correlation between ICT and net entry share – a main result of earlier studies – becomes more significant.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0653.pdf

Labor Market Institutions, Wages and Investment

Jörn-Steffen Pischke

CEPDP0652. September 2004.Labor market institutions, via their effect on the wage structure, affect the investment decisions of firms in labor markets with frictions. This observation helps explain rising wage inequality in the US, but a relatively stable wage structure in Europe in the 1980s. These different trends are the result of different investment decisions by firms for the jobs typically held by less skilled workers. Firms in Europe have more incentives to invest in less skilled workers, because minimum wages or union contracts mandate that relatively high wages have to be paid to these workers. I report some empirical evidence for investments in training and physical capital across the Atlantic, which is roughly in line with this theoretical reasoning.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0652.pdf

Evaluating Urban Transport Improvements: Cost Benefit Analysis in the Presence of Agglomeration and Income Taxation

Anthony J. Venables

CEPDP0651. September 2004.There is a substantial empirical literature quantifying the positive relationship between city size and productivity. The paper draws out the implications of this productivity relationship for evaluations of urban transport improvements. A theoretical model is developed and used to derive a wider cost-benefit measure that includes productivity effects. The order of magnitude of such effects is illustrated by calculations in a simple computable equilibrium model. It is argued tht productivity effects, particularly when combined with distortionary taxation, are quantitatively important, substantially increasing the gains that are created by urban transport improvements.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0651.pdf

Is There a Market for Work Group Servers? Evaluating Market Level Demand Elasticities Using Micro and Macro Models

John Van Reenen

CEPDP0650. September 2004.This paper contains an empirical analysis demand for “work-group” (or low-end) servers. Servers are at the centre of many US and EU anti-trust debates, including the Hewlett-Packard/Compaq merger and investigations into the activities of Microsoft. One question in these policy decisions is whether a high share of work servers indicates anything about shortrun market power. To investigate price elasticities we use model-level panel data on transaction prices, sales and characteristics of practically every server in the world. We contrast estimates from the traditional “macro” approaches that aggregate across brands and modern “micro” approaches that use brand-level information (including both “distance metric” and logit based approaches). We find that the macro approaches lead to overestimates of consumer price sensitivity. Our preferred micro-based estimates of the market level elasticity of demand for work group servers are around 0.3 to 0.6 (compared to 1 to 1.3 in the macro estimates). Even at the higher range of the estimates, however, we find that demand elasticities are sufficiently low to imply a distinct “anti-trust” market for work group servers and their operating systems. It is unsurprising that firms with large shares of work group servers have come under some antitrust scrutiny.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0650.pdf

Foreign Ownership and Productivity: New Evidence from the Service Sector and the R&D Lab

Rachel Griffith Stephen Redding Helen Simpson

CEPDP0649. September 2004.This paper examines the relationship between foreign ownership and productivity, paying particular attention to two issues neglected in the existing literature – the role of multinationals in service sectors and the importance of R&D activity conducted by foreign multinationals. We review existing theoretical and empirical work, which largely focuses on manufacturing, before presenting new evidence using establishment-level data on production, service and R&D activity for the United Kingdom. We find that multinationals play an important role in service sectors and that entry of foreign multinationals by takeover is more prevalent than greenfield investment. We find that British multinationals have lower levels of labour productivity than foreign multinationals, but the difference is less stark in the service sector than in the production sector, and that British multinationals have lower levels of investment and intermediate use per employee. We also find that foreign-owned multinationals conduct a substantial amount of UK R&D. We discuss the implications of these and other findings for the policy debate on incentives to influence multinational firms’ location choices.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0649.pdf

Cities, Matching and the Productivity Gains of Agglomeration

Fredrik Andersson Simon Burgess Julia Lane

CEPDP0648. September 2004.The striking geographical concentration of economic activities suggests that there are substantial benefits to agglomeration. However, the nature of those benefits remains unclear. In this paper we take advantage of a new dataset to quantify the role of one of the main contenders - the matching of workers and jobs. Using individual level data for two large US states we show that thicker urban labour markets are associated with more assortative matching between workers and firms. Another critical condition is required for this to generate higher productivity: complementarity of worker and firm quality in the production function. Using establishment level productivity regressions, we show that such complementarity is found in our data. Putting together the production and matching relationships, we show that production complementarity and assortative matching is an important source of the urban productivity premium.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0648.pdf

Monitoring Colleagues at Work: Profit-Sharing, Employee Ownership, Broad-Based Stock Options and Workplace Performance in the United States

Joseph Blasi Richard Freeman Douglas Kruse

CEPDP0647. August 2004.This study seeks to increase our understanding of worker reactions to shirking by analyzing two new questions on shirking from the 2002 General Social Science Survey (GSS). We developed the questions in order to illuminate the factors that enable some shared capitalist enterprises to overcome the free rider or 1/N dilemma. Our guiding principle is the notion that for profit-sharing, worker ownership, and broad-based stock options to produce economic benefits, workers must “buy into” shared arrangements and create a workplace culture that discourages shirking.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0647.pdf

Is Seniority-Based Pay Used as a Motivation Device? Evidence from Plant Level Data

Alberto Bayo-Moriones Jose E. Galdon-Sanchez Maia Güell

CEPDP0646. August 2004.In this paper we use data from industrial plants to investigate if seniority-based pay is used as a motivational device for production workers. Alternatively, seniority-based pay could simply be a wage setting rule not necessarily related to the provision of incentives. Unlike previous papers, we use a direct measure of seniority-based pay as well as measures of monitoring devices and piece-rates. We find that firms that offer seniority-based pay are less likely to offer explicit incentives. They are also less likely to invest in monitoring devices. We also find that firms that offer seniority-based pay are more likely to engage in other human resource management policies that result in long employment relationships. Overall these results suggest that seniority-based pay is indeed used as a motivation device.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0646.pdf

Crime and Benefit Sanctions

Stephen Machin Olivier Marie

CEPDP0645. August 2004.In this paper we look at the relationship between crime and economic incentives in a different way to other work in this area. We look at changes in unemployment benefits and the imposition of benefit sanctions as a means of studying the way that people on the margins of crime may react to economic incentives. The paper relies on a quasiexperimental setting induced by the introduction of the Jobseekers Allowance (JSA) in the UK in October 1996. We look at crime rates in areas more and less affected by the policy change before and after JSA introduction. In the areas more affected by the tougher benefit regime crime rose by more. These were also the areas with higher outflows from unemployment and particularly to people dropping off the register but not into work, education/training or onto other benefits. Areas that had more sanctioned individuals also experienced higher crime rates after the introduction of JSA. As such the benefit cuts and sanctions embodied in the JSA appear to have induced individuals previously on the margins to engage in crime. Thus there appears to have been an unintended policy consequence, associated with the benefit reform, namely higher crime.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0645.pdf

Are European Labor Markets As Awful As All That?

Richard Freeman

CEPDP0644. August 2004.“The standard explanation of why advanced Europe has generated less work per adult than the US is that something is seriously amiss with EU labor markets. The theme of this piece is simple. Compared to an ideal competitive market, EU labor markets fall seriously short, but compared to labor markets in the US and to other markets in advanced capitalist countries, EU labor markets do not live up to their awful press. The variety of labor market institutions among EU countries, moreover, reveals a much richer picture of performance and diversity than the blanket condemnation of inflexibility suggests. I make my case in four propositions, with supporting evidence. My comparisons are with the actual labor market in the US and with other real world markets, not with the economists’ dream ideal competitive markets. I review briefly the evidence that labor markets in the EU have performed worse on the quantity side of the market but better on the price or wage side of the market than the US labor market, then consider the extent to which differences in outcomes are attributable to differences in the performance of labor markets.”

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0644.pdf

Comparative Advantage and Heterogeneous Firms

Andrew B. Bernard Stephen Redding Peter K. Schott

CEPDP0643. August 2004.This paper presents a model of international trade that features heterogeneous firms, relative endowment differences across countries, and consumer taste for variety. The paper demonstrates that firm reactions to trade liberalization generate endogenous Ricardian productivity responses at the industry level that magnify countries’ comparative advantage. Focusing on the wide range of firmlevel reactions to falling trade costs, the model also shows that, as trade costs fall, firms in comparative advantage industries are more likely to export, that relative firm size and the relative number of firms increases more in comparative advantage industries and that job turnover is higher in comparative advantage industries than in comparative disadvantage industries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0643.pdf

Spatial Determinants of Productivity: Analysis for the Regions of Great Britain

Patricia Rice Anthony J. Venables

CEPDP0642. July 2004.This paper uses NUTS3 sub-regional data for Great Britain to analyse the determinants of spatial variations in income and productivity. We decompose the spatial variation of earnings into a productivity effect and an occupational composition effect. For the former (but not the latter) we find a robust relationship with proximity to economic mass, suggesting that doubling the population of working age proximate to an area is associated with a 3.5% increase in productivity in the area. We measure proximity by travel time, and show that effects decline steeply with time, ceasing to be important beyond approximately 80 minutes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0642.pdf

Zipf's Law for Cities: A Cross Country Investigation

Kwok Tong Soo

CEPDP0641. July 2004.This paper assesses the empirical validity of Zipf¿s Law for cities, using new data on 73 countries and two estimation methods ¿ OLS and the Hill estimator. With either estimator, we reject Zipf¿s Law far more often than we would expect based on random chance; for 53 out of 73 countries using OLS, and for 30 out of 73 countries using the Hill estimator. The OLS estimates of the Pareto exponent are roughly normally distributed, but those of the Hill estimator are bimodal. Variations in the value of the Pareto exponent are better explained by political economy variables than by economic geography variables.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0641.pdf

We Can Work It Out: the Impact of Technological Change on the Demand for Low Skill Workers

Alan Manning

CEPDP0640. June 2004.There is little doubt that technology has had the most profound effect on altering the tasks that we humans do in our jobs. Economists have long speculated on how technical change affects both the absolute demand for labour as a whole and the relative demands for different types of labour. In recent years, the idea of skill-biased technical change has become the consensus view about the current impact of technology on labour demand, namely that technical change leads to an increase in the demand for skilled relative to unskilled labour painting a bleak future for the employment prospects of less-skilled workers. But, drawing on a recent paper by Autor, Levy and Murnane (2003) about the impact of technology on the demand for different types of skills, this paper argues that the demand in the least-skilled jobs may be growing. But, it is argued that employment of the less-skilled is increasingly dependent on physical proximity to the moreskilled and may also be vulnerable in the long-run to further technological developments.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0640.pdf

Monetary Policy and Welfare in a Small Open Economy

Bianca De Paoli

CEPDP0639. May 2004.This paper characterizes welfare in a small open economy and derives the corresponding optimal monetary policy rule. It shows that the utility-based loss function for a small open economy is a quadratic expression in domestic inflation, output gap and real exchange rate. In contrast to previous works, this paper demonstrates that welfare in a small open economy, completely integrated with the rest of the world, is affected by exchange rate variability. Consequently, the optimal policy in a small open economy is not isomorphic to a closed economy and does not prescribe a pure floating exchange rate regime. Domestic inflation targeting is optimal only under a particular parameterization, where the unique relevant distortion in the economy is price stickiness. Under a general specification for preferences and in the presence of inefficient steady state output, exchange rate targeting arises as part of the optimal monetary plan.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0639.pdf

White Hats or Don Quixotes? Human Rights Vigilantes in the Global Economy

Kimberly Ann Elliott Richard Freeman

CEPDP0638. May 2004.With the continuing expansion of global economic integration, labor standards in developing countries have become a hot button issue. One result has been a proliferation of efforts to use the market to put pressure directly on multinational corporations to improve wages and working conditions in their overseas operations and to insist that their suppliers do so as well. This paper analyzes the dynamics of these efforts in terms of a 'market for standards' in which consumers, stimulated by human rights activists, demand that corporations improve working conditions in supplier factories. The paper presents evidence that such a consumer demand exists and analyzes the incentives corporations face to respond to it. It examines the nature of the critical intermediary role played by activists in stimulating consumer demands and assesses the outcomes in the major anti-sweatshop campaigns of the 1990s. The paper also addresses the limitations of such consumer-based campaigns and the concern expressed by some that these activist campaigns may do more harm than good, by deterring investment in and trade with poor countries. It concludes with an overall assessment of when ¿doing good¿ actually does good.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0638.pdf

Gender Segregation in Employment Contracts

Barbara Petrongolo

CEPDP0637. May 2004.This paper presents evidence on gender segregation in employment contracts in 15 EU countries, using micro data from the ECHPS. Women are over-represented in part-time jobs in all countries considered, but while in northern Europe such allocation roughly reflects women¿s preferences and their need to combine work with child care, in southern Europe part-time jobs are often involuntary and provide significantly lower job satisfaction than fulltime ones. Women are also over-represented in fixed-term contracts in southern Europe, and again this job allocation cannot be explained by preferences or productivity differentials between the two genders. There is thus a largely unexplained residual in the gender job allocation, which may be consistent with some degree of discrimination in a few of the labour markets considered, especially in southern Europe.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0637.pdf

Can a Work Organization Have An Attitude Problem? The Impact of Workplaces on Employee Attitude and Economic Outcomes

Ann Bartel Richard Freeman Casey Ichniowski Morris Kleiner

CEPDP0636. May 2004.In this study we examine whether a workplace can induce good or bad attitudes among its employees and whether any such ¿workplace attitudes¿ affect economic outcomes. This study analyzes responses of thousands of employees working in nearly two hundred branches to the emp loyee opinion survey of a major US bank in 1994 and 1996. The results document the existence and persistence of a genuine workplace effect in how workers view their jobs and organizations. Employee attitudes differ significantly across branches in ways that cannot be explained by branches randomly drawing workers from a distribution of workers with different innate attitudes. Furthermore, newly hired workers adopt the favourable or unfavourable attitudes that the branches exhibited before they arrived. These workplace attitudes also have significant effects on economic outcomes. Branches with less favourable attitudes have higher turnover, lower levels of sales, and lower rates of sales growth than branches where workers have more favourable attitudes. Less favourable branch attitudes are also a significant predictor of subsequent branch closings. The study¿s results show that there are happy and unhappy workplaces, as well as happy and unhappy workers, with very different patterns of turnover and productivity in these workplaces.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0636.pdf

Reconciling Workless Measures at the Individual and Household Level: Theory and Evidence from the United States, Britain, Germany, Spain and Australia

Paul Gregg Rosanna Scutella Jonathan Wadsworth

CEPDP0635. May 2004.Individual and household based aggregate measures of worklessness can, and do, offer conflicting signals about labour market performance. We outline a means of quantifying the extent of any disparity, (polarisation), in the signals stemming from individual and household-based measures of worklessness and apply this index to data from 5 countries over 25 years. Built around a comparison of the actual household workless rate with that which would occur if employment were randomly distributed over household occupants, we show that in all the countries we examine, there has been a growing disparity between the individual and household based workless measures. The polarisation count can be decomposed to identify which household groups are exposed to workless concentrations and can also be used to test which individual characteristics account for any excess worklessness among these household groups. We show that the incidence and magnitude of polarisation varies widely across countries, but that in all countries polarisation has increased. For each country most of the discrepancies between the individual and household workless counts stem from within-household factors, rather than from changing household composition.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0635.pdf

Employment and Taxes

Stephen Nickell

CEPDP0634. May 2004.This paper considers the impact of taxation policy on market work. On the basis of the evidence, we find that a 10 percentage point rise in the tax wedge will reduce overall labour input provided via the market by around 2 per cent of the population of working age. The tax wedge is the sum of the payroll, income and consumption tax rates. This only explains a minority of the market work differentials across count ries. Much of the remainder is probably down to the differences in the social security systems supporting the unemployed, the sick and disabled and the early retired.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0634.pdf

Threshold Effects and Firm Size: the Case of Firing Costs

Fabiano Schivardi Roberto Torrini

CEPDP0633. May 2004.We study the role of employment protection legislation (EPL) in determining firm size distribution. In many countries the provisions of EPL are more stringent for firms above certain size thresholds. We construct a simple model that shows that the smooth relation between size and growth probability is interrupted in proximity of the thresholds at which EPL applies differentially. We use a comprehensive longitudinal dataset of all Italian firms, a country with an important threshold at 15 employees, to estimate the effects of EPL in terms of discouraging small firms from growing. We find that the probability of firms ' growth in the proximity of the threshold is reduced by around 2 percentage points. Using the stochastic transition matrix for firm size, we compute the long-run effects of EPL on size distribution. We find that average firm size would increase by less than 1% in steady state when removing the threshold; a quantitatively modest effect.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0633.pdf

Two Sides to Every Story: Measuring the Polarisation of Work

Paul Gregg Jonathan Wadsworth

CEPDP0632. May 2004.Individual and household based aggregate measures of joblessness can, and do, offer conflicting signals about labour market performance if work is unequally distributed. This paper introduces a simple set of indices that can be used to measure the extent of divergence between individual and household-based jobless measures. The indices, built around a comparison of the actual household jobless rate with that which would occur if work were randomly distributed over the working age population, conform to basic consistency axioms and can be decomposed to try to identify the likely source of any disparity between nonemployment rates calculated at the 2 levels of aggregation. Applying these measures to data for Britain, we show that there has been a growing disparity ¿ polarisation - between the individual and household based jobless measures that are largely unrelated to changes in household structure or the principal characteristics associated with individual joblessness.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0632.pdf

Corporate Ownership Structure and Performance in Europe

Jeremy Grant Thomas Kirchmaier

CEPDP0631. April 2004.In this paper, we show that ownership structures vary considerably across Europe, and that the dominant form of ownership is not necessarily the most efficient one. These findings are in contradiction to similar research based on US samples. The results also demonstrate that firms without a dominant shareholder tend to outperform their country peer groups. We base our analysis on a new and unique dataset of uniform ownership data of the largest 100 firms in the five major European economies. We quantify the differences in ownership by comparing three distinct ownership structures of firms and relating them to performance. For the first time we employ a Hodrick-Prescott Filter, a methodology widely used in macroeconomics to isolate the trend growth components from cyclical fluctuations, to estimate the share price trend of each firm. We take this trend as a good indirect indicator of the quality of governance.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0631.pdf

The Impact of an Innovative Human Resource Function on Firm Performance: the Moderating Role of Financing Strategy

J Dawson Neal Knight-Turvey Andrew Neal M West

CEPDP0630. April 2004.The current study examined the impact of the human resource function and financing strategy on the financial performance of 104 UK manufacturing firms. Hypotheses are drawn from a resource-based perspective on human resource management and a financial theory perspective on capital structure. Results show that an innovative HR function is significantly related to economic performance. However, the relationship between an innovative HR function and economic performance was moderated by the firm¿s financing strategy. Firms obtained higher returns from an innovative HR function when pursuing a low leveraging (debt) financing strategy, a finding consistent with modern finance theory notions that firmspecific strategic assets provide greatest value when financed primarily through equity as opposed to debt.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0630.pdf

A Statistical Framework for the Analysis of Productivity and Sustainable Development

Nicholas Oulton

CEPDP0629. April 2004.To analyse the consequences of the changing economic structure of the UK, we need a set of statistics broken down by industry that are consistent with the whole economy measures available from the national accounts. The theory of growth accounting then provides a framework in which the contribution of each industry to the national economy can be measured and assessed. This paper identifies the obstacles currently facing a researcher trying to implement this approach. It makes a number of recommendations for the improvement of official statistics.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0629.pdf

Short Job Tenures and Firing Taxes in the Search Theory of Unemployment

Vasileios Gkionakis

CEPDP0628. April 2004.This paper studies the effects of firing taxes on the job destruction rate, when probation period - or temporary contract - policies are implemented in an otherwise exogenous job separation search model. It is shown that contrary to conventional wisdom, firing taxes can amplify the job turnover rate by providing incentives to destroy surviving matches at the end of the probation period. Moreover, low skill workers are shown to be more severely affected while wage inequality across different productivity groups may increase.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0628.pdf

Balanced Growth With Structural Change

L. Rachel Ngai Christopher A. Pissarides

CEPDP0627. April 2004.We study a multi-sector model of growth with differences in TFP growth rates across sectors and derive sufficient conditions for the coexistence of a balanced aggregate growth path, with all aggregates growing at the same rate, and structural change, characterized by sectoral labor reallocation. The conditions needed are weak restrictions on the utility and production functions: goods should be poor substitutes and the intertemporal elasticity of substitution should be one. We present evidence from US and UK sectors, that is consistent with our conclusions and successfully calibrate the shift from agriculture to manufacturing and services in the United States.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0627.pdf

Organizational Climate and Company Productivity: the Role of Employee Affect and Employee Level

M Patterson P Warr M West

CEPDP0626. April 2004.Consistent with a growing number of models about affect and behaviour and with a recognition that perception alone provides no impetus for action, it was predicted that associations between company climate and productivity would be mediated by average level of job satisfaction. In a study of 42 manufacturing companies, subsequent productivity was significantly correlated in controlled analyses with eight aspects of organizational climate (e.g. skill development and concern for employee welfare) and also with average job satisfaction. The mediation hypothesis was supported in hierarchical multiple regressions for separate aspects of climate. In addition, an overall analysis showed that company productivity was more strongly correlated with those aspects of climate that had stronger satisfaction loadings. A second prediction, that managers¿ perceptions of climate would be more closely linked to company productivity than would those of non-managers, was not supported. However, managers¿ assessments of most aspects of their company¿s climate were significantly more positive than those of non-managers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0626.pdf

Is There an Impact of Household Computer Ownership on Children's Educational Attainment in Britain?

John Schmitt Jonathan Wadsworth

CEPDP0625. March 2004.If personal computers (PCs) are used to enhance learning and information gathering across a variety of subjects, then a home computer might reasonably be considered an input in an educational production function. Using data on British youths from the British Household Panel Survey between 1991 and 2001, this paper attempts to explore the link between ownership of a home computer at ages 15 and 17 and subsequent educational attainment in the principal British school examinations taken at ages 16 (GCSEs) and 18 (A levels). The data show a significant positive associatio n between PC ownership and both the number of GCSEs obtained and the probability of passing five or more GCSEs. These results survive a set of individual, household, and area controls, including using other household durables and \"future\" PC ownership as proxies for household wealth and other unobservable household level effects. Home computer ownership is also associated with a significant increase in the probability of passing at least one A level conditional on having passed five and increase in the probability of successfully completing three or more A levels, conditional on having passed at least one A level.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0625.pdf

Do Organisational Climate and Strategic Orientation Moderate the Relationship Between Human Resource Management Practices and Productivity?

Andrew Neal M Patterson M West

CEPDP0624. March 2004.Contingency formulations of Human Resource Management (HRM) theory suggest that the effectiveness of HRM practices should vary across firms. This study examined whether the relationship between HRM practices and productivity in manufacturing companies is contingent upon organizational climate and strategic orientation. Information on HRM, organizational structure, and competitive strategy was collected by interviewing senior managers, whilst organizational climate was assessed via employee surveys. Although organizational climate and HRM practices were both positively associated with subsequent productivity, the relationship between HRM practices and subsequent productivity was stronger for firms with a poor climate.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0624.pdf

Do Friends and Relatives Really Help in Getting a Good Job?

Michele Pellizzari

CEPDP0623. March 2004.Informal contacts are extensively used by both firms and workers to find jobs and fill vacancies. The common wisdom in the economic literature is that jobs created through this channel are of better quality and pay higher wages than jobs created through formal methods. This paper explores the empirical evidence for European countries using the European Community Household Panel (ECHP) and discovers a large cross-country as well as cross-industry variation in the wage differentials between jobs found through informal and formal methods. Across countries and industries wage premiums and wage penalties to finding jobs through personal contacts are equally frequent. This paper argues that such variation can be explained by looking at firms' recruitment strategies. In labour markets where employers invest largely in formal recruitment activities, matches created through this channel are likely to be of average better quality than those created through informal networks. A simple theoretical model is used to show that employers invest more in recruitment for high productivity jobs and for positions that require considerable training. The empirical predictions of the theory are successfully tested using industry-level data on recruitment costs.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0623.pdf

The Returns to Apprenticeship Training

Steven McIntosh

CEPDP0622. March 2004.This paper uses recent data from the UK Labour Force Survey to estimate the wage gains that individuals make on average if they complete an apprenticeship programme. The results suggest gains of around 5-7% for men, but no benefit for women. Further analysis extends the results by considering the returns by age group, by qualification obtained, by highest prior qualification and by industrial sector. A key finding emerging from this further analysis is the importance of acquiring qualifications with the apprenticeship, at level 3 or above.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0622.pdf

The Impact of Vocational Qualifications on the Labour Market Outcomes of Low-Achieving School-Leavers

Steven McIntosh

CEPDP0621. March 2004.This paper creates a pseudo cohort of individuals who left school in the mid-1990s, using Labour Force Survey. The extent of low achievement at school amongst this group is documented, and then the impact of such low achievement on labour force status is estimated. The main focus of the paper is then to investigate to what extent unqualified school leavers can improve their labour market status through the acquisition of vocational qualifications, and how many follow this option. The results show that vocational qualifications at all levels can improve the employment chances of unqualified school leavers, even once we use panel data to control for unobserved individual heterogeneity and to ensure that the qualification is acquired before employment is attained. There are also small effects on occupational mobility, but little impact on wages. However, few unqualified school leavers seem to be following this vocational route to qualification achievement.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0621.pdf

The 'Network Economy' and Models of the Employment Contract: Psychological, Economic and Legal

David Marsden

CEPDP0620. February 2004.The emergence of the so-called ¿network economy¿ and the development of project-based work pose a fundamental challenge to established methods of regulating the employment relationship. There appears to be an unsatisfied demand for its greater use, especially among employers, and it is argued that this may be blocked by the lack of suitable contractual forms, such as those that have underpinned the established open-ended employment relationship. Project-based work seeks to retain some of the open-ended flexibility of the standard employment relationship in relation to its task content but not its duration. The paper argues the success of the standard employment relationship owes much to the articulation of its psychological, economic/incentive, and legal aspects. As yet, this appears to be lacking for more transient forms of relationship.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0620.pdf

Instrumental Variables for Binary Treatments with Heterogeneous Treatment Effects: A Simple Exposition

Alan Manning

CEPDP0619. February 2004.This note provides a simple exposition of what IV can and cannot estimate in a model with a binary treatment variable and heterogeneous treatment effects. It shows how linear IV is a misspecification of functional form and the reason why linear IV estimates for this model will always depend on the instrument used is because of this misspecification. It shows that if one can estimate the correct functional form (non-linear IV) then the treatment effects are independent of the instrument used. However, the data may not be rich enough in practice to be able to identify these treatment effects without strong distributional assumptions. In this case, one will have to settle for estimates of treatment effects that are instrument-dependent.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0619.pdf

Is the Medical Brain Drain Beneficial? Evidence from Overseas Doctors in the UK

Simon Commander Mari Kangasniemi L. Alan Winters

CEPDP0618. February 2004.The ¿beneficial brain drain¿ hypothesis suggests that skilled migration can be good for a sending country because the incentives it creates for training increase that country¿s supply of skilled labour. To work, this hypothesis requires that the degree of screening of migrants by the host country is limited and that the possibility of migration actually encourages home country residents to obtain education. We studied the implications of doctors¿ migration by conducting a survey among overseas doctors in the UK. The results suggest that the overseas doctors who come to the UK are carefully screened and that only a minority of doctors from developing countries considered the possibility of migration when they chose to obtain medical education. The incentive effect is thus probably not large enough to increase the skills-supply in developing countries. Doctors do, however, remit income to their home countries and many intend to return after completing their training in the UK, so there could be benefits via these routes.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0618.pdf

Executive Compensation and Product Market Competition

Vicente Cuñat María Guadalupe

CEPDP0617. February 2004.The aim of this paper is to study the effects of product market competition on the explicit compensation packages that firms offer to their executives. In order to measure the net effect of competition we use two different identification strategies. The first exploits cross sectoral variation in concentration ratios and the panel nature of the dataset. The second uses as a quasi-natural experiment the deregulations that occurred in the banking and financial sectors in the nineties and estimates differences in differences coefficients. Our results show that a higher level of product market competition increases the performance pay sensitivity of executive compensation schemes, and they hold through a number of performance measures such as stock options or bonus. The results are robust to a number of specification checks.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0617.pdf

Timeliness, Trade and Agglomeration

James Harrigan Anthony J. Venables

CEPDP0616. February 2004.An important element of the cost of distance is time taken in delivering final and intermediate goods. We argue that time costs are qualitatively different from direct monetary costs such as freight charges. The difference arises because of uncertainty. Unsynchronised deliveries can disrupt production, and delivery time can force producers to order components before demand and cost uncertainties are resolved. Using several related models we show that this can cause clustering of component production. If final assembly takes place in two locations and component production has increasing returns to scale, then component production will tend to cluster around just one of the assembly plants.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0616.pdf

Comparatively Open: Statutory Information Disclosure for Consultation and Bargaining in Germany, France and the UK

Howard Gospel P Willman

CEPDP0615. February 2004.Information provision is an important part of all mechanisms which give employees voice at work. This paper considers the law on information disclosure for joint consultation and collective bargaining in three countries, Germany, France, and the UK, chosen for their distinctive legal and institutional arrangements, within a common European Union context. It is argued that there is coherence between the law and institutions in Germany; in France, despite extensive legal support for information provision, the law and institutions complement one another less; in the UK, there are contradictory approaches and new dilemmas confronting the traditional system. Although European Directives harmonise statutory minima, there are few signs of common disclosure practice emerging across the three countries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0615.pdf

Relative Wage Variation and Industry Location

Andrew B. Bernard Stephen Redding Peter K. Schott Helen Simpson

CEPDP0614. February 2004.Relative wages vary considerably across regions of the United Kingdom, with skill-abundant regions exhibiting lower skill premia than skill-scarce regions. This paper shows that the location of economic activity is correlated with the variation in relative wages. U.K. regions with low skill premia produce different sets of manufacturing industries than regions with high skill premia. Relative wages are also linked to subsequent economic development: over time, increases in the employment share of skill- intensive industries are greater in regions with lower initial skill premia. Both results suggest firms adjust production across and within regions in response to relative wage differences.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0614.pdf

Unions and Procedural Justice: An Alternative to the 'Common Rule'

David Marsden

CEPDP0613. February 2004.Can unions substitute a procedural justice role for their traditional reliance on establishing a ¿common rule¿? The decline of ¿bureaucratic¿ models of employee management and the rise of performance pay and performance management conflicts with the common rule as management seek to tie rewards more closely to individual and organisational performance. CEP studies of performance pay in the British public services illustrate the potential for a procedural justice role to ensure that such pay systems are operated fairly, otherwise they risk demotivating staff. Evidence is presented to show that employees regard unions as effective vehicles for procedural justice. In this way, management can achieve better operation of their incentive schemes, and employees may experience less unfairness and poisoned work relations.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0613.pdf

The Union Wage Premium in the US and the UK

David Blanchflower Alex Bryson

CEPDP0612. February 2004.This paper presents evidence of both counter-cyclical and secular decline in the union membership wage premiu m in the US and the UK over the last couple of decades. The premium has fallen for most groups of workers, the main exception being public sector workers in the US. By the beginning of the 21st Century the premium remained substantial in the US but there was no premium for many workers in the UK. Industry, state and occupation-level analyses for the US identify upward as well as downward movement in the premium characterized by regression to the mean. Using linked employer-employee data for Britain we show estimates of the membership premium tend to be upwardly biased where rich employer data are absent and that OLS estimates are higher than those obtained with propensity score matching.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0612.pdf

Valuing Rail Access Using Transport Innovations

Steve Gibbons Stephen Machin

CEPDP0611. January 2004.In this paper we implement a powerful empirical approach than has not previously been applied to rail transport evaluation to ascertain how much consumers value rail access. We study the effects on house prices of a transport innovation that altered the distance to the nearest station for some households, but left others unaffected. The transport innovation we study is the construction of new stations under improvements made to the London Underground and Docklands Light Railway in South East London in the late 1990s. Using the innovation to implement a quasi-experimental approach studying house price changes in affected versus unaffected areas allows us to avoid the biases inherent in cross-sectional valuation work. Our evidence on distance-station effects on prices suggests that rail access is significantly valued by households and that these valuations are sizable as compared to the valuations of other local amenities and services.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0611.pdf

Public Enterprises and Labor Market Performance

Johannes Hörner L. Rachel Ngai Claudia Olivetti

CEPDP0610. January 2004.This paper shows that state control of some industries may have contributed to the increase in European unemployment from the 1970s to the early 1990s. We develop a simple model with both publicly-run and privately-run enterprises and show that when economic turbulence increases, higher unemployment rates may result in economies that have a larger public sector.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0610.pdf

Endowments, Market Potential, and Industrial Location: Evidence from Interwar Poland (1918-1939)

Nikolaus Wolf

CEPDP0609. January 2004.The paper explores the determinants of industry location across interwar Poland. After more than 120 years of political and economic separation, Poland was reunified at the end of 1918. In consequence, its industry faced massive structural changes: the removal of internal tariff barriers and improved infrastructure strengthened the domestic market, while foreign market relations were cut off. Similarly, the geographical dispersion of factor endowments was changed through internal migration and new institutional arrangements (education system, patent laws, etc.). How did these forces interact to determine the location of industry? Did a new interregional division of labour emerge after unification? We survey the dynamics of industrial location between 1925 and 1937 and estimate a specification that nests market potential and comparative advantage to quantify their respective impact over time. The results point to a role for both, comparative advantage and market potential, but there was a dominating and ever increasing impact of the availability of skilled labour.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0609.pdf

Publicity of Debate and the Incentive to Dissent: Evidence from the US Federal Reserve

Ellen E. Meade David Stasavage

CEPDP0608. January 2004.When central banks are transparent about their decision making, there may be clear benefits in terms of credibility, policy effectiveness, and improved democratic accountability. While recent literature has focused on all of these advantages of transparency, in this paper we consider one potential cost: the possibility that publishing detailed records of deliberations will make members of a monetary policy committee more reluctant to offer dissenting opinions. Drawing on the recent literature on expert advisors with ¿career concerns¿, we construct a model that compares incentives for members of a monetary policy committee to voice dissent when deliberations occur in public, and when they occur in private. We then test the implications of the model using an original dataset based on deliberations of the Federal Reserve¿s Federal Open Market Committee, asking whether the FOMC¿s decision in 1993 to begin releasing full transcripts of its meetings has altered incentives for participants to voice dissenting opinions. We find this to be the case with regard to both opinions on shortterm interest rates and on the ¿bias¿ for future policy.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0608.pdf

Gender Gaps in Unemployment Rates in OECD Countries

Ghazala Azmat Maia Güell Alan Manning

CEPDP0607. January 2004.There is an enormous literature on gender gaps in pay and labour market participation but virtually no literature on gender gaps in unemployment rates. Although there are some countries in which there is essentially no gender gap in unemployment, there are others in which the female unemployment rate is substantially above the male. Although it is easy to give plausible reasons for why more women than men may decide not to want work, it is not so obvious why, once they have decided they want a job, women in some countries are less likely to be in employment than men. This is the subject of this paper. We show that, in countries where there is a large gender gap in unemployment rates, there is a gender gap in both flows from employment into unemployment and from unemployment into employment. We investigate different hypotheses about the sources of these gaps. Most hypotheses find little support in the data and the gender gap in unemployment rates (like the gender gap in pay) remains largely unexplained. But it does seem to correlate with attitudes on whether men are more deserving of work than women so that discrimination against women may explain part of the gender gap in unemployment rates in the Mediterranean countries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0607.pdf

The Geography of UK International Trade

Henry Overman L. Alan Winters

CEPDP0606. January 2004.This paper examines how the geography of UK international trade has changed since the UK¿s accession to the European Economic Community using a newly constructed data set that gives a detailed breakdown of the UK¿s imports and exports by both port of entry and exit and commodity. Our results suggest that between 1970 and 1992 overall imports and exports re-orientated in favour of ports located nearer to the continent. The vast majority of individual commodities also saw a similar re-orientation.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0606.pdf

Looking for HRM/Union Substitution: Evidence from British Workplaces

Stephen Machin Stephen Wood

CEPDP0605. January 2004.In this paper we test the HRM/union substitution hypothesis that human resource management (HRM) practices act as a substitute for unionization. We use British workplace data between 1980 and 1998 which allows us to examine for the first time whether increased HRM incidence has coincided with union decline. First, we compare changes over time in the incidence of HRM practices across union and non-union sectors, finding little cross-time difference occurring between sectors. Second, we ask whether newer workplaces (strongly shown by other research as more likely to be non-union) have experienced differentially faster HRM incidence; we are unable to find much evidence in support of this. Third, longitudinal changes also fail to pick up any evidence of faster union decline in workplaces or industries with faster take up of HRM practices. We find no evidence of HRM substitution operating in the hypothesised way of it replacing unions and conclude that increased HRM incidence does not seem to be an important factor underpinning union decline in Britain.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0605.pdf

Lousy and Lovely Jobs: the Rising Polarization of Work in Britain

Maarten Goos Alan Manning

CEPDP0604. December 2003.This paper argues that skill-biased technical change has some deficiencies as a hypothesis about the impact of technology on the labor market and that a more nuanced view recently proposed by Autor, Levy and Murnane (2003) is a more accurate description. The difference between the two hypotheses is in the prediction about what is happening to employment in low-wage jobs. This paper presents evidence that employment in the UK is polarizing into lovely and lousy jobs and that a plausible explanation for this is the Autor, Levy and Murnane hypothesis.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0604.pdf

Collateral Value and Forbearance Lending

Nan-Kuang Chen Hsiao-Lei Chu

CEPDP0603. December 2003.We investigate the foreclosure policy of collateral-based loans in which the endogenous collateral value plays a crucial role. If creditors are able to commit, then the equilibrium arrangement is more likely to feature forebearance lending by specifying a lower level of liquidation (or roll over all of the loans) relative to the expost efficiency criterion for each realization of the interim signal. The key is that collateral value may drop too low when banks call in loans by auctioning off borrowers¿ collateral and this makes clearing up non-performing loans less attractive. We attribute the banks¿ leniency as we have observed in Japan during the 1990s to an equilibrium arrangement where banks can commit due to either relationship banking or an implicit lenderborrower contract, such as the arrangement under Japan¿s main-bank system.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0603.pdf

Is it Good to Talk? Information Disclosure and Organisational Performance in the UK Incorporating evidence submitted on the DTI discussion paper 'High Performance Workplaces - Informing and Consulting Employees'

Helen Bewley Howard Gospel R Peccei P Willman

CEPDP0602. December 2003.The disclosure of information by management to employees varies significantly between workplaces. The effects of this variance on organizational performance are analysed using WERS98 data. The results show that the impact of information disclosure on organisational performance is more complex than is often assumed in the literature. Overall, there is a significant impact, both direct and indirect, and this varies depending on the level of employee organisational commitment, the type of information disclosed, and the performance outcome involved. On the whole, the positive effects are less in union settings and in situations where unions are strong.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0602.pdf

The Anatomy of Union Decline in Britain: 1990-1998

A Charlwood

CEPDP0601. December 2003.To what extent can the decline in British trade union density between 1990 and 1998 be attributed to declining opportunities to unionize compared to declining propensity to unionize among workers with the opportunity to do so and to compositional change? This question is answered using data to from both workplaces (from 1990 and 1998 Workplace Employee Relations Surveys) and individuals (fro m the British Household Panel Survey). Results show that both falling opportunities and falling propensities to unionize accounted for membership decline during this period. Membership fell because unions lacked the power to maintain bargaining relationships with management, to organize new workplaces, or to uphold the ¿social custom¿ of union membership among new workers who took union jobs. However, there was little evidence that declining union membership was the result of a change in employee attitudes towards unions.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0601.pdf

Unemployment in Britain: A European Success Story

Christopher A. Pissarides

CEPDP0600. December 2003.Unemployment in Britain has fallen from high European-style levels to US levels. I argue that the key reasons are first the reform of monetary policy, in 1993 with the adoption of inflation targeting and in 1997 with the establishment of the independent Monetary Policy Committee, and second the decline of trade union power. I interpret the reform of monetary policy as an institutional change that reduced inflationary expectations in the face of falling unemployment. The decline of trade union power contributed to the control of wage inflation. The major continental economies failed to match UK performance because of institutional rigidities, despite low inflation expectations.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0600.pdf

Corporate R&D and Productivity in Germany and the United Kingdom

Stephen Bond Dietmar Harhoff John Van Reenen

CEPDP0599. December 2003.This paper analyzes differences in R&D spending and in the impact of R&D on productivity between German and UK firms. We confirm that German firms spend significantly larger amounts on R&D than their UK counterparts, even after controlling for firm size and industry effects. Using a dynamic production function approach, we find that the R&D output elasticity is approximately the same in both countries, implying a much larger rate of return on R&D in the UK than in Germany. We discuss several explanations for this result.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0599.pdf

Buzz: Face-to-Face Contact and the Urban Economy

Michael Storper Anthony J. Venables

CEPDP0598. December 2003.This paper argues that existing models of urban concentrations are incomplete unless grounded in the most fundamental aspect of proximity; face-to-face contact. Face-to-face contact has four main features; it is an efficient communication technology; it can help solve incentive problems; it can facilitate socialization and learning; and it provides psychological motivation. We discuss each of these features in turn, and develop formal economic models of two of them. Face-to-face is particularly important in environments where information is imperfect, rapidly changing, and not easily codified, key features of many creative activities.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0598.pdf

The Incidence of UK Housing Benefit: Evidence from the 1990s Reforms

Steve Gibbons Alan Manning

CEPDP0597. December 2003.Housing Benefit (HB) in the UK subsidizes the rent of tenants in both the private and public sectors. Its share in total welfare benefits has risen markedly through time and there is widespread dissatisfaction with it. But, reform has been very slow. One important issue is the extent to which the incidence of HB is actually on the tenants. Exploiting two data sets from the mid-1990s when the subsidy regime changed for some tenants but not for others, this paper explores the incidence. We find that some of the incidence is on landlords though our two data sets differ in the extent to which this is true. We also find evidence in support of a ¿matching¿ model of the rental market rather tha n a perfectly competitive one.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0597.pdf

The Employment of Married Mothers in Great Britain: 1974-2000

Paul Gregg Maria Gutierrez-Domenech Jane Waldfogel

CEPDP0596. December 2003.This paper analyses the increase in mothers¿ employment in Britain over the period 1974¿2000. The approach consists of isolating those birth cohorts whose mothers experienced significant increases in employment and relating those to changes in policies (maternity rights, taxation and childcare). The results suggest that maternity rights have induced a change in behaviour, toward returning to work in the first year post-birth, among many mothers who would have otherwise gone back to work when their children were age 3 to 5. This effect has been most marked among better-educated and higher paid mothers and has strengthened as real wages have risen through time. However, the paper also suggests that the increased labour market experience and job tenure of mothers as a result of maternity rights legislation has only had a very modest impact on earnings. This is as a result of most of the extra experience being part-time which has very low returns.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0596.pdf

Investment, R&D and Financial Constraints in Britain and Germany

Stephen Bond Dietmar Harhoff John Van Reenen

CEPDP0595. December 2003.This paper tests for the importance of cash flow on investment in fixed capital and R&D using firm-level panel data in two countries between 1985 and 1994. For German firms, cash flow is not informative in simple econometric models of fixed investment or R&D. In identical specifications for British firms, cash flow is informative about investment, although not about the level of R&D spending conditional on the R&D participation decision. In the UK, we also find that investment is less sensitive to cash flow for R&Dperforming firms, and that cash flow predicts whether firms perform R&D or not. We confirm that these differences do not simply reflect a greater role for current cash flow in forecasting future sales. These results suggest that financial constraints are more significant in Britain, that they affect the decision to engage in R&D rather than the level of R&D spending by participants, and that consequently the British firms that do engage in R&D are a self-selected group where financing constraints tend to be less binding.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0595.pdf

Product Choice and Product Switching

Andrew B. Bernard Stephen Redding Peter K. Schott

CEPDP0594. November 2003.This paper develops a model of endogenous product selection by firms. The theory is motivated by new evidence we present on the importance of product switching by U.S. manufacturers. Two-thirds of continuing firms change their product mix every five years, and product switches involve more than 40% of firm output and almost half of existing products. The theoretical model incorporates heterogeneous firms, heterogeneous products, and ongoing entry and exit. In equilibrium, firm productivity is correlated with product fixed costs, with the most productive firms choosing to make the products with the highest fixed costs. Changes in market structure result in systematic patterns of firm entry/exit and product switching.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0594.pdf

Spatial Disparities in Developing Countries: Cities, Regions and International Trade

Anthony J. Venables

CEPDP0593. November 2003.Spatial inequality in developing countries is due to the natural advantages of some regions relative to others and to the presence of agglomeration forces, leading to clustering of activity. This paper reviews and develops some simple models that capture these first and second nature economic geographies. The presence of increasing returns to scale in cities leads to urban structures that are not optimally sized. This depresses the return to job creation, possibly retarding development. Looking at the wider regional structure, development can be associated with large shifts in the location of activity as industry goes from being inward looking to being export oriented.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0593.pdf

Communication Externalities in Cities

Sylvie Charlot Gilles Duranton

CEPDP0592. November 2003.To identify communication externalities in French cities, we exploit a unique survey recording workplace communication of individual workers. Our hypothesis is that in larger and/or more educated cities, workers should communicate more. In turn, more communication should have a positive effect on individual wages. By estimating both an earnings and a communication equation, we find evidence of communication externalities. Being in a larger and more educated city makes workers communicate more and in turn this has a positive effects on wages. However, only a small fraction of the overall effects of a more educated and larger city on wages percolates through this channel.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0592.pdf

Why Do Voice Regimes Differ?

Alex Bryson Rafael Gomez P Willman

CEPDP0591. November 2003.In this paper we seek to explain the emergence of different voice regimes, and to do so by using approaches from institutional economics. In particular we analyse the emergence of different voice regimes as a contracting problem; a ¿make¿ or ¿buy¿ decision on the part of the employer. A unique feature of the model is that the firm, having chosen its particular employee management regime, faces switching costs if it attempts to alter its original make or buy decision. A particular dimension of the employee management regime decision is the use of the union as agent or supplier of voice, or elements thereof. We argue that there are circumstances in which the employer may, on grounds of cost or risk, seek to subcontract aspects of the management of labour to a union and, further, that this (along with the presence of switching costs) helps explain the continued recognition of trade unions in many firms. In other circumstances, however, the employer may seek to construct voice mechanisms without union involvement. Workplace data from Britain are used to test these and other implications of the model.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0591.pdf

Child Labor and the Labor Supply of Other Household Members: Evidence from 1920 America

Marco Manacorda

CEPDP0590. November 2003.This paper analyses the effect of child labor on household labor supply using 1920 US Census micro data. The aim of the analysis is to understand who in the household benefits from child labor. In order to identify a source of exogenous variation in child labor I use State-specific child labor laws. I find that a rise in the proportion of working children by household is associated with no variation in parents¿ labor supply. I also find a strong negative externality among children: as the proportion of working children by household rises, everything else equal, the probability that each child works falls while the probability that he attends school rises. This suggests that parents redistribute entirely the returns from child labor to the children in the household, consistent with a model of household labor supply with fully altruistic parents.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0590.pdf

Why Have Workers Stopped Joining Unions?

Alex Bryson Rafael Gomez

CEPDP0589. November 2003.This paper tracks the rise in the percentage of employees who have never become union members (¿nevermembers¿) since the early 1980s and shows that it is the reduced likelihood of ever becoming a member rather than the haemorrhaging of existing members which is behind the decline in overall union membership in Britain. We estimate the determinants of ¿never-membership¿ and consider how much of the rise can be explained by structural change in the labour market and how much by change in preferences among employees. We find a similar trend in the unionised sector, indicating that the rise in never-membership for the economy as a whole is not linked solely to a decline in the number of recognised workplaces.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0589.pdf

Trade Shocks and Industrial Location: the Impact of EEC Accession on the UK

Henry Overman L. Alan Winters

CEPDP0588. November 2003.This paper combines detailed production data (from the ARD) with international trade data by port to examine the impact of accession to the EEC on the location of UK manufacturing. The paper has two main objectives. The first is to test the implications of models of economic geography for the location of economic activity in a developed economy subject to a significant trade shock. The second is to shed new light on the implications of EEC accession for the UK economy. Our results suggest that accession did eventually encourage UK manufacturing to relocate towards the South-East but that within the aggregate some industries retreated north-westwards in the face of increased import competition. Methodologically we have found that proximity to the ports through which trade occurs is a proxy for export market access and import competition and thus helps to explain industrial location. We have also found that the port-composition of UK trade is partly determined by the country-composition of trade. UK accession changed the country-composition of UK trade and via the port-composition induced an exogenous shock to the relative degrees of export market access and import competition in different UK locations. Our results show that employment responded as predicted to these shocks.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0588.pdf

The Spatial Distribution of Economic Activities in the European Union

Pierre-Philippe Combes Henry Overman

CEPDP0587. October 2003.Abstract This paper considers the spatial distribution of economic activities in the European Union. It has three main aims. (i) To describe the data that is available in the EU and give some idea of the rich spatial data sets that are fast becoming available at the national level. (ii) To present descriptive evidence on the location of aggregate activity and particular industries and to consider how these location patterns are changing over time. (iii) To consider the nature of the agglomeration and dispersion forces that determine these patterns and to contrast them to forces acting elsewhere, in particular the US. Our survey suggests that much has been achieved in the wave of empirical work that has occurred in the past decade, but that much work remains to be done.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0587.pdf

Can We Learn Anything from Economic Geography Proper?

Henry Overman

CEPDP0586. October 2003.Abstract This paper considers the ways geographers (proper) and (geographical) economists approach the study of economic geography. It argues that there are two areas where the approach of the latter is more robust than the former. First, formal models both enforce internal consistency and allow one to move from micro to macro behaviour. Second, empirical work tends to be more rigorous, emphasising the importance of getting representative samples, testing whether findings are significant, identifying and testing empirical predictions from theory and dealing with issues of observational equivalence. But any approach can be improved and so the paper also identifies ways in which geographical economists could learn from the direction taken by economic geographers proper.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0586.pdf

Falling Trade Costs, Heterogeneous Firms and Industry Dynamics

Andrew B. Bernard J. Bradford Jensen Peter K. Schott

CEPDP0585. September 2003.This paper examines the response of industries and firms to changes in trade costs. Several new firm-level models of international trade with heterogeneous firms predict that industry productivity will rise as trade costs fall due to the reallocation of activity across plants within an industry. Using disaggregated U.S. import data, we create a new measure of trade costs over time and industries. As the models predict, productivity growth is faster in industries with falling trade costs. We also find evidence supporting the major hypotheses of the heterogeneous-firm models. Plants in industries with falling trade costs are more likely to die or become exporters. Existing exporters increase their shipments abroad. The results do not apply equally across all sectors but are strongest for industries most likely to be producing horizontally-differentiated tradeable goods.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0585.pdf

Survival of the Best Fit: Exposure to Low-Wage Countries and the (Uneven) Growth of U.S. Manufacturing Plants

Andrew B. Bernard J. Bradford Jensen Peter K. Schott

CEPDP0584. September 2003.This paper examines the role of international trade in the reallocation of U.S. manufacturing activity within and across industries from 1977 to 1997. It introduces a new measure of industry exposure to international trade, motivated by the Heckscher-Ohlin model, which focuses on where imports originate rather than their overall level. Results demonstrate that plant survival as well as output and employment growth are negatively associated with the share of industry imports sourced from the world ¿s lowest-wage countries. Within industries, activity is reallocated towards capital- intensive plants. Plants are also more likely to alter their product mix (i.e. switch industries) in response to trade with low-wage countries. Plants altering their product mix switch to industries that are more capital and skill- intensive.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0584.pdf

Reviewing the Statutory Union Recognition (ERA 1999)

Sian Moore Stephen Wood

CEPDP0583. September 2003.In 2000 the UK government introduced, under the Employment Relations Act of 1999, a new statutory union recognition procedure, while in 2003 it published a consultation document on its Review of the Act. The document concluded that th eunion procedure was broadly working and confirmed that the government would not be changing the procedure's basic features, but outlined some changes that it was proposing and issues on which it sought opinions. This paper assesses, on the basis of the authors' research, whether the procedure is indeed achieving the government's consultative document. The latter was submitted as the authors' response to the review. The authors concur with the document¿s overall judgement that in the first three years of its operation, the procedure is working effectively. It is providing a right to union recognition where the majority of workers want it, encouraging the voluntary resolution of recognition disputes and being used as a last resort, whilst no judicial reviews have, as yet, undermined its operation as happened with the last statutory procedure in the 1990s. Nonetheless there are problems particularly relating to the ability of employers to influence both how the CAC uses its discretion and workers exercise their rights with respect to union recognition, whilst the applications are in the procedure and during recognition ballots. On the basis of this, the author¿s response to the consultative document gauges that many of its arguments for making only limited changes in the procedure¿s fundamentals are sound, as are those where change is envisaged. However, in certain areas more consideration should be given to change, and particularly of ways of limiting the actions of employers that the document concedes might be deemed ¿unfair labour practices¿.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0583.pdf

Corporate Restructuring and Firm Performance of British and German Non-Financial Firms

Thomas Kirchmaier

CEPDP0582. August 2003.This paper examines the ongoing changes in strategy, structure, and performance of the largest 250 non-financial firms in both Britain and Germany. To this end, publicly available firm-level data is presented at first and supplemented by the results of a questionnaire survey that was sent to the chief executives of those companies. What came through from the survey was that many firms in both countries are driven by the desire to specialise and internationalise and are primarily achieving this via ¿horizontal¿ mergers and acquisitions. While seeing a definite convergence in certain areas, clear and distinctive differences remain between the two countries.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0582.pdf

Why is the Rate of Return to Schooling Higher For Women Than For Men?

C Dougherty

CEPDP0581. August 2003.The rate of return to schooling appears to be nearly two percentage points greater for females than for males in the National Longitudinal Survey of Youth data set, despite the fact that females tend to earn less, both absolutely and controlling for personal characteristics. A survey of previous studies reporting wage equations reveals that a higher return to female schooling appears to be the norm, although it has not attracted comment. This paper considers various explanations. The most important involves the detrimental impact of discrimination and other factors that cause women to accept wage offers that undervalue their characteristics. It is hypothesized that the better educated is a woman, the more able and willing she is to overcome the se handicaps and compete with men in the labour market, and an index of discrimination disaggregated by years of schooling is constructed using Oaxaca decompositions. This index is indeed negatively correlated with schooling and it accounts for about one half of the differential in the male and female schooling coefficients. Next considered is the possibility that part of the differential could be attributable to male-female differences in the quality of educational attainment, as proxied by their academic outcomes in high school. The NLSY females did indeed perform better than the males, but there is little association between academic attainment and Earnings and allowing for it made no difference to the estimate of the differential in the returns to schooling. The third explanation considered is that women choose to work in sectors where education is relatively highly valued. Controlling for this effect does indeed account for much of the remaining differential.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0581.pdf

Aggregate Growth and the Efficiency of Labour Reallocation

Simon Burgess Dan Mawson

CEPDP0580. August 2003.We consider the potential importance of labour market efficiency for aggregate growth. The idea is that efficient labour markets move workers more quickly from low to high productivity sites, thereby raising aggregate productivity growth. We define a measure of labour market efficiency as a structural parameter from a matching function. Using labour market data on 15 OECD countries, we estimate this and show that it has a significant effect on growth. The results are robust to a number of different estimation techniques. The quantitative impact of market efficiency is not trivial.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0580.pdf

Poverty and Worklessness in Britain

Stephen Nickell

CEPDP0579. July 2003.Relative poverty in the UK has risen massively since 1979 mainly because of increasing worklessness, rising earnings dispersion and benefits indexed to prices, not wages. So poverty is now at a very high level. The economic forces underlying this are the significant shift in demand against the unskilled which has outpaced the shift in relative supply in the same direction. This has substantially weakened the low-skill labour market which has increased both pay dispersion and worklessness, particularly among low-skilled men. The whole situation has been exacerbated by the very long tail in the skill distribution, so that over 20 per cent of the working age population have very low skills indeed (close to illiterate). Practical policies discussed include improving education and overall well-being for children in the lower part of the ability range, raising wage floors, New Deal policies, tax credits and benefits for the workless. Overall, I would argue that without reducing the long tail in the skill distribution, there is no practical possibility of policy reducing relative poverty to 1979 levels.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0579.pdf

Renegotiating Performance: the Role of Performance Pay in Renegotiating the Effort Bargain.

David Marsden

CEPDP0578. July 2003.Much of the academic and policy literature on performance related pay focuses on its role as an incentive system. Its role as means for renegotiating performance norms has been largely neglected. The introduction of performance related pay, based mostly on appraisals by line managers, in the British public services in the 1990s can be considered as a large-scale social experiment in the change from a seniority - to a performance-based payment system. When reviewing academic research and management inside information on the schemes, a recent government report concluded that they had failed to motivate staff and their operation had been divisive. Nevertheless, other information suggests that productivity rose. This article seeks to resolve the paradox by showing that performance pay was the instrument of a major renegotiation of productivity norms, and that this rather than motivation was the key story. It concludes that when analysing incentive systems, more attention needs to be given to contract theory, and in particular to the articulation of different levels of principal-agent relationships within organisations. The key to the rise in productivity in the British public services lay in how the appraisal activities by line managers were articulated with incentives and goal setting for the different levels of organisational performance in order to secure the passage to different performance norms.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0578.pdf

A Picture of European Unemployment: Success and Failure.

Stephen Nickell

CEPDP0577. July 2003.Average unemployment in Europe today is relatively high compared with OECD countries outside Europe. The majority of countries in Europe today have lower unemployment than any OECD country outside Europe, including the US. These two fa cts are consistent because the four largest countries in Continental Western Europe namely, France, Germany, Italy, Spain, (the Big Four), have very high unemployment and most of the rest have comparatively low unemployment. This variability is highly informative because the fifteen European countries which we consider have more or less independent labour markets in practice, despite ''free'' movement of labour. Using this information we see how changes in the structure of the various labour markets explain a substantial proportion of the secular fluctuations in unemployment in the various countries. In particular, we pin down some of the particular factors which enable us to understand why some European countries have been able fully to recover from the unemployment disasters of the early 1980s whereas some have not.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0577.pdf

Self-Selection and the Performance of Return Migrants: the Source Country Perspective.

Matloob Piracha Augustin de Coulon

CEPDP0576. July 2003.In this paper, using the framework of a Roy theoretical model, we examine the performance of return migrants in Albania. We ask two main questions: (i) Had they chosen not to migrate, what would be the performance of return migrants compared to the non-migrants? and (ii) What would be the performance of non-migrants had they decided to migrate and return? Both our estimates from a selection model and our semi-parametric approach allow us to conclude that the flows of return migrants are negatively selected. We find that, had they decided to migrate and come back, the non-migrants would have earned more than twice the wages of return migrants.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0576.pdf

The Impact on Firms of ICT Skill-Supply Strategies: An Anglo-German Comparison

Jim Foreman Hilary Steedman Karin Wagner

CEPDP0575. June 2003.This paper compares the supply of specialist ICT skills in Britain and Germany from higher education and from apprenticeship and assesses the relative impact on companies in the two countries. In contrast to Britain, where numbers of ICT graduates have expanded rapidly, the supply of university graduates in Germany has not increased. Combined with the constraints of the German occupational model of work organization, it is concluded that this failure of supply may have contributed to slower growth of ICT employment in Germany. At the same time, German firms have turned to a newly developed model of apprenticeship to supply routine technical ICT skills. This strategy contrasts with British firms which recruit from a wide range of graduate specialisms and invest more heavily in graduate training. Probably in part as a consequence, apprenticeship in ICT occupations in Britain has failed to develop.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0575.pdf

The Costs of Urban Property Crime

Steve Gibbons

CEPDP0574. June 2003.This paper estimates the impact of recorded domestic property crime on property prices in the London area. Crimes in the Criminal Damage category have a significant negative impact on prices. Burglaries have no measurable impact on prices, even after allowing for the potential dependence of burglary rates on unobserved property characteristics. A one-tenth standard deviation decrease in the local density of criminal damage adds 1 per cent to the price of an average Inner London property. One explanation we offer here is that vandalism, graffiti and other forms of criminal damage motivate fear of crime in the community and may be taken as signals or symptoms of community instability and neighbourhood deterioration in general.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0574.pdf

Productivity Convergence and Foreign Ownership at the Establishment Level

Rachel Griffith Stephen Redding Helen Simpson

CEPDP0573. June 2003.This paper investigates whether there is convergence in Total Factor Productivity towards the technological frontier at the establishment level. We find convergence to the frontier is statistically and quantitatively important, suggesting the existence of technology spillovers. Foreign multinationals make up a significant proportion of establishments at the technological frontier, and therefore make a contribution to productivity growth through technology transfer. We also find evidence that increased foreign presence within an industry raises the speed of convergence to the technological frontier.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0573.pdf

Distance, Skill Deepening and Development: Will Peripheral Countries Ever Get Rich?

Stephen Redding Peter K. Schott

CEPDP0572. June 2003.This paper models the relationship between countries'' distance from global economic activity, endogenous investments in education, and economic development. Firms in remote locations pay greater trade costs on both exports and intermediate imports, reducing the amount of value added left to remunerate domestic factors of production. If skill- intensive sectors have higher trade costs, more pervasive input-output linkages, or stronger increasing returns to scale, we show theoretically that remoteness depresses the skill premium and therefore incentives for human capital accumulation. Empirically, we exploit structural relationships from the model to demonstrate that countries with lower market access have lower levels of educational attainment. We also show that the world''s most peripheral countries are becoming increasingly economically remote over time.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0572.pdf

Scale Effects in Markets with Search

Barbara Petrongolo Christopher A. Pissarides

CEPDP0571. June 2003.Reduced-form tests of scale effects in markets with search, run when aggregate matching functions are estimated, may miss important scale effects at the micro level, because of the reactions of job searchers. A semi-structural model is developed and estimated on a British sample, testing for scale effects on the offer arrival rate and the wage offer distribution. When contrasting London with the rest of the country we find scale effects in wage offers. But the larger market delivers higher realized wages and not more matches, because the scale effects on matches are offset by the response of reservation wages.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0571.pdf

A Test Between Unemployment Theories Using Matching Data

Melvyn Coles Barbara Petrongolo

CEPDP0570. June 2003.This paper tests whether aggregate matching is consistent with unemployment being mainly due to search frictions or due to job queues. Using U.K. data and correcting for temporal aggregation bias, estimates of the random matching function are consistent with previous work in this field, but random matching is formally rejected by the data. The data instead support ''stock-flow'' matching. Estimates find that around 40 per cent of newly unemployed workers match quickly - they are interpreted as being on the short-side of their skill markets. The remaining workers match slowly, their re-employment rates depending statistically on the inflow of new vacancies and not on the vacancy stock. Having failed to match with existing vacancies, these workers wait for the arrival of new job vacancies. The results have important policy implications, particularly with reference to the design of optimal unemployment insurance programs.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0570.pdf

Does Union Membership Really Reduce Job Satisfaction?

Alex Bryson Lorenzo Cappellari Claudio Lucifora

CEPDP0569. May 2003.We investigate the effect of union membership on job satisfaction. Whilst it is common to study the effects of union status on satisfaction treating individual membership as given, in this paper, we account for the endogenous selection induced by the sorting of workers into unionised jobs. Using linked employer-employee data from the 1998 British Workplace Employee Relations Survey, we address the question of how the membership decision is related to overall job satisfaction and to satisfaction with pay. Once the endogeneity of membership is accounted for, the marked difference in job satisfaction between unionised and non-unionised workers characterising raw data disappears, indicating that a selection effect, rather than a causal effect, explains the relationship.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0569.pdf

Segmentation, Switching Costs and the Demand for Unionization in Britain

Alex Bryson Rafael Gomez

CEPDP0568. May 2003.This paper explains why some employees who favor unionization fail to join, and why others who wish to abandon union membership continue paying dues. Our explanation is based on a model where employees incur switching (search) costs when attempting to abandon (acquire) union membership. Empirical analysis for Britain confirms one of the main predictions from the switching-cost- model that segmentation in the market for unionization persists even when mandatory membership provisions are eliminated and economy-wide density falls. The importance of these and other empirical findings for both theory and policy are discussed.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0568.pdf

Employment After Motherhood: A European Comparison

Maria Gutierrez-Domenech

CEPDP0567. May 2003.There is theoretical evidence that economic and family policies have an important impact on mother''s employment. The aim of this article is to study empirically the women''s transitions from employment to non-employment after they have their first birth in Belgium, West-Germany, Italy, Spain and Sweden. The paper investigates the evolution of post-birth employment across time and how these shifts are related to - cross-country - different policies and society. We also test if the withdrawal from work is due to marriage or to motherhood. Results show that Spain and West-Germany are the countries with the lowest rates of staying on in the labour market after childbearing. Higher education is a key explanatory factor of the probability of post-birth employment in all countries, except for Sweden. In the period 1973-93, Belgian and especially Spanish mothers increased their probability of post-birth employment, ceteris paribus. The opposite movement occurred in West-Germany. Italy and Sweden remained fairly constant. This trend is mainly explained by the taxation system (joint vs. separate), education and part-time employment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0567.pdf

The Performance Effects of European Demergers

Thomas Kirchmaier

CEPDP0566. May 2003.This paper examines security price reactions of European demergers. For a period ranging from one and a half years prior to the demerger announcement through to three years after the execution date, the relative performance of the parent, spin-off and the combined effect is analysed relative to the overall market performance. Significant announcement effects were established for a sample of 48 European demergers. In addition, significant positive long-term value creation, in particular in year 2 after the demerger, was found for the spin-off but not for the parent firm. While size has, on average, a decisive but inverse impact on performance for both parent and spin-off, takeover activity does not.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0566.pdf

Labour Market Performance and Start-Up Costs: OECD Evidence

Paloma Lopez-Garcia

CEPDP0565. October 2002.This paper is intended to make a contribution to the empirical literature explaining the rise of unemployment since the 1970s in western economies by means of interactions between shocks and institutions. The contribution is twofold. First, the impact of a general feature of developed economies that has been surprisingly neglected in the literature is analyzed, namely, the employment shift from industry and agriculture to services. The second contribution of the paper is the focus on the interaction of that shock with the administrative burdens on firm creation. The working hypothesis is that countries that impose high costs on the creation of new companies are not able to create enough jobs in the service sector to successfully absorb the workers released from the agriculture and industry sector. The result is higher unemployment.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0565.pdf

The Real Thin Theory: Monopsony in Modern Labour Markets

Alan Manning

CEPDP0564. May 2003.Models of "modern monopsony" based on job differentiation and/or search frictions seem to give employers non-negligible market power over their workers while avoiding the assumption of "classical monopsony" that employers are large in relation to the size of the labour market that many labour economists find implausible. But, this paper argues that this is somewhat of an illusion because modern theories of monopsony do assume that labour markets are "thin", although in a more subtle way than the classical models. The paper also argues that there is evidence that labour markets are "thin" in a way that gives employers some market power over their workers. It presents a model that combines both the job differentiation and search models of modern monopsony and derives predictions about the relationship between wages and commuting. The paper uses UK data to argue that there is good evidence for these predictions: that there is a robust correlation between wages and commuting distance that is the result of worker job search in a thin labour market, that those with longer commutes are not, on average, fully compensated for them and that there is substantial "wasteful" commuting.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0564.pdf

Digital Goods and the New Economy

Danny Quah

CEPDP0563. March 2003.Digital goods are bitstrings, sequences of 0s and 1s, which have economic value. They are distinguished from other goods by five characteristics: digital goods are nonrival, infinitely expansible, discrete, aspatial, and recombinant. The New Economy is one where the economics of digital goods importantly influence aggregate economic performance. This Article considers such influences not by hypothesizing ad hoc inefficiencies that the New Economy can purport to resolve, but instead by beginning from an Arrow-Debreu perspective and asking how digital goods affect outcomes. This approach sheds light on why property rights on digital goods differ from property rights in general, guaranteeing neither appropriate incentives nor social efficiency; provides further insight into why Open Source Software is a successful model of innovation and development in digital goods industries; and helps explain how geographical clustering matters.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0563.pdf

High Performance Workplaces: the Role of Employee Involvement in a Modern Economy Evidence on the EU Directive Establishing a General Framework for Informing and Consulting Employees

Howard Gospel P Willman

CEPDP0562. February 2003.This paper contains evidence submitted on the DTI green paper ''High Performance Workplaces: The Role of Employee Involvement in a Modern Economy: A Discussion Paper''. This follows on the EU Directive establishing a General Framework for Informing and Consulting Employees. The comments proceed as follows. The first section places the development of representative systems in Britain in a broad historical perspective, arguing that there have been a number of missed opportunities in the past in this area. The second section then maps the current situation - it deals with what British workers obtain by way of representation in general and information and consultation in particular. This is compared broadly in the third section with arrangements in three other major countries, the US, Germany, and France, where we suggest there are important lessons to be learnt. The fourth then deals with what British workers say they want. In the fifth section, we speculate about various scenarios and likely future developments. In the final section, answers are provided to some of the specific questions posed in the consultative document.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0562.pdf

Barriers and the Transition to Modern Growth

L. Rachel Ngai

CEPDP0561. January 2003.This paper studies how differences in the size of barriers to capital accumulation can account for differences in long run economic development paths. In this model barriers affect both the beginning date and the pace of the modern economic growth. A fundamental property of the model is that cross country income differences matches the inverted U-shape pattern over time as observed in the data, hence implies a substantial fraction of existing income differences is really a transitional phenomenon. Relative to papers that model this as steady state phenomenon, my model requires a smaller size of barriers to account for current disparities. Another important finding is that this transitional effect increases significantly when I include the fact that today's low-income countries have had higher population growth rates during their early development stage than did the currently rich countries. In a quantitative exercise I find that given the beginning dates of modern growth, the model accounts for a significant portion of current income differences.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0561.pdf

Shared Modes of Compensation and Firm Performance: UK Evidence.

Martin J. Conyon Richard Freeman

CEPDP0560. October 2002.This paper examines the use and consequences of shared compensation plans (profit sharing, profit related pay, SAYE schemes and company stock option plans) in a sample of UK workplaces and firms in the 1990s. The use of these plans has increased over time, in part in response to government programs. The evidence shows that companies and workplaces adopting shared compensation practices have had higher productivity than other firms, but the effects vary among programs, suggesting that the particulars matter a lot in aligning shared compensation and work place activities. Consistent with incentive theory, the evidence also shows that firms and workplaces with shared compensation practices have a higher incidence of shared decision-making/information sharing practices.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0560.pdf

Marketization of Production and the US-Europe Employment Gap

Richard Freeman Ronald Schettkat

CEPDP0559. October 2002.Women work much more in the US than in Germany and most other EU economies. We find that the US¿German employment gap is not strongly related to cross-country differences in the level of pay or social benefits. The difference in employment is due to the different marketization of activities between the two economies: German women work as many hours as US women when we consider time spent in household production as well as in market production. For instance, German women spend more time preparing meals while US women use take-out and restaurants more intensely. The organization of some social activities, such as schooling, and the dispersion of skills, as well as pay differences, affect the degree of marketization.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0559.pdf

The Labour Market in the New Information Economy

Richard Freeman

CEPDP0558. October 2002.The extension of information and communication technologies to economic activity is changing the labour market in important ways. This article shows that computerization and use of the Internet are associated with greater hours worked as well as higher wages; that IT occupations are rapidly increasing their share of employment; that job search and recruitment are moving rapidly to the Web, with consequences for matching employers and employees; and possibly most important of all, that trade unions have begun to use the Internet as a tool for servicing members and carrying their message to the public, raising the possibility of a major change in the nature of the union movement.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0558.pdf

Institutional Differences and Economic Performance Among OECD Countries

Richard Freeman

CEPDP0557. October 2002.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0557.pdf

The Impact of the Labour Market on the Timing of Marriage and Births in Spain.

Maria Gutierrez-Domenech

CEPDP0556. December 2002.The main purpose of this paper is to show how the labour market affects Spanish individual fertility decisions. Spain is an interesting case due to its huge fertility decline. Our hypothesis is that precarious Spanish labour markets (i.e. high unemployment rates and fixedterm contracts) postpone childbearing. We test if female employment (full and part-time) is a barrier for family formation. The study is done for a sample of both men and women. We analyse two groups, Cohort 1945-60 and Cohort 1961-77 in order to capture social changes. The paper focuses on the timing of marriage and the birth of a first, second and third child using a Cox hazard approach. Results show that female employment delays marriage in Cohort 1945-60 but it has a reverse effect in Cohort 1961-77. We also find that employed women (regardless of the number of hours) postpone first and second birth in any cohort, even accounting for any potential endogeneity between fertility and participation. Female labour market instability plays an important role in family formation, especially by putting off marriage. From our male sample analysis we learn that male unemployment, at the individual level, impacts negatively on fertility only through delaying marriage.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0556.pdf

The Provision of Training in Britain: Case Studies of Inter-Firm Coordination

Jim Foreman Howard Gospel

CEPDP0555. December 2002.This article examines how and why employers cooperate in the provision of training. Such cooperation has a long history in Britain, but it has varied over time in extent and strength. It exists in a strong form in the German speaking countries where employers'' organisations and chambers of commerce are a fundamental part of the training system. In the UK, we argue that this form of training is more prevalent than is often thought and that it can have a positive effect on the quantity and quality of training. Case studies are presented of the following: an industry-wide body, namely an employers'' association; a local multi- industry body, namely a chamber of commerce; a traditional group training association; a local consortium of big employers; and a network of firms in a large company''s supply chain. Though such forms of organisation have much to commend them in the training field, in the UK coverage is uneven and its stability is fragile.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/dp0555.pdf

Factors of Convergence and Divergence in Union Membership

Stephen Machin

CEPDP0554. November 2002.This paper considers to what extent union decline in Britain has been characterised by convergence or divergence in union membership rates for people with different personal and job characteristics. It compares data on individual union membership in 1975, from a period when union membership was high and growing, to data in 2001 data when it is low and has been falling for over twenty years. Some factors of both convergence and divergence are identified. The clearest individual characteristic of convergence is gender. In 1975 there was a big male-female gap in union membership, whilst by 2001 one cannot reject the hypothesis that union membership rates were equal for men and women. The clearest case of divergence is age where the 1975-2001 period sees a widening of the age gap in union membership status. Other factors of convergence are the full- time/part-time status of jobs, ethnicity and workplace size. Other factors of divergence are industry and educational qualifications. Some other factors (like region) are neutral in that their relationship with union membership remains stable through time. Identification of these factors of convergence and divergence should be useful to many parties, including industrial relations scholars and union organisers. Finally, the fact that the magnitude of the relationships between union membership and a number of its determinants have shifted through time illustrates that one should be careful if one wishes to talk about empirical regularities in who is more or less likely to become a trade union member.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0554.pdf

Cross-Generation Correlations of Union Status For Young People in Britain

Jo Blanden Stephen Machin

CEPDP0553. November 2002.In this paper we investigate whether young people whose fathers are union members are themselves more likely to join a union. The work builds upon a large social science literature on intergenerational mobility that, to our knowledge, has not been applied to industrial relations questions. The paper asks questions and provides evidence from British longitudinal data on several issues to do with the cross-generation transmission of union status: i) We first calculate odds ratios, as often used in the literature on social mobility, to look at empirical connections between the union status of young people and their fathers. We calculate relative risk ratios that measure the relative chances that a child of a unionized father is unionized as compared to the relative chances of the child of a non-union father being unionized. This relative risk ratio is of the order of 2, showing that young people with unionized fathers are twice as likely to be unionized as those with non-union fathers. ii) The relative risk ratio is higher, at over 3, for young people with fathers who report themselves as being active in a union. To the extent that active in a union fathers are more likely to ''spread the word'' about unions to their offspring, this higher relative risk ratio supports the idea that the socialization within the family during the formative years passes on positive knowledge about unions to children of unionized parents making them more likely to join a union. iii) The intergenerational correlation of union status has not reduced over time. Despite a widening of the union membership gap between older and younger workers, relative risk ratios calculated from early 1980s data are no larger than those from the 1990s. iv) The cross-generation correlation is not driven by common within-family characteristics (like occupation, industry and political persuasion) that are strongly related to union status in the data.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0553.pdf

Does Inequality in Skills Explain Inequality of Earnings Across Advanced Countries?

Dan Devroye Richard Freeman

CEPDP0552. November 2002.The distribution of earnings and the distribution of skills vary widely among advanced countries, with the major English-speaking countries, the US, UK, and Canada, having much greater inequality in both earnings and skills than continental European Union countries. This raises the possibility that cross-country differences in the distribution of skills determine cross-country differences in earnings inequality. Using the International Adult Literacy Survey, we find that skill inequality explains only about 7% of the cross-country difference in inequality. Most striking, the dispersion of earnings in the US is larger in narrowly defined skill groups than is the dispersion of earnings for European workers overall. The bulk of cross-country differences in earnings inequality occur within skill groups, not between them

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0552.pdf

The Hidden Costs of Fixed Term Contracts: the Impact On Work Accidents

María Guadalupe

CEPDP0551. October 2002.This paper assesses whether there is a systematic difference between the accident rates of fixed term and permanent contract workers that is not just the result of a compositional effect. A pure contractual effect might exist because the short duration of the temporary contract reduces the incentives to invest in specific human capital leading to a higher accident rate. I provide two identification strategies to control for selection and reporting biases. The results confirm there is a pure contractual effect that increases the accident probability by 4 percent to 7 percent.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0551.pdf

City Size Distributions As A Consequence of the Growth Process

Gilles Duranton

CEPDP0550. October 2002.The size distribution of cities in many countries follows some broadly regular patterns. Any good theory of city size distributions should (i) be able to account for this regularity, but also (ii) rely on a plausible economic mechanism and (iii) be consistent with other fundamental features of cities like the existence of agglomeration economies and crowding costs. Unlike the previous literature, the model proposed here satisfies these three requirements. It views small innovation-driven techno logical shocks as the main engine behind the growth and decline of cities. Cities grow or decline as they win or lose industries following new innovations. Formally, this is achieved by embedding the quality-ladder model of growth developed by Grossman and Helpman in an urban framework.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0550.pdf

Explaining Cross-Country Export Performance: International Linkages and Internal Geography

Stephen Redding Anthony J. Venables

CEPDP0549. September 2002.This paper investigates the determinants of countries'' export performance looking in particular at the role of international product market linkages. We begin with a novel decomposition of the growth in countries'' exports into the contribution from increases in external demand and from improved internal supply-side conditions. Building on the results of this decomposition, we move on to an econometric analysis of the determinants of export performance. Results include the finding that poor external geography, poor internal geography, and poor institutional quality contribute in approximately equal measure to explaining Sub-Saharan Africa''s poor export performance.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0549.pdf

It''s Not What You Make, It''s How You Use IT: Measuring the Welfare Benefits of the IT Revolution Across Countries

Tamim Bayoumi Markus Haacker

CEPDP0548. September 2002.This paper analyzes the welfare benefits from falling relative prices of IT (information technology) goods across a wide range of countries. We find, using two separate methodologies and datasets, that welfare benefits mainly accrue to users of IT, not their producers, because of falling relative prices. This is important, as IT production and use are highly differentiated across countries, and implies that earlier work on how IT production affects real GDP, while useful in calibrating the overall benefits of the IT revolution, are a less valuable way of assessing the distribution of benefits.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0548.pdf

Factor Price Equalization in the UK?

Andrew B. Bernard Stephen Redding Peter K. Schott Helen Simpson

CEPDP0547. September 2002.This paper develops a general test of factor price equalization that is robust to unobserved regional productivity differences, unobserved region- industry factor quality differences and variation in production technology across industries. We test relative factor price equalization across regions of the UK. Although the UK is small and densely-populated, we find evidence of statistically significant and economically important departures from relative factor price equalization. Our estimates suggest three distinct relative factor price areas with a clear spatial structure. We explore explanations for these findings, including multiple cones of diversification, region-industry technology differences, agglomeration and increasing returns to scale.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0547.pdf

Employment Penalty After Motherhood In Spain

Maria Gutierrez-Domenech

CEPDP0546. September 2002.This paper investigates whether there exists an employment penalty from motherhood in Spain. In particular, we are interested in transitions from employment to non-employment and downward occupational mobility. Results show that Spanish women experience significant transitions from employment to non-employment after first birth and these shifts are strongly linked to pre-birth job features and education. We find that around 40 percent of Spanish women who were at work one year before childbearing are not in employment one year after. Our analysis reveals that one third of them are unemployed nine months later. Longer follow-up shows that most of those who exit from employment remain out of work permanently. We find that fixed-term contracts (i.e. labour market uncertainty) impacts negatively on the likelihood of re-entry. On the other hand, accumulated human capital (experience and higher level of education) increases the probability of staying at work. There is evidence of differences between cohorts. Whereas in young cohorts exit is exclusively linked to childbearing, in old cohorts leaving employment is already initiated at marriage. For those Spanish women returning to work after confinement, downward occupational mobility is not common due to the lack of part-time jobs.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0546.pdf

Educational Attainment, Labour Market Institutions, and the Structure of Production

Stephen Nickell Stephen Redding Joanna Swaffield

CEPDP0545. September 2002.A key feature of OECD economic growth since the early 1970s has been the secular decline in manufacturing''s share of GDP and the secular rise of service sectors. This paper examines the role played by relative prices, technology, factor endowments, and labour market institutions in the process of "de- industrialization." We find a statistically significant and quantitatively important effect of levels of educational attainment. Furthermore, the production structure responds differently to the educational attainment of men and women. Finally, countries with stronger levels of employment protection are shown to adjust more slowly to changes in prices, technology, and factor endowments.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0545.pdf

Where the Minimum Wage Bites Hard: the Introduction of the UK National Minimum Wage to a Low Wage Sector

Stephen Machin Alan Manning Lupin Rahman

CEPDP0544. September 2002.Between 1993 and April 1999 there was no minimum wage in the UK (except in agriculture). In this paper we study the effects of the introduction of a National Minimum Wage (NMW) in April 1999 on one heavily affected sector, the residential care homes industry. This sector contains a large number of low paid workers and as such is a sector one can view as being very vulnerable to minimum wage legislation. We look at the impact on both wages and employment. Our results suggest that the minimum wage raised the wages of a large number of care homes workers, causing a very big wage compression of the lower end of the wage distribution, thereby strongly reducing wage inequality. There is some evidence of employment and hours reductions after the minimum wage introduction, but there appears to be no effect on home closure.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0544.pdf

Matchmaking: the Influence of Monitoring Environments on the Effectiveness of Performance Pay Systems

Richard Belfield David Marsden

CEPDP0543. August 2002.This study uses cross-section and panel data from the 1998 Workplace Employee Relations Survey to explore contextual influences on the relationship between performance-related pay (PRP) and organizational performance. While it finds strong evidence that the use of PRP can enhance performance outcomes, it also determines that this relationship is qualified by the structure of workplace monitoring environments. In addition, it presents evidence that managers learn about optimum combinations of pay system and monitoring environment through a process of experimentation. Lastly, although there exists a robust positive association in these data between use of PRP and pay inequality, it appears that these higher levels of inequality carry no performance penalty.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0543.pdf

Consumption and Savings with Unemployment Risk: Implications for Optimal Employment Contracts

Christopher A. Pissarides

CEPDP0542. August 2002.This paper derives optimal employment contracts when workers are risk averse and there are employment and unemployment risks. Without income insurance, consumption rises during employment and falls during unemployment. Optimal employment contracts offer severance compensation to smooth consumption during employment without causing moral hazard. A pre-announced delay in dismissal when the job becomes unproductive provides further insurance but because of moral hazard it does not fully smooth consumption. During the delay consumption falls and the worker searches for another job. No delays in dismissals are optimal if exogenous unemployment compensation is sufficiently generous.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0542.pdf

Trade and Industrial Location with Heterogeneous Labor

Mary Amiti Christopher A. Pissarides

CEPDP0541. August 2002.We show in the framework of a new economic geography model that when labor is heterogenous and productivity depends on the quality of the match between job and worker, trade liberalization may lead to industrial agglomeration and inter-industry trade. The agglomeration force is the improvement in the quality of matches when firms recruit from a bigger pool of labor. The forces against agglomeration are the existence of trade costs and monopoly power in the labor market. We show that more heterogeneity in skills attracts both firms and workers to bigger markets and supports agglomeration at higher trade costs.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0541.pdf

Testing for Localisation Using Micro-Geographic Data

Gilles Duranton Henry Overman

CEPDP0540. August 2002.To study the detailed location patterns of industries, and particularly the tendency for industries to cluster relative to overall manufacturing, we develop distance-based tests of localisation. In contrast to previous studies, our approach allows us to assess the statistical significance of departures from randomness. In addition, we treat space as continuous instead of using an arbitrary collection of geographical units. This avoids problems relating to scale and borders. We apply these tests to an exhaustive UK data set. For four-digit industries, we find that (i) only 51% of them are localised at a 5% confidence level, (ii) localisation takes place mostly at small scales below 50 kilometres, (iii) the degree of localisation is very skewed, and (iv) industries follow broad sectoral patterns with respect to localisation. Depending on the industry, smaller establishments can be the main drivers of both localisation and dispersion. Three-digit sectors show similar patterns of localisation at small scales as well as a tendency to localise at medium scales.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0540.pdf

Unions and Productivity, Financial Performance and Investment: International Evidence

David Metcalf

CEPDP0539. July 2002.If the presence of a union in a workplace or firm raises the pay level, unless productivity rises correspondingly, financial performance is likely to be worse. If the product market is uncompetitive this might imply a simple transfer from capital to labour with no efficiency effects, but is probably more likely to lead to lower investment rates and economic senescence. Therefore the impact of unions on productivity, financial performance and investment is extremely important. This paper distils evidence on such effects from six countries: USA, Canada, UK, Germany, Japan and Australia. It is not possible to use theory to predict unambiguously any union effect on productivity because unions can both enhance and detract from the productivity performance of the workplace or firm. The evidence indicates that, in the USA, workplaces with both high performance work systems and union recognition have higher labour productivity than other workplaces. In the UK previous negative links between unions and labour productivity have been eroded by greater competition and more emphasis on ''partnership'' in industrial relations but there is a lingering negative effect of multi-unionism, just as there is in Australia. In Germany the weight of the evidence suggests that the information, consultation and voice role of works councils enhances labour productivity particularly in larger firms. In Japan unions also tend to raise labour productivity via the longer job tenures in union workplaces which makes it more attractive to invest in human capital and through the unpaid personnel manager role played by full-time enterprise union officials in the workplace. Unions will reduce profits if they raise pay and/or lower productivity. The evidence is pretty clear cut: the bulk of studies show that profits or financial performance is inferior in unionised workplaces, firms and sectors than in their non-union counterparts. But the world may be changing. A recent study of small USA entrepreneurial firms found a positive association between unions and profits and in the UK the outlawing of the closed shop, coupled with a lower incidence of multi-unionism has contributed to greater union-management cooperation such that recent studies find no association between unions and profits. North American and German evidence suggests that unionisation reduces investment by around one fifth compared with the investment rate in a non-union workplace. In both Canada and the USA this effect is even felt at low levels of unionisation. The UK evidence is mixed: the most thorough study also finds that union recognition depresses investment, but this adverse effect is offset as density rises. The exception is Japan where union recognition goes hand-in-hand with greater capital intensity.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0539.pdf

Spanish Unemployment Persistence and the Ladder Effect

Fabrice Collard Raquel Fonseca Rafael Munoz

CEPDP0538. July 2002.This paper aims to examine unemployment persistence in Spain by the soûcalled ''ladder'' effect. This arises when highly-skilled workers who do not find a job matching their skills accept jobs which previously were occupied by less qualified staff. We develop a dynamic general equilibrium model, in which two types of workers ù characterised by their level of formal education ù coexist on the labour market. Highly educated workers are then assumed to compete with lowûskilled workers, generating a ladder eñect. The model is then calibrated on the Spanish economy. Our results replicate the observed decline in the ratio of high to lowûskilled vacancies, and explains how firms substitute high for lowûskilled employment. The results also suggest that the Spanish ladder effect may reflect increases in the training costs as a result of a biased-shock against low-skilled workers.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0538.pdf

Home Bias, Transactions Costs, and Prospects for the Euro: A More Detailed Analysis

Catherine L. Mann Ellen E. Meade

CEPDP0537. June 2002.This paper brings together the literature on determination of home bias in equity holdings and the portfolio balance model of exchange rates to consider whether the dollar might be affected by a change in transactions costs that alters international portfolio allocations. Our empirical findings lend support to the view that transactions costs have a significant influence on US portfolio holdings, even after accounting for float market share. In addition, new survey evidence on the equity holdings of European firms indicates home bias for European investors, and points to a reduction in the magnitude of this home bias since 1997.

Full discussion paper: http://cep.lse.ac.uk/pubs/download/DP0537.pdf