Robust Institutions

I propose to show how to translate the economic analysis of institutions developed in the tradition of worst case political economy into the lingua franca of robust statistics. An institution will be defined as contingent upon a design theory and the difficulty we consider is the use of the institution by the designer.The technical bridge between institutional robustness and statistical robustness is the the possibility of exploratory data analysis [EDA] with respect to the design theory. In an institutional context with EDA comes the recognition that the model is not completely specified, that we do not fully understand the structure of world before studying it. In a statistical context with EDA comes a non-normal error distribution.The relationship between evolutionary institutions and robust institutions is discussed. A conjecture that rule utilitarianism can be thought of as robust utilitarianism is defended with the historical example of William Paley's discussion of the utility of murder.     

Robust political economy

This paper introduces the idea of “robust political economy.” In the context of political economic systems, “robustness” refers to a political economic arrangement's ability to produce social welfare-enhancing outcomes in the face of deviations from ideal assumptions about individuals' motivations and information. Since standard assumptions about complete and perfect information, instantaneous market adjustment, perfect agent rationality, political actor benevolence, etc., rarely, if ever actually hold, a realistic picture and accurate assessment of the desirability of alternative political economic systems requires an analysis of alternative systems' robustness. The Mises-Hayek critique of socialism forms the foundation for investigations of robustness that relax ideal informational assumptions. The Buchanan-Tullock public choice approach complements this foundation in forming the basis for investigations of robustness that relax ideal motivational assumptions. JEL Code B53, P16, P26     

Robust rational turnout

We show that equilibria of a class of participation games (Palfrey and Rosenthal in Public Choice 41(1):7–53, 1983; Journal of Public Economics 24(2):171–193, 1984) exhibit minimal heterogeneity of behavior so that players’ mixed strategies are summarized by at most two probabilities. We then establish that, except for a finite set of common costs of participation, these games are regular. Thus, equilibria of these voting games are robust to general payoff perturbations and survive in nearby games of incomplete information. Thanks to participants of the 2006 MPSA conference for comments on an early version.     

Robust monopoly pricing

We consider a robust version of the classic problem of optimal monopoly pricing with incomplete information. In the robust version, the seller faces model uncertainty and only knows that the true demand distribution is in the neighborhood of a given model distribution. We characterize the pricing policies under two distinct decision criteria with multiple priors: (i) maximin utility and (ii) minimax regret. The equilibrium price under either criterion is lower then in the absence of uncertainty. The concern for robustness leads the seller to concede a larger information rent to all buyers with values below the optimal price without uncertainty.     

Causal Inference and Scientific Explanation in Economics

Journal of Quantitative Economics -     

Innis Lecture: Inference on income distributions

Abstract This paper attempts to provide a synthetic view of varied techniques available for performing inference on income distributions. Two main approaches can be distinguished: one in which the object of interest is some index of income inequality or poverty, the other based on notions of stochastic dominance. From the statistical point of view, many techniques are common to both approaches, although of course some are specific to one of them. I assume throughout that inference about population quantities is to be based on a sample or samples, and, formally, all randomness is due to that of the sampling process. Inference can be either asymptotic or bootstrap based. In principle, the bootstrap is an ideal tool, since in this paper I ignore issues of complex sampling schemes and suppose that observations are IID. However, both bootstrap inference and, to a considerably greater extent, asymptotic inference can fall foul of difficulties associated with the heavy right‐hand tails observed with many income distributions. I mention some recent attempts to circumvent these difficulties.     

Inference approaches for instrumental variable quantile regression

We consider asymptotic and finite sample confidence bounds in instrumental variables quantile regressions of wages on schooling with relatively weak instruments. We find practically important differences between the asymptotic and finite sample interval estimates.     

Derivation of Asset Price Equations Through Statistical Inference

We develop a methodology to extract a quantitative model for behavioral effects in markets from empirical data. A set of 24 asset market experiments are utilized to derive an equation of price and its dependence on momentum, fundamental value, excess bid level and liquidity considerations. A difference equation is derived from a statistical analysis of the data. The methods are quite general and can be utilized in conjunction with other behavioral finance effects that influence price dynamics.     

Robust control and model misspecification

A decision maker fears that data are generated by a statistical perturbation of an approximating model that is either a controlled diffusion or a controlled measure over continuous functions of time. A perturbation is constrained in terms of its relative entropy. Several different two-player zero-sum games that yield robust decision rules are related to one another, to the max-min expected utility theory of Gilboa and Schmeidler [Maxmin expected utility with non-unique prior, J. Math. Econ. 18 (1989) 141-153], and to the recursive risk-sensitivity criterion described in discrete time by Hansen and Sargent [Discounted linear exponential quadratic Gaussian control, IEEE Trans. Automat. Control 40 (5) (1995) 968-971]. To represent perturbed models, we use martingales on the probability space associated with the approximating model. Alternative sequential and nonsequential versions of robust control theory imply identical robust decision rules that are dynamically consistent in a useful sense.     

Robust estimation and inflation forecasting

This paper considers various models emerging from the Fisher effect and/or the term structure of interest rates for inflation forecasting. This paper, it is believed, makes a contribution to the literature on estimation of the models by using a procedure that is robust for non-normal errors, improving the efficiency of the estimates considerably. The Consumer Price Index series, 90 days and 180 days Australian bank-accepted bill rates, covering the sample period 1968Q1 to 1998Q4 were used in this study. Contrary to earlier findings, strong evidence was documented supporting the Fisher effect in the presence of a structural break with the break-point being at 1980Q1. The overall results suggest that the error correction model of the Fisher effect, the term structure of interest rates and short-run dynamics produce superior forecasts, in particular when the models were estimated using the robust method. These findings have important implications for economic policy analysis.     

Robust Implementation in Direct Mechanisms

A social choice function is robustly implementable if there is a mechanism under which the process of iteratively eliminating strictly dominated messages lead to outcomes that agree with the social choice function for all beliefs at every type profile. In an interdependent-value environment with single-crossing preferences, we identify a contraction property on the preferences which together with strict ex post incentive compatibility is sufficient to guarantee robust implementation in the direct mechanism. Strict ex post incentive compatibility and the contraction property are also necessary for robust implementation in any mechanism, including indirect ones. The contraction property requires that the interdependence is not too high. In a linear signal model, the contraction property is equivalent to an interdependence matrix having all eigenvalues smaller than one.     

Robust asset prices with bubbles

We generally establish equilibrium asset prices than can include price bubbles yet (a) be robust to truncations of the economy and (b) exclude trade in non-consumables, like money, stock certificates, or land deeds.     

Advances in Inequality Measurement and Usefulness of Statistical Inference

Assessment of inequality measurement is the focus for this survey. All measures of inequality must be evaluated based on a set of desirable properties. More importantly, the usefulness of statistical inference for measures of inequality needs examination.     

Statistical Inference and Changes in Income Inequality in Australia

This paper studies the changes in income inequality in Australia between 1986 and 1999, using the Gini coefficient and Theil's inequality measure. Individuals are divided into various subgroups along several dimensions, namely region of residence, employment status, occupation and age. The change in inequality over time, between and within these subgroups is studied, and the bootstrap method is used to establish whether these changes are statistically significant .     

Advances in Inequality Measurement and Usefulness of Statistical Inference

Assessment of inequality measurement is the focus for this survey. All measures of inequality must be evaluated based on a set of desirable properties. More importantly, the usefulness of statistical inference for measures of inequality needs examination.

Valid Inference in Partially Unstable Generalized Method of Moments Models

This paper considers time series Generalized Method of Moments (GMM) models where a subset of the parameters are time varying. We focus on an empirically relevant case with moderately large instabilities, which are well approximated by a local asymptotic embedding that does not allow the instability to be detected with certainty, even in the limit. We show that for many forms of the instability and a large class of GMM models, usual GMM inference on the subset of stable parameters is asymptotically unaffected by the partial instability. In the empirical analysis of presumably stable parameters—such as structural parameters in Euler conditions—one can thus ignore moderate instabilities in other parts of the model and still obtain approximately correct inference.     

Empirical Inference with Equilibrium Search Models of the Labour Market

This paper examines the use of equilibrium search models in the empirical analysis of labour markets. We survey the literature on structural estimation of these models with micro data on wages and durations, and we discuss the advantages of this approach for policy analysis and for obtaining a better understanding of the labour market. During the past ten years, substantial progress has been made in terms of the explanatory power of these models. We finish with a critical examination of the extent to which the approach can be fruitfully applied to (matched worker-) firm data.