Efficient estimation of macroeconomic equations with unobservable states

Macroeconomic equations, such as the consumption Euler equation, New Keynesian Phillips curve, and Taylor rule, are regularly estimated on an individual basis. However, such relations also jointly determine equilibrium, which may contain unobservable states. This paper shows how to utilize such an equilibrium model to improve the efficiency of individual estimators. In comparison with existing related approaches, this simple framework lends itself naturally to modern medium scale dynamic stochastic general equilibrium models. Not only does the derived estimator exhibit smaller asymptotic variance than equation-by-equation GMM, it also tends to be less prone to small sample distortions from weak identification.     

Efficient estimation of partially linear varying coefficient models

In this paper, we consider the problem of estimating a semiparametric partially linear varying coefficient model. We derive the semiparametric efficiency bound for the asymptotic variance of the finite-dimensional parameter estimator. We also propose an efficient estimator for estimating the finite-dimensional parameter of the model. Simulation results show substantial efficiency gain of our proposed estimator over a conventional estimator as considered in Ahmad et al. (2005).     

Efficient realized variance, regression coefficient, and correlation coefficient under different sampling frequencies

Efficiency of the realized variance of an asset is improved by taking advantage of another asset whose return is cross-sectionally correlated with that of the asset and is less sensitive to market microstructure noises permitting higher frequency sampling than the original asset.     

A decomposition of training probabilities

The determinants of workers' training probabilities are analysed. A distinction is made between the unconditional probability that a worker is employed by a firm that provides any training opportunities at all, and the conditional probability that the worker receives training given that s/he works for a firm that provides training. For this analysis a censored version of the bivariate probit model is applied. The results indicate that establishment size, industry dummies, type of schooling, age and experience affect only the unconditional probability, whereas the type of labour contract, working hours and job level affect only the conditional probability. Years of formal schooling affect both probabilities; more highly educated workers are both more likely to work for training-providing firms and, given that they work for such a firm, to be selected for training programmes.     

On the uniqueness of subjective probabilities

Summary The purpose of this paper is twofold: First, within the framework of Savage (1954), we suggest axiomatic foundations for the representation of event-dependent preference relations over acts. This representation has the form of expectation of event-debendent utility with respect to non-unique subjective probabilities on the set of states. Second, we give an economic-theoretic motivation for selecting a unique probability distribution as an appropriate concept of subjective probabilities. However, unlike in Savage's theory, this notion of subjective probabilities does not necessarily represent the decisions-maker's belief regarding the likelihood of events.Our approach involves a departure from Savage's postulate P4, which guarantees the completeness of Savage's likelihood relation on the set of all events. Instead, we assume the existence of a finite partition of the set of states, {S ₁,...S _n}, such that, for events within each element of this partition P4 is satisfied. This weakening of Savage's axioms suffices for the existence of an expected event-dependent utility representation, but not for the uniqueness of the subjective probabilities.In many economic problems involving decision-making under uncertainty the existence of a unique probability is presumed and, in fact, is essential for the statement of the result. An example is Arrow's (1965) finding that all risk averse decision-makers will invest in a risky asset provided its expected rate of return exceeds that of an alternative risk-free asset. We show that a unique probability distribution can be chosen so as to render such results meaningful. Namely, any risk averse decision-maker will hold a positive position in the risky asset if and only if its expected rate of return with respect to the chosen probability exceeds that of the riskless asset.The research described in this paper began while the authors visited the Mathematisches Forschungsinstitut Oberwolfach, Germany. It was carried out in part while the second author visited the Santa Fe Institute in Sante Fe, New Mexico, USA and the Autonomous University of Barcelona, Spain. The second author would also like to acknowledge the financial support by NSF grant 911873.     

Re-employment probabilities of unemployment benefit recipients

This article studies transitions out of unemployment for benefit recipients in Spain. We analyse the duration of unemployment, distinguishing between spells that end in recall (workers returning to the previous employer) and spells that end in exit to a new job. This distinction allows us to find that the recall hazard rate increases around the time of exhaustion of benefits. However, this happens only for workers receiving Unemployment Insurance (UI). Because we are unable to replicate this result for workers receiving Unemployment Assistance (UA), we believe the finding lends support to the hypothesis that in Spain firms and workers make a strategic use of UI.     

Transition probabilities in a problem of stochastic process switching

Extant solutions for state-contingent process switching use first-passage time densities or differential equations. We alternatively employ transition probabilities. These conditional likelihood functions also have obvious appeal for econometric analyses as well as derivative pricing and decision making under absorption and extinction.     

Marginal and conditional probabilities of excess demand

This note compares and illustrates two criteria for classifying observations on a non-clearing market, namely the marginal probability of excess demand and the probability of excess demand conditional on the observed quantity.     

Matrix scaling of subjective probabilities of economic forecasts

This paper illustrates the application to economic forecasting of a recently developed subjective probability scaling technique. The technique entails eigenvector scaling of paired dominance response judgements. Empirical results, derived from conditional probabilities of pairs of economic scenarios, are encouraging.     

Audit probabilities and tax evasion in a business simulation

This paper examines the role of individual differences and audit probabilities in tax evasion and argues that more elaborate experimental studies of evasion are needed.     

Modeling probabilities of patent oppositions in a Bayesian semiparametric regression framework

Previous econometric analyses of patent data rely on regression methods using purely parametric forms of the predictor for modeling the dependence of the response. These approaches lack the capability of identifying potential non-linear relationships between dependent and independent variables. In this paper, we present a Bayesian semiparametric approach making use of Markov Chain Monte Carlo (MCMC) simulation techniques which is able to capture these non-linearities. Using this methodology we reanalyze the determinants of patent oppositions in Europe for biotechnology/pharmaceutical and semiconductor/computer software patents. Our semiparametric specification clearly finds considerable non-linearities in the effect of various metrical covariates which has been not been discussed previously. Further, a formal model validation based on ROC-methodology which splits the data in a training and a validation data set shows a significant improvement of the explanatory and the predictive power of our approach compared to purely parametric specifications.

Vickrey auctions in the theory of expected utility with rank-dependent probabilities

When decision makers maximize expected utility with rank-dependent probabilities and the object being auctioned is a risky prospect then, with independent private value, Vickrey auctions lose their demand revealing property. Moreover, they might be non-Pareto optimal.     

Winning probabilities in a pairwise lottery system with three alternatives

Summary. The pairwise lottery system is a multiple round voting procedure which chooses by lot a winner from a pair of alternatives to advance to the next round where in each round the odds of selection are based on each alternatives majority rule votes. We develop a framework for determining the asymptotic relative likelihood of the lottery selecting in the final round the Borda winner, Condorcet winner, and Condorcet loser for the three alternative case. We also show the procedure is equivalent to a Borda lottery when only a single round of voting is conducted. Finally, we present an alternative voting rule which yields the same winning probabilities as the pairwise lottery in the limiting case as the number of rounds of the pairwise lottery becomes large.Received: 5 June 2003, Revised: 17 June 2004, JEL Classification Numbers: D71. Correspondence to: Jac C. HeckelmanWe thank Keith Dougherty and Andrew Yates for their comments.     

Underestimation of probabilities modifications: characterization and economic implications

The aim of this paper is to propose a behavioral characterization of individuals who underestimate probabilities modifications and to characterize this behavior in the standard preferences representation models under risk (expected utility, dual theory, rank dependent utility theory and MaxMin expected utility). Our main results are the following. Underreaction to probabilities modifications is in general independent from standard risk aversion and prudence. In models involving probabilities transformation functions, it is characterized by the slope of the probability transformation function. In the MaxMin expected utility model under risk, it is related to the weights of the maximal and minimal consequences in the preferences representation function. Considering a simple prevention decision, consisting in the reduction in the probability of a monetary loss, we show that individuals who underreact to probabilities modifications, invest less in prevention than individuals who objectively evaluate these modifications. Underreaction to probabilities modification is thus a possible explanation for low investment in prevention.     

New experiments in industrial organisation

Experimental economics has devoted much of its relatively short life to the study of issues of industrial organisation, and has achieved notable successes, of considerable value to the development of both the theoretical and empirical aspects of the subject. The general message emerging from the market-level experiments is that the existence of, and convergence to, the (market) equilibrium of neoclassical theory is, in general, well-supported by the experimental evidence; on the other hand, the general message emerging from the individual level experiments is that the foundations of the neoclassical market theories are seriously flawed. This paper argues for new types of experiments in industrial organisation, ones that are theory-suggesting rather than theory-testing, and ones that are more ill-defined than those carried out to date. There is a need to shed some light on how people tackle extremely complicated ill-defined problems as opposed to experiments confined to testing well-defined theories of simple problems with complicated solutions.I am particularly grateful to the ESRC, the Leverhulme Trust and the Fondazione Ivo Vanzi for financing the experiments discussed in this paper. I would also like to pay tribute to Patrizia Sbriglia, who has carried out much of the work on The Combination Race, and to Cristina Pitassi, who has worked with me on the Oligopoly Experiment discussed at the end of the paper. Finally, my especial thanks to Norman Spivey, for writing the software for two of the three experiments discussed here, and to Jo Hall for typing this paper faster than I could write it.     

Induced heterogeneity in trust experiments

Several non-experimental studies claim that heterogeneity among individuals reduces trust. A few experimental studies have examined the effects of naturally-occurring differences among subjects on trusting behavior, and in contrast, most have not supported these claims. We adopt a novel approach by inducing heterogeneity among subjects in a canonical trust experiment. We accomplish this by varying the show-up payments given to subjects for participating in the experiment. We find that this induced inequality does not consistently affect first- or second-mover behavior in the classic trust game in the manner predicted by either previous theoretical work or empirical studies of survey-based measures of trust. Further, the effect of inequality on trust, in terms of both sign and significance, depends on whether show-up payments are awarded publicly or privately. JEL Classification C9, Z13     

Unintended hedging in ambiguity experiments

We describe an ambiguity hedging problem in Ellsberg experiments, where combinations of individually ambiguous bets eliminate aggregate ambiguity, and which may yield incorrect classifications of ambiguity averse subjects. We propose a new classification consistent with this hedging possibility.     

Comprehension in risk elicitation experiments

Economic experiments are increasingly conducted with field populations for whom comprehension of instructions may be more difficult to achieve. We investigate how framing experimental instructions in a familiar context and incentivizing the experimental task may affect comprehension. Based on an experiment with 146 German farmers, we compare four different versions of a Holt-and-Laury multiple price list. We find that incentives have a small positive effect on comprehension, as measured by the probability of making inconsistent choices and subjects’ self-assessment. In the absence of incentives, framing negatively affects comprehension. Comprehension is enhanced for farmers who score high on a numeracy test. We conclude that contextual framing might confuse subjects, whereas incentives can help to facilitate comprehension of experimental instructions.