The private sector was not helpful in curbing Fannie and Freddie

"Eyes Wide Shut? The Moral Hazard of Mortgage Insurers during the Housing Boom," a new NBER Working Paper by Neil Bhutta and Benjamin J. Keys 

Abstract:

In the U.S. mortgage market, private mortgage insurance (PMI) is mandated for high-leverage mortgages purchased by Fannie Mae and Freddie Mac to serve as a private market check on GSE risk-taking.  However, we document that PMI firms dramatically expanded insurance on high-risk mortgages at the tail-end of the housing boom, contradicting the industry's own research regarding house price risk.  Using three detailed sources of mortgage and insurance data, we examine PMI application denial rates, default rates on PMI-backed loans, and growth rates of high-leverage lending around the GSE conforming loan limit, along with information extracted from company, industry and regulatory filings and reports.  We conclude that PMI behavior during the housing boom in part reflects a "moral hazard" incentive inherent to insurance companies in general to underprice risk and be under-capitalized.  Our results suggest that rather than providing discipline, private mortgage insurers facilitated GSE risk-taking.

Gated copy of the working paper can be found here. 

On Dynamic Stochastic General Equilibrium

"On DSGE Models," a new NBER working paper by Lawrence J. Christiano, Martin S. Eichenbaum and Mathias Trabandt 

Abstract

The outcome of any important macroeconomic policy change is the net effect of forces operating on different parts of the economy.  A central challenge facing policy makers is how to assess the relative strength of those forces.  Dynamic Stochastic General Equilibrium (DSGE) models are the leading framework that macroeconomists have for dealing with this challenge in an open and transparent manner.  This paper reviews the state of DSGE models before the financial crisis and how DSGE modelers responded to the crisis and its aftermath.  In addition, we discuss the role of DSGE models in the policy process.

Gated copy at NBER.

What Happened: Financial Factors in the Great Recession

From a new NBER working paper by Mark Gertler and Simon Gilchrist

Abstract:

Since the onset of the Great Recession, an explosion of both theoretical and empirical research has investigated how the financial crisis emerged and how it was transmitted to the real sector. The goal of this paper is to describe what we have learned from this new research and how it can be used to understand what happened during the Great Recession. In the process, we also present some new evidence on the role of the household balance sheet channel versus the disruption of banking. We examine a panel of quarterly state level data on house prices, mortgage debt and employment along with a measure of banking distress. Then exploiting both panel data and time series methods, we analyze the contribution of the house price decline versus the banking distress indicator to the overall decline in employment during the Great Recession. We confirm a common finding in the literature that the household balance sheet channel is important for regional variation in employment. However, we also find that the disruption in banking was central to the overall employment contraction.

Gated copy of the paper is here.  

The Impact of the Dodd-Frank Act on Small Business

from the "The Impact of the Dodd-Frank Act on Small Business," by Michael D. Bordo and John V. Duca 

Abstract

There are concerns that the Dodd-Frank Act (DFA) has impeded small business lending.  By increasing the fixed regulatory compliance requirements needed to make business loans and operate a bank, the DFA disproportionately reduced the incentives for all banks to make very modest loans and reduced the viability of small banks, whose small-business share of C&I loans is generally much higher than that of larger banks. Despite an economic recovery, the small loan share of C&I loans at large banks and banks with $300 or more million in assets has fallen by 9 percentage points since the DFA was passed in 2010, with the magnitude of the decline twice as large at small banks.  

Controlling for cyclical effects and bank size, we find that these declines in the small loan share of C&I loans are almost all statistically attributed to the change in regulatory regime.  Examining Federal Reserve survey data, we find evidence that the DFA prompted a relative tightening of bank credit standards on C&I loans to small versus large firms, consistent with the DFA inducing a decline in small business lending through loan supply effects.  We also empirically model the pace of business formation, finding that it had downshifted around the time when the DFA and the Sarbanes-Oxley Act were announced.  Timing patterns suggest that business formation has more recently ticked higher, coinciding with efforts to provide regulatory relief to smaller banks via modifying rules implementing the DFA.  The upturn contrasts with the impact of the Sarbanes-Oxley Act, which appears to persistently restrain business formation. 

The Lack of Wage Growth and the Falling NAIRU; "Underemployment reduces wage pressure."

From an NBER Working Paper by David N.F. Bell and David G. Blanchflower released today

Abstract:

There remains a puzzle around the world over why wage growth is so benign given the unemployment rate has returned to pre-recession levels.  It is our contention that a considerable part of the explanation is the rise in underemployment which rose in the Great Recession but has not returned to pre-recession levels even though the unemployment rate has.  Involuntary

part-time employment rose in every advanced country and remains elevated in many in 2018.

In the UK we construct the Bell/Blanchflower underemployment index based on reports of whether workers, including full-timers and those who want to be part-time, who say they want to increase or decrease their hours at the going wage rate.  If they want to change their hours they report by how many.  Prior to 2008 our underemployment rate was below the unemployment rate.  Over the

period 2001-2017 we find little change in the number of hours of workers who want fewer hours, but a big rise in the numbers wanting more hours.  Underemployment reduces wage pressure.

We also provide evidence that the UK Phillips Curve has flattened and conclude that the UK NAIRU has shifted down.  The underemployment rate likely would need to fall below 3%, compared to its current rate of 4.9% before wage growth is likely to reach pre-recession levels.  The UK is a long way from full-employment.

A gated version of the paper is available here. 

The Evolution of U.S. Monetary Policy

A very readable overview of monetary policy in the United States by Robert L. Hetzel, a staff economist at the Federal Reserve Bank of Richmond.

Abstract: 

Since the establishment of the Federal Reserve System in 1913, policymakers have always pursued the goal of economic stability. At the same time, their understanding of the world and of the role of monetary policy has changed dramatically. This evolution of views provides a laboratory for understanding what kinds of monetary policy stabilize the economy and what kinds destabilize it.

Available here.

"Did the American Recovery and Reinvestment Act Help Those Most in Need?

"Did the American Recovery and Reinvestment Act Help Those Most in Need? A County-Level Analysis," a new NBER working paper by Mario J. Crucini and  Nam T. Vu. 

Abstract: 

One of the statements of purpose of the American Recovery and Reinvestment Act (ARRA) was "to assist those most impacted by the recession." The ARRA is assessed along this dimension using theoretical concepts from the risk-sharing literature. We estimate a model of income dynamics using a county-level panel of wage income in order to isolate the innovation to income. We then regress these income shocks on ARRA transfers and find 13.1% of the shock is offset by the transfer. While this is a long way from complete risk-sharing, the impacts are economically and statistically significant. Surprisingly, there are large state-contingent effects in the second and third quartiles 25.6% and 15.7% versus a mere 8.5% in the first quartile. By this metric, the policy of helping those most in need was not achieved. 

Paper is available here.