http://www.federalreserve.gov/pubs/workingpapers.htm Staff working papers in the Finance and Economics Discussion Series (FEDS) and International Finance Discussion Papers (IFDPS) are preliminary materials circulated to stimulate discussion and critical comment. The analysis and conclusions set forth are those of the authors and do not indicate concurrence by other members of the research staff or the Board of Governors. References in publications to the FEDS or IFDPS (other than acknowledgment) should be cleared with the author(s) to protect the tentative character of these papers. http://www.federalreserve.gov/pubs/feds/2009/200947/200947abs.html Geng Li. Using the Panel Study of Income Dynamics, we document that, controlling for observable characteristics, household investors' likelihood of entering the stock market within the next five years is about 30 percent higher if their parents or children had entered the stock market during the previous five years. Because even family members who live far away from each other tend to communicate frequently, despite the fact that interactions among people living close geographically have declined with the rise of alternative social channels, we argue that these findings highlight the significance of information sharing regarding household financial decisions. In addition, focusing on the sequential patterns of stock market entry, we explicitly take into account the time needed for information to be shared and disseminated among family members. Our finding that one member's entry positively influences future entries of other family members at distinct stages of the life cycle allows us to largely rule out the hypothesis that the observed correlations in stock market entries are primarily caused by common preferences shared by family members. Furthermore, because we do not find similar sequential patterns in stock market exits, our results do not support the hypothesis of herding behavior. 2009-11-16T15:49:32-05:00 en Information Sharing and Stock Market Participation: Evidence from Extended Families 2009-11-16T15:49:32-05:00 Information sharing stock market participation extended families 2009-47: Information Sharing and Stock Market Participation: Evidence from Extended Families http://www.federalreserve.gov/pubs/feds/2009/200947/200947.pdf PDF version Geng Li Geng Li Board of Governors of the Federal Reserve System Geng Li 2009-11-16T15:49:32-05:00 2009-47 D14 D83 G11 http://www.federalreserve.gov/pubs/feds/2009/200946/200946abs.html Ricardo Correa and Gustavo A. Suarez. This paper exploits the staggered timing of state-level banking deregulation in the United States during the 1980s to study the causal effect of banking integration on the volatility of non-financial corporations. We find that firm-level employment, production, sales, and cash flows are less volatile after interstate banking deregulation, particularly for firms that have limited access to external finance. This finding suggests that bank-dependent firms exploit wider access to finance after deregulation to smooth out idiosyncratic shocks. In fact, short-term credit becomes less pro-cyclical after out-of-state bank entry is permitted. Finally, lower volatility in real-side variables after deregulation translates into lower idiosyncratic risk in stock returns. 2009-11-16T15:24:39-05:00 en Firm Volatility and Banks: Evidence from U.S. Banking Deregulation 2009-11-16T15:24:39-05:00 Bank deregulation firm volatility external finance idiosyncratic volatility 2009-46: Firm Volatility and Banks: Evidence from U.S. Banking Deregulation http://www.federalreserve.gov/pubs/feds/2009/200946/200946.pdf PDF version Ricardo Correa Ricardo Correa Board of Governors of the Federal Reserve System Gustavo Suarez Gustavo Suarez Board of Governors of the Federal Reserve System Ricardo Correa and Gustavo A. Suarez 2009-11-16T15:24:39-05:00 2009-46 G21 G32 http://www.federalreserve.gov/pubs/feds/2009/200945/200945abs.html Claudia R. Sahm, Matthew D. Shapiro, and Joel Slemrod. Only about one-fifth of respondents in the Reuters/University of Michigan survey report that the 2008 tax rebates led them to mostly increase spending, while over half said it would lead them to mostly pay off debt. Of those in the mostly-spend category, the response was swift, with over 80 percent reporting increasing their spending within three months of receiving their rebate. Older households, households with higher wealth and higher income, and those expecting future income growth were generally more likely to spend the rebates. A review of other surveys confirms the general pattern of results and suggests that small changes in survey design do not have a major effect on the distribution of responses. The distribution of survey answers corresponds to an aggregate MPC after one year of about one-third. The paper combines this survey-based estimate of the MPC and the survey-based estimate of the timing of spending to show that the rebates help explain the aggregate movements in saving, spending, and debt in 2008. Because the rebate was large and distributed over a short period, we estimate that it had a non-trivial effect on total spending in the second and third quarters of 2008. Nonetheless, the results imply that the rebates provided only a modest stimulus to spending per dollar of rebate. 2009-11-12T14:35:18-05:00 en Household Response to the 2008 Tax Rebates: Survey Evidence and Aggregate Implications 2009-11-12T14:35:18-05:00 Tax rebates marginal propensity to consume survey responses 2009-45: Household Response to the 2008 Tax Rebates: Survey Evidence and Aggregate Implications http://www.federalreserve.gov/pubs/feds/2009/200945/200945.pdf PDF version Claudia Sahm Claudia Sahm Board of Governors of the Federal Reserve System Matthew Shapiro Matthew Shapiro University of Michigan and NBER Joel Slemrod Joel Slemrod University of Michigan and NBER Claudia R. Sahm, Matthew D. Shapiro, and Joel Slemrod 2009-11-12T14:35:18-05:00 2009-45 C83 E21 H31 http://www.federalreserve.gov/pubs/ifdp/2009/984/default.htm Christopher Gust and David Lopez-Salido. We develop a DSGE model in which aggregate shocks induce endogenous movements in risk. The key feature of our model is that households rebalance their financial portfolio allocations infrequently, as they face a fixed cost of transferring cash across accounts. We show that the model can account for the mean returns on equity and the risk-free rate, and generates countercyclical movements in the equity premium that help explain the response of stock prices to monetary shocks. The model is consistent with empirical evidence documenting that unanticipated changes in monetary policy have important effects on equity prices through changes in risk. 2009-11-10T12:27:54-04:00 en Portfolio Inertia and the Equity Premium 2009-11-09T15:09:30-04:00 FRB Limited financial market participation infrequent portfolio adjustment equity premium IFDP984: Portfolio Inertia and the Equity Premium http://www.federalreserve.gov/pubs/ifdp/2009/984/ifdp984.pdf PDF version Christopher Gust and David Lopez-Salido 2009-11-09T15:09:30-04:00 984 E32 E44 http://www.federalreserve.gov/pubs/ifdp/2009/983/default.htm Martin Bodenstein, Christopher J. Erceg, and Luca Guerrieri. In a two-country DSGE model, the effects of foreign demand shocks on the home country are greatly amplified if the home economy is constrained by the zero lower bound for policy interest rates. This result applies even to countries that are relatively closed to trade such as the United States. The duration of the liquidity trap is determined endogenously. Adverse foreign shocks can extend the duration of the liquidity trap, implying more contractionary effects for the home country; conversely, large positive shocks can prompt an early exit, implying effects that are closer to those when the zero bound constraint is not binding. 2009-11-10T12:27:54-04:00 en The Effects of Foreign Shocks When Interest Rates are at Zero 2009-11-03T12:11:33-04:00 FRB Zero lower bound spillover effects DSGE models IFDP983: The Effects of Foreign Shocks When Interest Rates are at Zero http://www.federalreserve.gov/pubs/ifdp/2009/983/ifdp983.pdf PDF version Martin Bodenstein, Christopher J. Erceg, and Luca Guerrieri 2009-11-03T12:11:33-04:00 983 F32 F41 http://www.federalreserve.gov/pubs/ifdp/2009/982/default.htm James D. Hamilton, Seth Pruitt, and Scott C. Borger. We introduce a novel method for estimating a monetary policy rule using macroeconomic news. Market forecasts of both economic conditions and monetary policy are affected by news, and our estimation links the two effects. This enables us to estimate directly the policy rule agents use to form their expectations, and in so doing flexibly capture the particular dynamics of policy response. We find evidence that between 1994 and 2007 the market-perceived Federal Reserve policy rule changed: the output response vanished, and the inflation response path became more gradual but larger in long-run magnitude. In a standard model we show that output smoothing caused by a larger inflation response magnitude is offset by the more measured pace of response. Our response coefficient estimates are robust to measurement and theoretical issues with both potential output and the inflation target. 2009-11-10T12:27:54-04:00 en The Market-Perceived Monetary Policy Rule 2009-11-02T10:54:09-04:00 FRB Monetary policy rule market perceptions Taylor Rule Fed funds futures IFDP982: The Market-Perceived Monetary Policy Rule http://www.federalreserve.gov/pubs/ifdp/2009/982/ifdp982.pdf PDF version James D. Hamilton, Seth Pruitt, and Scott C. Borger 2009-11-02T10:54:09-04:00 982 E43 E52 E58 http://www.federalreserve.gov/pubs/ifdp/2009/981/default.htm Erik Hjalmarsson and Peter Manchev. We study empirical mean-variance optimization when the portfolio weights are restricted to be direct functions of underlying stock characteristics such as value and momentum. The closed-form solution to the portfolio weights estimator shows that the portfolio problem in this case reduces to a mean-variance analysis of assets with returns given by single-characteristic strategies (e.g., momentum or value). In an empirical application to international stock return indexes, we show that the direct approach to estimating portfolio weights clearly beats a naive regression-based approach that models the conditional mean. However, a portfolio based on equal weights of the single-characteristic strategies performs about as well, and sometimes better, than the direct estimation approach, highlighting again the difficulties in beating the equal-weighted case in mean-variance analysis. The empirical results also highlight the potential for `stock-picking' in international indexes, using characteristics such as value and momentum, with the characteristic-based portfolios obtaining Sharpe ratios approximately three times larger than the world market. 2009-11-10T12:27:54-04:00 en Characteristic-Based Mean-Variance Portfolio Choice 2009-11-02T10:51:55-04:00 FRB Mean-variance analysis momentum strategies portfolio choice stock characteristics value strategies IFDP981: Characteristic-Based Mean-Variance Portfolio Choice http://www.federalreserve.gov/pubs/ifdp/2009/981/ifdp981.pdf PDF version Erik Hjalmarsson and Peter Manchev 2009-11-02T10:51:55-04:00 981 C22 C23 G11 G15 http://www.federalreserve.gov/pubs/ifdp/2009/980/default.htm Alain Chaboud, Benjamin Chiquoine, Erik Hjalmarsson, and Clara Vega. We study the impact that algorithmic trading, computers directly interfacing at high frequency with trading platforms, has had on price discovery and volatility in the foreign exchange market. Our dataset represents a majority of global interdealer trading in three major currency pairs in 2006 and 2007. Importantly, it contains precise observations of the size and the direction of the computer-generated and human-generated trades each minute. The empirical analysis provides several important insights. First, we find evidence that algorithmic trades tend to be correlated, suggesting that the algorithmic strategies used in the market are not as diverse as those used by non-algorithmic traders. Second, we find that, despite the apparent correlation of algorithmic trades, there is no evident causal relationship between algorithmic trading and increased exchange rate volatility. If anything, the presence of more algorithmic trading is associated with lower volatility. Third, we show that even though some algorithmic traders appear to restrict their activity in the minute following macroeconomic data releases, algorithmic traders increase their provision of liquidity over the hour following each release. Fourth, we find that non-algorithmic order flow accounts for a larger share of the variance in exchange rate returns than does algorithmic order flow. Fifth, we find evidence that supports the recent literature that proposes to depart from the prevalent assumption that liquidity providers in limit order books are passive. 2009-11-10T12:27:54-04:00 en Rise of the Machines: Algorithmic Trading in the Foreign Exchange Market 2009-11-02T10:49:12-04:00 FRB Algorithmic trading volatility liquidity provision private information IFDP980: Rise of the Machines: Algorithmic Trading in the Foreign Exchange Market http://www.federalreserve.gov/pubs/ifdp/2009/980/ifdp980.pdf PDF version Alain Chaboud, Benjamin Chiquoine, Erik Hjalmarsson, and Clara Vega 2009-11-02T10:49:12-04:00 980 F3 G12 G14 G15 http://www.federalreserve.gov/pubs/feds/2009/200944/200944abs.html Xin Huang, Hao Zhou, and Haibin Zhu. This paper extends the approach of measuring and stress-testing the systemic risk of a banking sector in Huang, Zhou, and Zhu (2009) to identifying various sources of financial instability and to allocating systemic risk to individual financial institutions. The systemic risk measure, defined as the insurance cost to protect against distressed losses in a banking system, is a risk-neutral concept of capital based on publicly available information that can be appropriately aggregated across different subsets. An application of our methodology to a portfolio of twenty-two major banks in Asia and the Pacific illustrates the dynamics of the spillover effects of the global financial crisis to the region. The increase in the perceived systemic risk, particularly after the failure of Lehman Brothers, was mainly driven by the heightened risk aversion and the squeezed liquidity. The analysis on the marginal contribution of individual banks to the systemic risk suggests that ``too-big-to-fail" is a valid concern from a macroprudential perspective of bank regulation. 2009-11-02T10:05:47-05:00 en Assessing the Systemic Risk of a Heterogeneous Portfolio of Banks During the Recent Financial Crisis 2009-11-02T10:05:47-05:00 Systemic risk macroprudential regulation portfolio distress loss credit default swap dynamic conditional correlation 2009-44: Assessing the Systemic Risk of a Heterogeneous Portfolio of Banks During the Recent Financial Crisis http://www.federalreserve.gov/pubs/feds/2009/200944/200944.pdf PDF version Xin Huang Xin Huang Department of Economics, University of Oklahoma Hao Zhou Hao Zhou Risk Analysis Section, Federal Reserve Board Haibin Zhu Haibin Zhu Bank for International Settlements, Asia-Pacific Office Xin Huang, Hao Zhou, and Haibin Zhu 2009-11-02T10:05:47-05:00 2009-44 G21 G28 G13 http://www.federalreserve.gov/pubs/feds/2009/200943/200943abs.html Larry Cordell, Karen Dynan, Andreas Lehnert, Nellie Liang, and Eileen Mauskopf. Delinquencies on residential mortgages and home foreclosures have risen dramatically in the past couple of years. The mortgage losses triggered a broad-based financial crisis and severe recession, which, in turn, exacerbated the initial financial distress faced by homeowners. Although servicers increased their loss mitigation efforts as defaults began to mount, foreclosures continued to occur in cases where both the borrower and investor would be better off if such an outcome were avoided. The U.S. government has engaged in a number of initiatives to reduce such foreclosures. This paper examines the economic underpinnings of the Administration's loan modification program, the Home Affordable Modification Program (HAMP). We argue that HAMP should help many borrowers avoid foreclosure, as its key features--a standardized protocol, incentive fees for servicers, and a requirement that the first lien mortgage payment be reduced to 31 percent of gross income--alleviate some of the previous obstacles to successful modifications. That said, HAMP is not well-suited to address payment problems associated with job loss because the required modification in such cases would often be too costly to qualify for the program. In addition, the focus of the program on reducing the payments associated with the mortgage rather than the principal of the mortgage may limit its effectiveness when the homeowner's equity is sufficiently negative. In this case, recent government efforts to establish a protocol for short sales should be a useful tool in avoiding costly foreclosure. 2009-10-27T18:15:57-05:00 en Designing Loan Modifications to Address the Mortgage Crisis and the Making Home Affordable Program 2009-10-27T18:15:57-05:00 Mortgage mortgage-servicers mortgage-modification foreclosures HAMP GSEs 2009-43: Designing Loan Modifications to Address the Mortgage Crisis and the Making Home Affordable Program http://www.federalreserve.gov/pubs/feds/2009/200943/200943.pdf PDF version Larry Cordell Larry Cordell Federal Reserve Bank of Philadelphia Karen Dynan Karen Dynan Brookings Institute Andreas Lehnert Andreas Lehnert Board of Governors of the Federal Reserve System Nellie Liang Nellie Liang Board of Governors of the Federal Reserve System Eileen Mauskopf Eileen Mauskopf Board of Governors of the Federal Reserve System Larry Cordell, Karen Dynan, Andreas Lehnert, Nellie Liang, and Eileen Mauskopf 2009-10-27T18:15:57-05:00 2009-43 G01 G21 G28 H40 H20 H00 H81 http://www.federalreserve.gov/pubs/feds/2009/200941/200941abs.html Soohyung Lee and Benjamin A. Malin. We explore education's role in improving the allocation of labor between China's agricultural and nonagricultural sectors and measure the portion of China's recent growth attributable to this channel. Building from micro-level estimates, we find that education's impact on labor reallocation between sectors accounts for about 9 percent of Chinese growth, whereas its impact on within-sector human capital growth explains only 2 percent. Our findings suggest that, when frictions cause large productivity gaps across sectors and returns to education are greater in higher-productivity sectors, education policy may be a useful tool for increasing efficiency. 2009-10-27T09:54:15-05:00 en Education's Role in China's Structural Transformation 2009-10-27T09:54:15-05:00 Returns to education structural transformation China labor reallocation economic growth 2009-41: Education's Role in China's Structural Transformation http://www.federalreserve.gov/pubs/feds/2009/200941/200941.pdf PDF version Soohyung Lee Soohyung Lee University of Maryland and MPRC Benjamin Malin Benjamin Malin Board of Governors of the Federal Reserve System Soohyung Lee and Benjamin A. Malin 2009-10-27T09:54:15-05:00 2009-41 O1 O5 I2 J6 N3 http://www.federalreserve.gov/pubs/feds/2009/200942/200942abs.html Hui Shan. Reverse mortgages allow elderly homeowners to tap into their housing wealth without having to sell or move out of their homes. However, very few eligible homeowners have used reverse mortgages to achieve consumption smoothing until recently when the reverse mortgage market in the United States witnessed substantial growth. This paper examines 1989-2007 loan-level reverse mortgage data and presents a number of findings. First, I show that recent reverse mortgage borrowers are significantly different from earlier borrowers in many respects. Second, I find that borrowers who take the line-of-credit payment plan, single male borrowers, and borrowers with higher house values exit their homes sooner than other reverse mortgage borrowers. Third, I combine the reverse mortgage data with county-level house price data to show that elderly homeowners are more likely to purchase reverse mortgages when the local housing market is at its peak. This finding suggests that the 2000-05 housing market boom may be partially responsible for the rapid growth of reverse mortgage markets. Lastly, I show that the Federal Housing Administration (FHA) mortgage limits, which cap the amount of housing wealth that an eligible homeowner can borrow against, have no effect on the demand for reverse mortgages. The findings have important implications to both policy-making and the economics of housing and aging. 2009-10-19T18:15:08-05:00 en Reversing the Trend: The Recent Expansion of the Reverse Mortgage Market 2009-10-19T18:15:08-05:00 Reverse mortgages housing aging 2009-42: Reversing the Trend: The Recent Expansion of the Reverse Mortgage Market http://www.federalreserve.gov/pubs/feds/2009/200942/200942.pdf PDF version Hui Shan Hui Shan Board of Governors of the Federal Reserve System Hui Shan 2009-10-19T18:15:08-05:00 2009-42 E21 J14 R21 http://www.federalreserve.gov/pubs/feds/2009/200940/200940abs.html Pawel J. Szerszen. In this paper I analyze a broad class of continuous-time jump diffusion models of asset returns. In the models, stochastic volatility can arise either from a diffusion part, or a jump part, or both. The jump component includes either compound Poisson or Levy alpha-stable jumps. To be able to estimate the models with latent Levy alpha-stable jumps, I construct a new Markov chain Monte Carlo algorithm. I estimate all model specifications with S&P500 daily returns. I find that models with Levy alpha-stable jumps perform well in capturing return characteristics if diffusion is a source of stochastic volatility. Models with stochastic volatility from jumps and models with Poisson jumps cannot represent excess kurtosis and tails of return distribution. In density forecast and VaR analysis, the model with Levy alpha-stable jumps and joint stochastic volatility performs the best among all other specifications, since both diffusion and infinite activity jump part provide information about latent volatility. 2009-10-14T16:28:47-05:00 en Bayesian Analysis of Stochastic Volatility Models with Levy Jumps: Application to Risk Analysis 2009-10-14T16:28:47-05:00 Bayesian estimation stochastic volatility Levy Jumps density forecast 2009-40: Bayesian Analysis of Stochastic Volatility Models with Levy Jumps: Application to Risk Analysis http://www.federalreserve.gov/pubs/feds/2009/200940/200940.pdf PDF version Pawel Szerszen Pawel Szerszen Board of Governors of the Federal Reserve System Pawel J. Szerszen 2009-10-14T16:28:47-05:00 2009-40 C1 C11 G1 G12 http://www.federalreserve.gov/pubs/feds/2009/200939/200939abs.html Kenneth P. Brevoort. Using a proprietary dataset of credit bureau records, Cohen-Cole (2008) finds that banks set credit limits on revolving accounts based in part on the racial composition of the neighborhood in which each borrower resides. This paper evaluates the evidence presented in that working paper using the same proprietary database of credit bureau records. The replication effort presented in this paper suggests that decisions about how to calculate the variables used in that study may have resulted in the unnecessary exclusion of one-fifth of available observations from the estimation samples and may have increased the size of the reported effect by over 25 percent. Furthermore, this analysis suggests that when a control for neighborhood income is added to the estimations, the results presented as evidence of redlining activities disappear. 2009-10-14T16:28:34-05:00 en Credit Card Redlining Revisited 2009-10-14T16:28:34-05:00 Credit cards redlining racial disparities discrimination 2009-39: Credit Card Redlining Revisited http://www.federalreserve.gov/pubs/feds/2009/200939/200939.pdf PDF version Kenneth Brevoort Kenneth Brevoort Board of Governors of the Federal Reserve System Kenneth P. Brevoort 2009-10-14T16:28:34-05:00 2009-39 J15 G21 http://www.federalreserve.gov/pubs/feds/2009/200938/200938abs.html Louise Sheiner. The physical process of aging means that the use of health services varies significantly by age. This association between age and health care consumption raises a number of issues related to intergenerational and intragenerational equity, including the allocation of societal resources across age groups and the effects of population aging and health cost growth on public sector health care burdens and, hence, on intergenerational redistribution. This working paper (forthcoming as a chapter in the Oxford Handbook of Health Economics) provides a detailed look at the theoretical and empirical relationships between health spending and age, both in the US and internationally, and reviews the evidence on the intergenerational redistribution associated with public health spending over time. 2009-10-14T16:28:24-05:00 en Intergenerational Aspects of Health Care 2009-10-14T16:28:24-05:00 Health demographics 2009-38: Intergenerational Aspects of Health Care http://www.federalreserve.gov/pubs/feds/2009/200938/200938.pdf PDF version Louise Sheiner Louise Sheiner Board of Governors of the Federal Reserve System Louise Sheiner 2009-10-14T16:28:24-05:00 2009-38 I1