valuation of foreign currency options some empirical tests this paper investigates the efficiency of the market for foreign currency options with the help of a modified version of the black scholes model the evidence in the ex post tests is inconsistent with this hypothesis since we find a large number of opportunities for abnormal profits a second set of tests is conducted on an ex ante basis to determine whether these profit opportunities exist even if the execution of the strategy is delayed by one day the evidence from these tests provides more support for the hypothesis of market efficiency

banking in computable general equilibrium economies abstract in this paper we develop a computable general equilibrium economy that models the banking sector explicitly banks intermediate between households and between the household sector and the government sector households borrow from banks to finance their purchases of houses and they lend to banks to save for retirement banks pool households savings and they purchase interest bearing government debt and non interest bearing reserves we use this structure to answer two sets of questions one normative in nature that evaluates the welfare costs of alternative monetary and tax policies and one positive in nature that studies the real effects of following a procyclical interest rate policy rule

the pricing of foreign currency options this study examines the assumption that the exchange rate follows a log normal probability distribution and it tests whether different stochastic specifications translate into important differences in implied option prices we investigate a class of processes which includes the log normal probability distribution as a limiting case none of the models performs particularly well the main problem appears to be that the volatility estimates from actual exchange rate data are significantly smaller than those implied by observed option prices la formation du prix des options sur des devises etrangeres cette etude examine le pos tulat que le taux de change suit une courbe de probabilite log normale et verifie si des specifications stochastiques differentes se traduisent en des diff6rences importantes dans les prix des options qui en decoulent les auteurs examinent une famille de processus dont le processus log normal est un cas limite aucun des modeles ne donne des resultats particu lierement bons le probleme principal semble etre que la volatilite des evaluations a partir des donnees sur les taux de change reel est plus faible et de maniere significative que celle des evaluations derivees des prix d options observes

capital income taxation with housing abstract this paper quantitatively investigates capital income taxation in the general equilibrium overlapping generations model with household heterogeneity and housing housing tax policy is found to affect how capital income should be taxed due to substitution between housing and non housing capital given the existing u s preferential tax treatment for owner occupied housing the optimal capital income tax rate is close to zero 1 contrary to the high optimal capital income tax rate found with overlapping generations models without housing 31 a low capital income tax rate improves welfare by narrowing a tax wedge between housing and non housing capital the narrowed tax wedge indirectly nullifies the subsidies taxes for homeowners renters and corrects over investment to housing naturally when the preferential tax treatment for owner occupied housing is eliminated a high capital income tax rate improves welfare as in the model without housing

on the optimal progressivity of the income tax code this paper computes the optimal progressivity of the income tax code in a dynamic general equilibrium model with household heterogeneity in which uninsurable labor pro ductivity risk gives rise to a nontrivial income and wealth distribution a progressive tax system serves as a partial substitute for missing insurance markets and enhances an equal distribution of economic welfare these bene cial eects of a progressive tax system have to be traded oagainst the e ciency loss arising from distorting endoge nous labor supply and capital accumulation decisions a determination of the optimal progressivity of the income tax code therefore calls for a quantitative exploration using a utilitarian steady state social welfare criterion we nd that the optimal us income tax is well approximated by a at tax rate of19 5 and a xed deduction of about 3 700 the steady state welfare gains from a fundamental tax reform towards this tax system are equivalent to 0 4 higher consumption in each state of the world an explicit computation of the transition path induced by a reform of the current towards the optimal tax system indicates however that a majority of the population currently alive would suer welfare losses calling into question the political feasibility of such

wealth distribution with random discount factors abstract to explain the pareto tail behavior empirically observed in wealth distributions the quantitative macro literature has occasionally assumed that agents have random discount factors this paper formally proves that the stationary wealth distribution in a simple huggett model with random discounting has power law tails and characterizes the pareto exponents analytically i find that in general there is no clear relationship between the return on wealth and inequality and that the pareto exponent is highly sensitive to the persistence of the discount factor process i also provide a practical guidance for how to characterize the pareto exponents in richer models

the transition from payroll to consumption receipts with endogenous human capital abstract the transition from payroll to consumption receipts is simulated in a life cycle growth model featuring adult human capital as in other studies savings are higher under the consumption base however unlike those studies much of the additional savings here take human form human capital production increases for all cohorts in or yet to join the labor market as of the tax change the additional human capital production tends to dampen physical capital accumulation when compared with otherwise identical simulations which hold human capital constant the implications for intergenerational incidence are similar to that found in other examinations of the transition to a consumption base

taxation and household labor supply we evaluate reforms to the u s tax system in a life cycle setup with heterogeneous married and single households and with an operative extensive margin in labor supply we restrict our model with observations on gender and skill premia labor force participation of married females across skill groups children and the structure of marital sorting we concentrate on two revenue neutral tax reforms a proportional income tax and a reform in which married individuals flle taxes separately separate flling our flndings indicate that tax reforms are accompanied by large increases in labor supply that difier across demographic groups with the bulk of the increase coming from married females under a proportional income tax reform married females account for more than 50 of the changes in hours across steady states while under separate flling reform married females account for all the change in hours

heterogeneity and government revenues higher taxes at the top abstract how effective is a more progressive tax scheme in raising revenues we answer this question in a life cycle economy with heterogeneity across households and endogenous labor supply our findings show that a tilt of the u s income tax schedule towards high earners leads to small increases in revenue maximal revenue in the long run is only 6 8 higher than in our benchmark about 0 8 of initial gdp while revenues from all sources increase by just about 0 6 our conclusions are that policy recommendations of this sort are misguided if the aim is to exclusively raise government revenue

assessing the dynamic efficiency gains of tax reform when human capital is endogenous this paper develops a life cycle growth model with endogenous human capital accumulation and variable leisure which is employed to simulate dynamic equal yield changes from an income tax to a consumption tax although endogenizing human capital investment decisions raises partial equilibrium estimates of the efficiency costs of capital income taxation general equilibrium welfare impacts of unanticipated tax changes are little affected by the inclusion of endogenous human capital this finding cannot be fully explained by the presence of general equilibrium adjustments in factor prices and can be attributed in part to the existence of transitional rigidities in capital stocks copyright 1995 by economics department of the university of pennsylvania and the osaka university institute of social and economic research association

taxation of human capital and wage inequality a cross country analysis wage inequality has been significantly higher in the united states than in continental european countries ceu since the 1970s moreover this inequality gap has further widened during this period as the us has experienced a large increase in wage inequality whereas the ceu has seen only modest changes this paper studies the role of labor income tax policies for understanding these facts we begin by documenting two new empirical facts that link these inequality differences to tax policies first we show that countries with more progressive labor income tax schedules have significantly lower before tax wage inequality at different points in time second progressivity is also negatively correlated with the rise in wage inequality during this period we then construct a life cycle model in which individuals decide each period whether to go to school work or be unemployed individuals can accumulate skills either in school or while working wage inequality arises from differences across individuals in their ability to learn new skills as well as from idiosyncratic shocks progressive taxation compresses the after tax wage structure thereby distorting the incentives to accumulate human capital in turn reducing the cross sectional dispersion of before tax wages we find that these policies can account for half of the difference between the us and the ceu in overall wage inequality and 76 of the difference in inequality at the upper end log 90 50 differential when this economy experiences skill biased technological change progressivity also dampens the rise in wage dispersion over time the model explains 41 of the difference in the total rise in inequality and 58 of the difference at the upper end

the effect of taxation on human capital this study finds a significant negative effect of proportional income taxation on human capital of the few earlier studies to address this issue most suggested a negligible effect of taxation on investment in human capital this earlier conclusion is shown to be incorrect by using a model that is more general in several respects than the models used previously

an intertemporal general equilibrium model of asset prices this paper develops a continuous time general equilibrium model of a simple but complete economy and uses it to examine the behavior of asset prices in this model asset prices and their stochastic properties are determined endogenously one principal result is a partial differential equation which asset prices must satisfy the solution of this equation gives the equilibrium price of any asset in terms of the underlying real variables in the economy in this paper we develop a general equilibrium asset pricing model for use in applied research an important feature of the model is its integration of real and financial markets among other things the model endogenously determines the stochastic process followed by the equilibrium price of any financial asset and shows how this process depends on the underlying real variables the model is fully consistent with rational expectations and maximizing behavior on the part of all agents our framework is general enough to include many of the fundamental forces affecting asset markets yet it is tractable enough to be specialized easily to produce specific testable results furthermore the model can be extended in a number of straightforward ways consequently it is well suited to a wide variety of applications for example in a companion paper cox ingersoll and ross 7 we use the model to develop a theory of the term structure of interest rates many studies have been concerned with various aspects of asset pricing under uncertainty the most relevant to our work are the important papers on intertemporal asset pricing by merton 19 and lucas 16 working in a continuous time framework merton derives a relationship among the equilibrium expected rates of return on assets he shows that when investment opportunities are changing randomly over time this relationship will include effects which have no analogue in a static one period model lucas considers an economy with homogeneous individuals and a single consumption good which is produced by a number of processes the random output of these processes is exogenously determined and perishable assets are defined as claims to all or a part of the output of a process and the equilibrium determines the asset prices our theory draws on some elements of both of these papers like merton we formulate our model in continuous time and make full use of the analytical tractability that this affords the economic structure of our model is somewhat similar to that of lucas however we include both endogenous production and

regression toward mediocrity in economic stature this paper provides estimates of the correlation in lifetime earnings between fathers and sons intergenerational data from the national longitudinal survey are used earlier studies conducted for the united states report elasticities of children s earnings with respect to parent s earnings of 0 2 or less suggesting extensive integenerational mobility these estimates however are biased downward by error contaminated measures of lifetime economic status estimates presented in this paper correct for the problem of measurement error and find the intergenerational correlation in income to be on the order of 0 4 this suggests considerably less intergenerational mobility than previously believed jel j62

a welfare analysis of social security in a dynastic framework in this article we study the welfare effects of unfunded social security in a general equilibrium model populated with overlapping generations of altruistic individuals that differ in lifetime expectancy and earnings ability contrary to previous research our results indicate that steady state welfare increases with social security for most households although by very different amounts this result is mainly due to two factors first the presence of two sided altruism significantly mitigates the crowding out effect of unfunded social security second ability shocks and uncertain lifetimes generate significant heterogeneity among households to yield different induced preferences for social security

international comparisons of the distribution of household wealth this volume reports some of the latest available evidence on inequality in household wealth for canada france sweden the uk the usa and west germany the findings can be summarized under three headings the first is the gradual but persistent decline in the degree of wealth inequality among households during the twentieth century second despite this significant downward trend in inequality household wealth is still highly concentrated today third if social security is also included in the household portfolio it can be seen that the development of retirement systems has equalized wealth holdings academic and government economists and social administrators graduate courses on income distribution

beyond education and fairness a labor market taxation model for the great gatsby curve i introduction an intergenerational income elasticity he for a particular country can be thought of as the fraction of a 1 permanent income increase given to a parent that is observed on average in the permanent income of a child thus estimates of the iie are sometimes viewed as a summary measure of the intergenerational economic mobility in a particular country in a 2012 speech then chairman of the u s council of economic advisers alan krueger emphasized the importance of the strong positive cross country correlation between contemporary measures of economic inequality and economic mobility as measured by the iie he further dubbed a graph of this relationship the great gatsby curve although this witty designation is novel the correlation it refers to has been the subject of a great deal of economic research indeed even before the availability of reliable iie data for many countries seshadri and yuki 2004 as well as erosa and koreshkova 2007 provided intergenerational models calibrated to the u s economy that explored potential taxation and transfer mechanisms linking contemporary inequality and mobility however as accurate estimates of this relationship have become available for an increasing number of countries applied researchers investigating the cross country divergence of iies bjorklund and jantti 2009 blanden 2009 corak 2013b have been more heavily influenced by the theoretical model proposed by solon 1999 as later clarified and expanded in solon 2004 which builds on the fundamental model of human capital transmission proposed by becker and tomes 1979 the augmented solon model deliberately focuses on one potential mechanism underlying differences in the iie more specifically differential cross country intergenerational mobility primarily arises in the solon model from the differential government responses to the borrowing constraints faced by the parents of poor children while all parents can choose to make human capital investments in their children they can only finance these investments out of their own lifetime earnings and are unable to borrow against the future earnings of the child these borrowing constraints lead to less investment in human capital by poor parents and subsequently lower earnings for poor children the model also allows governments to address this inequality by investing in the human capital of the future generation in a progressive manner more investment at lower parental incomes thus variations in government policy choices over educational investment combine with existing constraints created by income inequality to produce varying mobility across countries this model is particularly attractive to applied researchers because it provides a clear policy relevant interpretation of the equation parameter most commonly used in the actual empirical estimation of iies another attractive feature of the solon model is that it makes a number of testable empirical claims about this he parameter intergenerational mobility should be positively correlated with cross sectional mobility as well as with government educational investment in the poor the he should also be higher in countries where labor markets provide greater returns to schooling empirical work in highly developed countries has provided preliminary evidence supporting these claims for example ichino karabarbounis and moretti 2011 find a negative relationship between government spending on education particularly at the primary level and he across a dozen countries while mayer and lopoo 2008 find the same pattern holds across u s states blanden 2009 also finds this pattern and goes further to show positive cross country correlations between he and both cross sectional inequality and the returns to education 1 while many predictions of this class of model are borne out in the data there is less evidence in support of the primary mechanism it articulates to produce cross country variation in intergenerational mobility namely a differential response to the borrowing constraints faced by some families in childhood human capital markets

how important is human capital a quantitative theory assessment of world income inequality we develop a quantitative theory of human capital investment in order to evaluate the magnitude of cross country dierences in total factor productivity tfp that explains the variation in per capita incomes across countries we build a heterogeneousagent economy with cross sectional variation in ability schooling and expenditures on schooling quality in our theory the parameters governing human capital production and random ability process have important implications for a set of cross sectional statistics mincer return variance of earnings variance of schooling and intergenerational correlation of earnings these restrictions of the theory and u s household data are used to pin down the key parameters driving the quantitative implications of the theory our main finding is that human capital accumulation strongly amplifies tfp dierences across countries in particular we find an elasticity of output per worker with respect to tfp of 2 8 a 3 fold dierence in tfp explains a 20 fold dierence in output per worker we argue that the cross country dierences in human capital implied by the theory are consistent with a wide array of evidence including earnings of immigrants in the united states average mincer returns across countries and the relationship between average years of schooling and per capita income across countries the theory implies that using mincer returns to measure human capital understates dierences across countries by a factor of 2

time preference and the distributions of wealth and income this paper presents a dynamic competitive equilibrium model in which heterogeneity in time preferences alone can generate the observed patterns of wealth and income inequality in the united states this model generalizes the standard deterministic neoclassical growth model by introducing i a direct preference for wealth by the consumers and ii human capital formation the rst feature prevents the wealth distribution from collapsing into a degenerate distribution the second feature generates a strong positive correlation between earnings and wealth across agents a calibrated version of this model is able to replicate the wealth and income distributions of the united states

on the optimality of age dependent taxes and the progressive u s tax system abstract in life cycle economies where an individual s optimal consumption work plan is almost never constant the optimal marginal tax rates on capital and labor income vary with age conversely the progressivity imbedded in the u s tax code implies that marginal tax rates vary with age because tax rates vary with earnings and earnings vary with age using numerical simulations this paper shows that if the tax authority is prevented from conditioning tax rates on age some degree of progressivity is desirable as progressive taxation better imitates optimal age dependent taxes than an optimal age independent tax system this role for progressive taxation emanates from efficiency reasons and does not rely on any insurance nor re distribution arguments

income and wealth heterogeneity in the macroeconomy how do movements in the distribution of income and wealth affect the macroeconomy we analyze this question using a calibrated version of the stochastic growth model with partially uninsurable idiosyncratic risk and movements in aggregate productivity our main finding is that in the stationary stochastic equilibrium the behavior of the macroeconomic aggregates can be almost perfectly described using only the mean of the wealth distribution this result is robust to substantial changes in both parameter values and model specification our benchmark model whose only difference from the representative agent framework is the existence of uninsurable idiosyncratic risk displays far less cross sectional dispersion and skewness in wealth than u s data however an extension that relies on a small amount of heterogeneity in thrift does succeed in replicating the key features of the wealth data furthermore this extension features aggregate time series that depart significantly from permanent income behavior

diversity and economic performance in a model with progressive taxation is a more heterogeneous population beneficial or harmful to long term economic performance this paper addresses this and other questions in a dynamic general equilibrium model where consumers have different labour productivity and time preference we show how differences in the cross sectional distribution of these characteristics can affect the economy via two channels the first one involves changing the composition of the labour force and the second one involves changing the cross sectional distribution of marginal tax rate we show how these channels are respectively determined by the shape of the labour supply function and the curvature of the marginal tax function

flat tax reform a quantitative exploration abstract this paper explores quantitatively the general equilibrium implications of a revenue neutral tax reform in which the current income and capital income tax structure in the u s is replaced by a flat tax as proposed by hall and rabushka 1995 the flat tax 2nd ed hoover the central aspects of such reform the impact of tax reform on capital accumulation and labor supply as well as its distributional consequences are analyzed in a dynamic general equilibrium model main results are that i the elimination of the actual taxation of capital income has an important and positive effect on capital accumulation ii mean labor hours are relatively constant across tax systems but aggregate labor in efficiency units increases iii in all circumstances analyzed the distributions of earnings income and especially wealth become more concentrated

taxing top earners a human capital perspective we assess the consequences of substantially increasing the marginal tax rate on u s top earners using a human capital model we nd that 1 the peak of the model laer curve occurs at a 52 percent top tax rate 2 if human capital were exogenous then the top of the laer curve would occur at a 66 percent top tax rate and 3 applying the theory and methods that diamond and saez 2011 use to provide quantitative guidance for setting the top tax rate to model data produces a tax rate that substantially exceeds 52 percent

tax policy and human capital formation missing from recent discussions of tax reform is any systematic analysis of the effects of various tax proposals on skill formation this gap in the literature in empirical public finance is due to the absence of any empirically based general equilibrium models with both human capital formation and physical capital formation that are consistent with observations on modern labor markets this paper is a progress report on our ongoing research on formulating and estimating dynamic general equilibrium models with endogenous heterogeneous human capital accumulation our model explains many features of rising wage inequality in the u s economy james heckman lance lochner and christopher taber 1998 in this paper we use our model to study the impacts on skill formation of proposals to switch from progressive taxes to flat income and consumption taxes for the sake of brevity we focus on steady states in this paper although we study both transitions and steady states in our research this abstract was borrowed from another version of this item

misspecification and the pricing and hedging of long term foreign currency options abstract this study examines the effects of stochastic volatility upon the pricing and hedging of long term foreign currency options the traditional method of pricing such options uses a constant volatility option model with an implicit volatility derived from a short term traded option we show that the traditional method leads to small pricing errors for short and medium term options but does a poor job in pricing long term options the traditional method also does a poor job for all maturities in determining the derivatives of the option s value with respect to the exchange rate delta and the volatility vega the errors in calculating these derivatives which are used in forming the replicating portfolio lead to large and costly errors in error hedging

progressive taxation in a dynastic model of human capital abstract we develop a quantitative theory of economic inequality to investigate the effects of replacing the current u s progressive income tax system with a proportional one the cross sectional implications of the theory are used to discipline the assessment of the effects of tax policy and circumvent the lack of conclusive micro evidence on the parameterization of the human capital production technology we find that the elimination of progressive taxation increases steady state level of output by 12 6 capital by 21 8 and consumption by 13 2 moreover it increases economic inequality and its persistence across generations

altruism incomplete markets and tax reform abstract we compute the welfare effects of different revenue neutral tax reforms that eliminate capital income taxation in two general equilibrium models calibrated to the u s economy in our dynastic model the reform with the largest welfare gain is the one that eliminates all income taxation and increases the consumption tax to 35 75 of the population alive at the time of the reform benefit from it individuals use intervivos transfers and bequests to redistribute the long run benefits in a pure life cycle economy that lacks this redistribution technology we find that the same reform would benefit only 9 of the population

minding the gap between schools and universities abstract during the 2000s decade governments in south america reallocated per student public expenditures from tertiary to basic education potentially alleviating the economic gap between students in public schools and public universities to investigate the welfare and macroeconomic effects of such types of policies we build and calibrate a general equilibrium model using brazilian data from the beginning of the 2000s we find that the optimal utilitarian policy allocates per student public expenditures equally across education stages benefits almost the entirety of households delivers significant welfare gains to the poorest families and cuts back income inequality we also use our framework to investigate economic differences between brazil and the united states and find that differences in the supply of vacancies in public universities is the education policy aspect that alone has the highest explanatory power over aggregate earnings and college attendance differences between the two countries

the pricing of call and put options on foreign exchange this paper derives pricing equations for european puts and calls on foreign exchange the call and put pricing formulas are unlike the black scholes equations for stock options in that there are two relevant interest rates interest rates are stochastic and boundary constraints differ in addition it is shown that both american call and put options have values larger than their european counterparts

option values under stochastic volatility theory and empirical estimates abstract this paper numerically solves the call option valuation problem given a fairly general continuous stochastic process for return volatility statistical estimators for volatility process parameters are derived and parameter estimates are calculated for several individual stocks and indices the resulting estimated option values do not differ dramatically from black scholes values in most cases although there is some evidence that for longer maturity index options black scholes overvalues out of the money calls in relation to in the money calls

consumption and risk sharing over the life cycle a striking feature of u s data on income and consumption is that inequality increases with age this paper asks if individual specific earnings risk can provide a coherent explanation we find that it can we construct an overlapping generations general equilibrium model in which households face uninsurable earnings shocks over the course of their lifetimes earnings inequality is exogenous and is calibrated to match data from the u s panel study on income dynamics consumption inequality is endogenous and matches well data from the u s consumer expenditure survey the total risk households face is decomposed into that realized before entering the labor market and that realized throughout the working years in welfare terms the latter is found to be more important than the former