We propose that financial institutions can act as asset insulators, holding assets for the long run to protect their valuations from consequences of exposure to financial markets. We demonstrate the empirical relevance of this theory for the balance sheet behavior of a large class of intermediaries, life insurance companies. The pass-through from assets to equity is an especially informative metric for distinguishing the asset insulator theory from Modigliani-Miller or other standard models. We estimate the pass-through using security-level data on insurers' holdings matched to corporate bond returns. Uniquely consistent with the insulator view, outside of the 2008-2009 crisis insurers lose as little as 15 cents in response to a dollar drop in asset values, while during the crisis the pass-through rises to roughly 1. The rise in pass-through highlights the fragility of insulation exactly when it is most valuable.
We revisit an old question: does industry labor reallocation affect the business cycle? Our empirical methodology exploits variation in a local labor market's exposure to industry reallocation based on the area's initial industry composition and national industry employment trends for identification. Applied to confidential employment data over 1980-2014, we find sharp evidence of reallocation contributing to higher local area unemployment if it occurs during a national recession, but little difference in outcomes during an expansion. A multi-area, multi-sector search and matching model with imperfect mobility across industries and downward nominal wage rigidity can reproduce these cross-sectional patterns.
We document the importance of covenant violations in transmitting bank health to nonfinancial firms using a new supervisory data set of bank loans. More than one-third of loans in our data breach a covenant during the 2008-09 period, providing lenders the opportunity to force a renegotiation of loan terms or to accelerate repayment. Lenders in worse health are less likely to grant a waiver and more likely to force a reduction in the loan commitment. Quantitatively, the reduction in credit to borrowers with long-term credit but who violate a covenant accounts for an 11\% decline in the volume of loans and commitments outstanding during the 2008-09 crisis, slightly larger than the total contraction in credit during that period. We conclude that the transmission of bank health to nonfinancial firms occurs largely through the loan covenant channel.
A geographic cross-sectional fiscal spending multiplier measures the effect of an increase in spending in one region in a monetary union. Empirical studies of such multipliers have proliferated in recent years. I review this research and what the evidence implies for national multipliers. Based on an updated analysis of the American Recovery and Reinvestment Act and a survey of empirical studies, my preferred point estimate for a cross-sectional output multiplier is 1.8. Drawing on a complementary theoretical literature, the paper discusses conditions under which the cross-sectional multiplier provides a rough lower bound for a particular national multiplier, the closed economy, no-monetary-policy-response fiscal spending multiplier. Putting these elements together, the cross-sectional evidence suggests a national no-monetary-policy-response multiplier of about 1.7 or above. The paper concludes by offering suggestions for future research on cross-sectional multipliers.
By how much does an extension of unemployment benefits affect macroeconomic outcomes such as unemployment? Answering this question is challenging because U.S. law extends benefits for states experiencing high unemployment. We use data revisions to decompose the variation in the duration of benefits into the part coming from actual differences in economic conditions and the part coming from measurement error in the real-time data used to determine benefit extensions. Using only the variation coming from measurement error, we find that benefit extensions have a limited influence on state-level macroeconomic outcomes. We use our estimates to quantify the effects of the increase in the duration of benefits during the Great Recession and find that they increased the unemployment rate by at most 0.3 percentage point.
The flow opportunity cost of moving from unemployment to employment consists of foregone public benefits and the foregone value of non-working time in units of consumption. We construct a time series of the opportunity cost of employment using detailed microdata and administrative or national accounts data to estimate benefit levels, eligibility and take-up of benefits, consumption by labor force status, hours per worker, taxes, and preference parameters. Our estimated opportunity cost is procyclical and volatile over the business cycle. The estimated cyclicality implies far less unemployment volatility in many leading models of the labor market than that observed in the data, irrespective of the level of the opportunity cost.
Monetary policy affects the real economy in part through its effects on financial institutions. High frequency event studies show the introduction of unconventional monetary policy in the winter of 2008-09 had a strong, beneficial impact on banks and especially on life insurance companies. I interpret the positive effects on life insurers as expansionary policy recapitalizing the sector by raising the value of legacy assets. Expansionary policy had small positive or neutral effects on banks and life insurers through 2013. The interaction of low nominal interest rates and administrative costs forced money market funds to waive fees, producing a possible incentive to reach for yield to reduce waivers. I show money market funds with higher costs reached for higher returns in 2009-11, but not thereafter. Some private defined benefit pension funds increased their risk taking beginning in 2009, but again such behavior largely dissipated by 2012. In sum, unconventional monetary policy helped to stabilize some sectors and provoked modest additional risk taking in others. I do not find evidence that the riskiness of the financial institutions studied fomented a tradeoff between expansionary policy and financial stability at the end of 2013.
Abstract This paper investigates the effect of bank lending frictions on employment outcomes. I construct a new dataset that combines information on banking relationships and employment at two thousand nonfinancial firms during the 2008-09 crisis. The paper first verifies empirically the importance of banking relationships, which imply a cost to borrowers that switch lenders. I then use the dispersion in lender health following the Lehman crisis as a source of exogenous variation in the availability of credit to borrowers. I find that credit matters. Firms that had pre-crisis relationships with less healthy lenders had a lower likelihood of obtaining a loan following the Lehman bankruptcy, paid a higher interest rate if they did borrow, and reduced employment by more compared to pre-crisis clients of healthier lenders. Consistent with frictions deriving from asymmetric information, the effects vary by firm type. Lender health has an economically and statistically significant effect on employment at small and medium firms, but the data cannot reject the hypothesis of no effect at the largest or most transparent firms. Abstracting from general equilibrium effects, I find that the withdrawal of credit accounts for between one-third and one-half of the employment decline at small and medium firms in the sample in the year following the Lehman bankruptcy.
The American Recovery and Reinvestment Act (ARRA) of 2009 included $88 billion of aid to state governments administered through the Medicaid reimbursement process. We examine the effect of these transfers on states’ employment. Because state fiscal relief outlays are endogenous to a state’s economic environment, OLS results are biased downward. We address this problem by using a state’s prerecession Medicaid pending level to instrument for ARRA state fiscal relief. In our preferred specification, a state’s receipt of a marginal $100,000 in Medicaid outlays results in an additional 3.8 job-years, 3.2 of which are outside the government, health, and education sectors