Fall 2003

Economics 525A
Advanced Macroeconomics I

Robert Shiller
Monday and Wednesday 9:00-10:30
30 Hillhouse Ave., Room 23a, 432-3708

Administrative Assistant: carol.copeland@yale.edu, 432-3726, 30 Hillhouse Ave., Room 11a

This course centers on the treatment of risk in macroeconomics. The course abstracts from the assumption of much macroeconomic theorizing that it is a reasonable objective for economic theory to discover methods of promoting economic growth or stabilizing the economy, and instead studies the economy from the perspective of minimizing the impact of inevitable macroeconomic risks. We study second-moment, rather than just first moment, macroeconomics. The course draws heavily on financial theory and empirics.

Students should have taken Economics 510a and 511b.

Course Requirements: Problem sets, short term paper on one of the topics on the reading list, final exam. *Xeroxed packet

I. Introduction: Macroeconomic Risks

Shiller, Robert, The New Financial Order, Introduction, Chapter 1 (What the World Might Have Looked Like since 1950) and Chapter 2 (The Hidden Problem of Economic Risk).

*Campbell, John Y. and Luis Viceira, Strategic Asset Allocation: Portfolio Choice for Long-Term Investors, Oxford University Press, 2002, Chapter 1.

II. Long Term Nature of Risks: Present Value Models, Asset Price Bubbles

*Campbell, John Y. and Luis Viceira, Strategic Asset Allocation: Portfolio Choice for Long-Term Investors, Oxford University Press, 2002, Chapter 2, 3.

*Campbell, John Y., Andrew Lo, and A. Craig MacKinlay, The Econometrics of Financial Markets, MIT Press, 1997, (present value models) chapters 7–8.

Shiller, Robert J., "Do Stock Prices Move Too Much to be Justified by Subsequent Changes in Dividends?" The American Economic Review, June 1981, 71(3):421–436. (In Shiller Market Volatility, chapter 5). http://www.jstor.org/

De Long, J. Bradford, Andrei Shleifer, Laurence Summers and R. Waldman, "Noise Trader Risk in Financial Markets," Journal of Political Economy, 98: 703–38, 1990. http://www.jstor.org/

Andrei Shleifer and Robert Vishny, "The Limits of Arbitrage," Journal of Finance, 1997, http://papers.nber.org/papers/W5167

Goetzmann, William, and Susan Wachter, "The Global Real Estate Crash: Evidence From an International Database," http://viking.som.yale.edu/will/global/global96.htm

Asdrubaldi, Pierfederico, Bent Sorensen, and Oved Yosha, Channels of Interstate Risk Sharing: United States 1963–90, Quarterly Journal of Economics, 111: 1081–1110, November 1996. http://www.jstor.org/

Angeletos, George Marios, and Laurent Calvet, "Incomplete Markets, Growth and the Business Cycle," http://papers.ssrn.com/sol3/papers.cfm?abstract_id=254709

Athanasoulis, Stefano, and Eric van Wincoop, "Growth, Uncertainty and Risksharing," Journal of Monetary Economics, 45: 477–505, June 2000.

III. Macroeconomic Risk Management

A. Review of Capital Asset Pricing Model and Derivatives in Risk Management

*Breeden, Douglas T., "An Intertemporal Asset Pricing Model with Stochastic Consumption and Investment Opportunities, Journal of Financial Economics, 1979, 7: 265–96.

*Lucas, Robert E., "Asset Prices in an Exchange Economy," Econometrica, November 1978, 46: 1429–1445,  http://www.jstor.org/

Barsky, Robert B., F. Thomas Juster, Miles S. Kimball, and Matthew D.Shapiro, "Preference Parameters and Behavioral Heterogeneity," Quarterly Journal of Economics, May 1997, 112(2): 507–536. http://papers.nber.org/papers/W5213

Geanakoplos, John, and Martin Shubik, "The Capital Asset Pricing Model as a General Equilibrium with Incomplete Markets," The Geneva Papers on Risk and Insurance Theory, Marcy 1990, 15(1): 55–71.

Geanakoplos, John, Michael Magill, Martine Quinzii and Jacques Dreze, "Generic Inefficiency of Stock Market Equilibrium When Markets are Incomplete," Journal of Mathematical Economics, 1990, 19: 113–151.

Merton, Robert C., "Optimum Consumption and Portfolio Rules in a Continuous Time Model," Journal of Economic Theory, December 1971, 3: 373–413.

Merton, Robert C., "An Intertemporal Capital Asset Pricing Model," Econometrica, 44: 867–887, September 1973. http://www.jstor.org/

B. Applications to Macro Risks

Shiller, Robert J., The New Financial Order, Chapter 9: "Macro Markets Trading the Biggest Risks."

Athanasoulis, Stefano, and Robert J. Shiller "World Income Components: Measuring and Exploiting International Risk-Sharing Opportunities," American Economic Review, September 2001, Cowles Foundation Discussion Paper No. 1239.

Athanasoulis, Stefano, and Robert J. Shiller, "The Significance of the Market Portfolio," Review of Financial Studies, 2000. Cowles Foundation Discussion Paper No. 997.

Shiller, Robert J., and Ryan Schneider, "Labor Income Indices Designed for Use in Contracts Promoting Income Risk Management," Review of Income and Wealth, 1998. Cowles Foundation Discussion Paper No. 1110.

Baxter, Marianne, and Urban Jermann, "The International Diversification Puzzle is Worse Than You Think, America Economic Review, March 1997, 87: 170–80.

Bottazzi, Laura, Paulo Pesenti, and Eric van Wincoop, "Wages, Profits, and the International Portfolio Puzzle," European Economic Review, 1996, 40: 219–254.

Barro, Robert J., and Xavier Sala-i-Martin, "Convergence," Journal of Political Economy, 100:223–251, 1992. http://www.jstor.org/

Brainard, William, and F.T. Dolbear, "Social Risk in Financial Markets," American Economic Review, 1971, 61: 360–370.

Backus, David, Patrick Kehoe, and Finn Kydland, "International Real Business Cycles," Journal of Political Economy, 1992, 100: 745–775. http://www.jstor.org/

Davis, Steven, Jeremy Nalewaik and Paul Willen, "ON the Gains to International Trade in Risky Financial Assets," NBER Working Paper No. 7796, 2000. http://papers.nber.org/papers/W7796.

Tesar, Linda L. and Ingrid M. Werner, "International Equity Transactions and U. S. Portfolio Choice," in Jeffrey Frankel (ed.), The Internationalization of Equity Markets, 1994, http://papers.nber.org/papers/W4611

*Baxter, Marianne, Urban J. Jermann, and Robert G. King, "Synthetic Returns on NIPA Assets: An International Comparison," European Economic Review, 1998, 42: 1141–1172.

Caballero, Ricardo J., and Arvind Krishnamurthy, "Smoothing Sudden Stops," NBER Working Paper #8427, 2001, http://papers.nber.org/papers/W8427.

IV. Lessons from Behavioral Economics

Barberis, Nicholas, and Richard C. Thaler, "A Survey of Behavioral Finance," unpublished paper, 2001.

Shleifer, Andrei, Inefficient Markets, Oxford University Press, 2000.

Shiller, Robert J., "Human Behavior and the Efficiency of Financial Markets," in John Taylor and Michael Woodford (eds.), The Handbook of Macroeconomics, 1998. Cowles Foundation Discussion Paper No. 1172.

Thaler, Richard, Quasi-Rational Economics, Russell Sage Foundation, New York, 1991.

Shefrin, Hersh, Beyond Greed and Fear, Harvard Business School Press, 2001.

Benartzi, Shlomo, "Excessive Extrapolation and the Allocation of 401(k) Accounts to Company Stock," Journal of Finance, October 2001.

Benartzi, Shlomo, and Richard Thaler, "Naive Diversification Strategies in Defined Contribution Saving Plans," American Economic Review, March 2001, 91:79–98.

Coval, Joshua, and Toby Moskowitz, "Home Bias at Home: Local Equity Preferene in Domestic Portfolios," Journal of Finance, December 1999, 54: 2045–2073.

Huberman, Gur, "Familiarity Breeds Investment," Review of Financial Studies, Fall 2001, 14: 659–680.

French, Kenneth, and James Poterba, "Investor Diversification and International Equity Markets," American Economic Review, May 1991, 81: 222–296, http://www.jstor.org/

Allen, Franklin, and Stephen Morris, "Finance Applications of Game Theory," Cowles Foundation Discussion Paper No. 1195.

Morris, Stephen, and Hyung Song Shin, "The CNBC Effect: Welfare Effects of Public Information," July 2001. Cowles Foundation Discussion Paper No. 1312.

V. Indexation

Campbell, John Y. and Robert J. Shiller, "A Scorecard for Indexed Government Debt," NBER Macroeconomics Annual, 1996, also as html file on my home page: http://www.econ.yale.edu/~shiller

Robert J. Shiller, The New Financial Order, Chapter 15, "New Units of Measurement and Electronic Money."

Shiller, Robert, "Public Resistance to Indexation: A Puzzle," Brookings Papers on Economic Activity, 1997-I.

Ritter, Jay, and Richard Warr, "The Decline of Inflation and the Bull Market of 1982 to 1999, Journal of Financial and Quantitative Analysis, 2001.

VI. Intergenerational Risk Sharing and Social Security

Shiller, Robert J. Shiller, The New Financial Order, Chapter 12, "Intergenerational Social Security."

*Diamond, Peter, "Macroeconomic Aspects of Social Security Reform," Brookings Papers on Economic Activity, 1997-II.

Bohn, Henning, "Social Security Reform and Financial Markets,"paper presented at Federal Reserve Bank of Boston conference on social security reform, 1997.

Geanakoplos, John, Olivia S. Mitchell and Stephen Zeldes, "Social Security's Money's Worth," August 1998, Cowles Foundation Discussion Paper No. 1193.

Shiller, Robert, "Social Security and Intergenerational, Intragenerational, and International Risk Sharing," Carnegie Rochester Papers, 1998. Cowles Foundation Discussion Paper No. 1185.

Kotlikoff, Laurence J. and Lawrence Summers, "The Role of Intergenerational Transfers in Aggregate Capital Formation," Journal of Political Economy, 89: 706–732, 1981. http://www.jstor.org/.

Ball, Laurence, and N. Gregory Mankiw,"Intergenerational Risk Sharing in the Spirit of Arrow, Debreu and Rawls, with Applications to Social Security Design," NBER Working Paper No. 8270, 2001. http://papers.nber.org/papers/W8270.

VII Housing, Insurance and Long-Term Risks

Shiller, Robert J., The New Financial Order, Chapter Eight pp. 125–128.

Caplin, Andrew, Sewin Chan, Charles Freeman, and Joseph Tracy, Housing Partnerships: A New Approach to a Market at a Crossroads, MIT Press, 1997.

Shiller, Robert J., and Allan N. Weiss, "Home Equity Insurance," Journal of Real Estate Finance and Economics, 1999. Cowles Foundation Discussion Paper 1074. http://papers.nber.org/papers/W4830

Sinai, Todd, and Nicholas Souleles, "Owner Occupied Houisng as Insurance Against Rent Risk," unpublished paper, Wharton School, University of Pennsylvania, May 2001.

Case, Karl E., Robert J. Shiller, and John Quigley, "Stock Market Wealth, Housing Market Wealth, and Consumption," unpublished paper, 2001.

Case, Bradford, William Goetzmann, and Geert Rouwenhorst, "Global Real Estate Markets: Cycles and Fundamentals," March 1999,http://papers.ssrn.com/sol3/papers.cfm?abstract_id=157019

Froot, Kenneth, "The Market for Catastrophe Risk: A Clinical Examination," NBER Working Paper No. 8110, 2001. http://papers.nber.org/papers/W8110