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Banks in low-income countries face severe liquidity risk due to volatile deposits, which destabilize their funding, and dysfunctional liquidity markets, which induce expensive interbank and central bank lending. Such liquidity risk dissuades the transformation of short-term deposits into long-term loans and deters long-term investment. To validate this mechanism, we exploit a Sharia-compliant levy in Pakistan, which generates unintended and quasi-experimental variation in liquidity risk, with data from the credit registry and firm imports. We find that banks with a stronger exposure to liquidity risk lower their supply of long-term finance, which reduces the long-term investment of connected firms.

We present evidence on the operation of incentive pay from a field experiment in Pakistan, looking at piece rates and pay based on rank achieved in a tournament. Importantly, some workers are in contracts ‘tying’ them to the employer for several picking seasons; others are ‘untied’, in the sense of being employed for only the current season. We find that incentive pay (of either type) improves productivity by 30%, on average, but that there are important differences across the types of workers: in particular, tournament incentives are less effective amongst the tied workers. We suggest that our main results have implications for tournament theory and the design of incentive pay schemes, particularly with regard to the fact that they may discourage some workers and, thus, reduce incentives.

Using detailed administrative Pakistani credit registry data, we show that banks with low leverage ratios are both significantly slower and less likely to recognize a loan as nonperforming than other banks that lend to the same firm. Moreover, we find suggestive evidence that this lack of recognition impedes loan curing, with banks with low leverage ratios reporting significantly higher final default rates than other banks for the same borrower (even after controlling for differences in loan terms). Our empirical findings are consistent with the theoretical prediction that classifying a nonperforming loan is more expensive for banks with less capital.

We analyze reductions in bank credit using a natural experiment where unprecedented flooding differentially affected banks that were more exposed to flooded regions in Pakistan. Using a unique dataset that covers the universe of consumer loans in Pakistan and this exogenous shock to bank funding, we find two key results. First, banks disproportionately reduce credit to new and less-educated borrowers, following an increase in their funding costs. Second, the credit reduction is not compensated by relatively more lending by less-affected banks. The empirical evidence suggests that adverse selection is the primary cause for banks disproportionately reducing credit to new borrowers.

We study price setting in Pakistan using 1189 structured interviews of managers organized by the State Bank of Pakistan–Pakistan’s Central Bank. We find that on an annual basis the incidence of price adjustment is three times higher than in developed countries. The remaining price rigidity is explained by the existence of firms’ interactions with the informal sector, strategic interactions with other firms and the uncertainty about temporariness of shocks. The exchange rate and cost-push shocks matter more and are incorporated faster into prices than financial cost and demand-pull shocks. The roughly bimodal nature of price reviewing strategies together with a high frequency of price adjustment imply that monetary policy will carry low potency. Time-dependent price reviewing strategies tend to dominate state-dependent strategies, but the ratio of price reviews to actual adjustment is too high and inconsistent with the moderate levels of inflation experienced by Pakistan.

We exploit exogenous variation in the amount of public information available to banks about a firm to empirically evaluate the importance of adverse selection in the credit market. A 2006 reform introduced by the State Bank of Pakistan (SBP) reduced the amount of public information available to Pakistani banks about a firm's creditworthiness. Prior to 2006, the SBP published credit information not only about the firm in question but also (aggregate) credit information about the firm's group (where the group was defined as the set of all firms that shared one or more director with the firm in question). After the reform, the SBP stopped providing the aggregate group-level information. We propose a model with differentially informed banks and adverse selection, which generates predictions on how this reform is expected to affect a bank's willingness to lend. The model predicts that adverse selection leads less informed banks to reduce lending compared to more informed banks. We construct a measure for the amount of information each lender has about a firm's group using the set of firm-bank lending pairs prior to the reform. We empirically show those banks with private information about a firm lent relatively more to that firm than other, less-informed banks following the reform. Remarkably, this reduction in lending by less informed banks is true even for banks that had a pre-existing relationship with the firm, suggesting that the strength of prior relationships does not eliminate the problem of imperfect information.

In business-cycle research, smoothing data is an essential first step to evaluate the extent to which model-generated moments stand up to their empirical counterparts. We put to test McDermott’s (1997) modified version of Hodrick and Prescott’s (1997) smoothing filter. On the one hand, our simulations suggest that relative to other filters, the modified HP-filter replicates better artificially generated series with known properties. On the other hand, using true data we find that autoregressive properties of smoothed series are not affected by the choice of smoothing HP filters, but the same does not hold when it comes to multivariate analysis. The later result is especially strong for annual data. We report results for a large set of countries.

We explore wage flexibility in a developing country and compare our results to what has been found in similar studies using European data. In particular, we conduct a survey of 1189 firms in Pakistan to analyze the determinants of wage rigidity. We find that the existence of competitive wages and an interaction with the informal economy are statistically significant determinants of wage stickiness. While the role of competitive wages is similar to what has been found in studies of European firms, the latter find a much larger role for turnover, collective bargaining and employment protection. In contrast, in Pakistan we find that firms hiring from the informal sector are significantly more flexible in changing their wages. This suggests that the informal sector adds to the wage flexibility of the formal sector.

This paper uses survey data on 884 firms from Iceland to test some of the implications of the theory of customer markets proposed by Phelps and Winter (1970). Responses indicate that customers are valuable to firms in accordance with the theory. Firms that list customers as the most valuable asset differ from others in more frequently responding that they would keep prices unchanged when interest rates change; they more frequently mention low prices or habit formation as a source of customer loyalty and they attract customers mainly through marketing and salesmanship. Price changes appear not to be an important policy for attracting and retaining customers.

In this paper theoretical and empirical models of intra-industry trade are developed in which economic activities, based on measurement and an associated measurement infrastructure, play a role in creating product variety. The paper discusses how the measurement infrastructure which includes institutions conducting metrological research and standard setting organization reduces transactions costs, especially in markets where differences in product characteristics are important. The theoretical analysis focuses on the public good characteristics of the measurement infrastructure, considering how the infrastructure impacts upon trade in a model based upon product differentiation under monopolistic competition. In the econometric analysis, indicators of the strength of the infrastructure within the EU, both across industries and across countries, suggest that measurement activities are important in determining the extent of bi-lateral EU intra-industry trade. Despite many common elements in the measurement infrastructure across the EU, there is also some evidence of differential access to the infrastructure among EU members.

We assess the power of diverse Artificial Neural-Network (ANN) models as forecasting tools for monthly inflation rates for 28 Organization for Economic Co-operation and Development (OECD) countries. In the context of short out-of-sample forecasting horizon we find that, on average, the ANN models were a superior predictor for inflation for 45% while the Autoregressive model of order one (AR1) model performed better for 23% of the countries. Furthermore, we develop arithmetic combinations of several ANN models and find that these may also serve as credible tools for forecasting inflation.

We apply an optimizing model with relative comparisons (habit formation) in consumption and labour supply to the economics of happiness, specifically the 'Easterlin paradox'. Studying a generalization of the paradox, which we label the 'happiness puzzle', we analyse ways in which income growth affects happiness. In our model, those factors include agents' risk aversion; whether the economy experiences balanced or unbalanced growth; how non-pecuniary factors affect well-being; and the degree of market imperfections. We also demonstrate that the dynamic specification of habit formation rather than its mere existence matters for whether the happiness puzzle arises on a balanced growth path. Only when habit is modelled in ratio form, does this possibility open up. Our model thus bridges the gap between theory, empirics and social policy. It provides a basis for studying a number of specific policy issues, such as corrective taxes. Copyright 2012 Oxford University Press 2011 All rights reserved, Oxford University Press.

The important contribution by Basu and Fernald (20021. Basu , S and Fernald , JG . 2002 . Aggregate productivity and aggregate technology . European Economic Review , 46 : 963 – 91 . [CrossRef], [Web of Science ®] View all references) shows that, in practice, there is a statistically significant gap between aggregate productivity and technology that can be attributed to inefficient product and labour markets. This is important, as it implies that the Solow residual is an imperfect index for aggregate technology change. We take a related approach and find that when we control for capacity utilization, time varying markup and account for externalities between industries, by employing a superior system estimator, the gap between the aggregate productivity and technology is shown to narrow considerably.

In a turnover-training model, where firms fix high wages to lower worker turnover, we find that high risk-aversion in firms speeds up the adjustment process of unemployment to its natural levels when employers face either temporary or permanent shocks. Therefore, risk aversion has a stabilizing affect on the macroeconomy. This result complements the existing explanations for unemployment persistence. It also raises a general point concerning the wide-spread assumption of risk-neutrality on the part of firms in the real business cycle and New Keynesian DSGE literatures. Our analysis suggests that this is not an innocuous assumption for assessing fluctuations and the appropriate policy response. Assuming firms to be risk-neutral understates their self-stabilization characteristics and therefore leads to an exaggerated stabilization role for monetary and fiscal policies. Copyright 2010 Oxford University Press 2009 All rights reserved, Oxford University Press.

This paper considers an extension of the standard cobweb model in a market with local externalities. In contrast with the standard cobweb model, firms must forecast both prices and local quantities; we develop new constructive stability and existence conditions for equilibria with positive outputs. We find evidence of clusters of firms whose output behavior is correlated as equilibrium is reached. We also show that an appropriately defined ‘representative agent model’ with a global externality exhibits the same mean or second-order properties of aggregate output as the more complex model with local externalities.

In this paper we show that when a monopolist incurs certain costs for servicing or maintaining its customer-base, price markups may decrease with high demand — i.e. markups are countercylical. Indeed, for a given market share when demand booms each customer on average will purchase more output and the costs of servicing clients are spread across a larger volume of output sold. This increasing-return effect raises the incentive for the monopolists to expand its market-share by reducing markups. We also find evidence on UK data that industries with higher customer-care costs tend to have a higher degree of coutercyclical markups as compared with industries with lower such costs. Copyright 2007 , Oxford University Press.

The common interpretation of the customer-market model of Phelps and Winter (in Phelps et al. (eds), Microeconomic Foundations of Employment and Inflation Theory, New York, Norton, 1970) is that firms will charge a price lower than the static monopoly mark-up because monopolistic pricing policy is moderated by the potential effect of high prices on customer-flows between sellers. This paper extends the customer-market model to incorporate stochastic customer-flows and shows that in this setting the resultant dynamic mark-ups could potentially exceed the static monopoly mark-ups. Indeed, with an unpredictable nature of customer-flows firms tend to care less about future business and are less keen on investing in customers through lower mark-ups. We also present empirical evidence which positively links mark-ups with proxies for customer-flow randomness.

We exploit exogenous variation in the amount of public information available to banks about a firm to empirically evaluate the importance of adverse selection in the credit market. A 2006 reform introduced by the State Bank of Pakistan (SBP) reduced the amount of public information available to Pakistani banks about a firm's creditworthiness. Prior to 2006, the SBP published credit information not only about the firm in question but also (aggregate) credit information about the firm's group (where the group was defined as the set of all firms that shared one or more director with the firm in question). After the reform, the SBP stopped providing the aggregate group-level information. We propose a model with differentially informed banks and adverse selection, which generates predictions on how this reform is expected to affect a bank's willingness to lend. The model predicts that adverse selection leads less informed banks to reduce lending compared to more informed banks. We construct a measure for the amount of information each lender has about a firm's group using the set of firm-bank lending pairs prior to the reform. We empirically show those banks with private information about a firm lent relatively more to that firm than other, less-informed banks following the reform. Remarkably, this reduction in lending by less informed banks is true even for banks that had a pre-existing relationship with the firm, suggesting that the strength of prior relationships does not eliminate the problem of imperfect information.

In this paper, we establish the nature of short-run fluctuations of the Pakistani economy over the period of 1981-2010. There have been significant changes in the nature of the Pakistani economy over the last few decades. Therefore, we focus our detailed analysis on the last few decades where it seems more appropriate to investigate the nature and causes of business cycles in Pakistan. Furthermore, we evaluate the performance of a typical RBC and an augmented RBC model with an exogenous FDI shock in explaining cyclical fluctuations experienced by the Pakistani economy. We find that a simple RBC model performs poorly in terms of matching relevant second- order moments of short run fluctuations as depicted by the data. However, augmented RBC model performs better compared to the simple RBC model.

This paper provides a systematic empirical study of the role of credit market frictions in the transmission of monetary shocks. First, using macro data for a developing economy (Pakistan), we show that banking spreads are countercyclical, even when we control for credit risk, monetary policy and potential maturity mismatches. Moreover, we find that this anticyclical nature is accentuated in the presence of government as an active participant in the private credit market. Then, using a unique dataset on corporate loan agreements for the period 2006-2011, we find evidence that, in times of tight monetary conditions, there is an overall increase in the pass-through of policy impulses to individual loans rates. Furthermore, our evidence suggest that the impact of these shocks is disproportionately felt by borrowers and is especially biased towards less established firms. Moreover, small (weak) banks change their loan conditions the most in tight conditions. Thus, our findings support the view that the existence of a credit channel is particularly relevant for emerging economies, hence emphasizing the need for appropriate stabilization policies.

We present results of 1189 structured interviews about price-setting behavior of firms in the manufacturing and services sector in Pakistan. Our discoveries are that frequency of price change is considerably high, lowering the real impact of monetary policy. The remaining price stickiness is explained by firms caring about relative prices and the persistence of shocks. The exchange-rate and cost shocks are more important than financial and demand shocks for both setting prices and also the readiness with which these pass-through to the economy. Firms with connections with the informal sector, especially through demand, have a lower probability of price adjustment.

In this paper we develop models of intra-industry trade in which the technological infrastructure associated with measurement activity plays a role in determining the ability of firms to differentiate their products, making them more marketable, and hence promoting intra-industry trade. We observe that public support for the measurement infrastructure is an important element of public support for industry, while publicly available technical standards provide a significant means by which firms make use of this infrastructure. As an empirical test for the importance of the measurement infrastructure, we consider bi-lateral intra-industry trade flows between economies in the EU and find that both a measure of the cross industry importance of the measurement infrastructure – as proxied by standards - as well as the degree of investment in the ability to measure – as proxied by the use of instruments – are important correlates of intraindustry trade. The econometric analysis suggests that differences in national measurement infrastructures continue to play an important role in determining EU trade flows.

This paper reconsiders the empirical results of Basu and Fernald (European Economics Review, 2002) which suggests a significant and persistent gap between the aggregate productivity and technology levels for the US private business sector. We we control for capacity utilisation, time-varying markup and use a superior system estimator, the profile of the gap is shown to change considerably.

This paper presents a model in which firms invest on their customer-networks to maintain current and future profits. The model is used to illustrate how the costs of maintaining networks and uncertainties about the customer-networks reduce the importance of making investments on the customer-based. Empirical evidence provides support for the theory.

A special feature of UK executive pay is the heavy reliance on performance conditions for executive share options. Using data compiled from 2002-2003 Remuneration Committee reports of 130 of Britain's largest companies as well as linked data on analyst earnings forecasts and realised earnings, this paper computes probabilities of Britain's CEOs meeting their performance conditions and how much this varies across firms. Our main findings are that there is not much cross-company variation in how tough performance conditions are, though there are some outliers. We also find that the probability of meeting the targets depends on certain fundamental variables such as the number of non-executive directors, salaries of the chairs of the remcom committees, CEO tenure, CEO base pay and CEO notice periods. While most of the variables have the some sign as expected from theory, the statistical relations are weak. Overall, our results provide some support that good corporate governance leads to tougher targets for CEOs but at the some time the weakness of these links suggests that there is still much room for improvement.