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- Volume 11, 2019
Annual Review of Economics - Volume 11, 2019
Volume 11, 2019
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Symposium: Universal Basic Income
Vol. 11 (2019),More LessUniversal Basic Income: Some Theoretical Aspects—Maitreesh Ghatak and François Maniquet
Universal Basic Income in the United States and Advanced Countries—Hilary Hoynes and Jesse Rothstein
Universal Basic Income in the Developing World—Abhijit Banerjee, Paul Niehaus, and Tavneet Suri
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The Economics of Kenneth J. Arrow: A Selective Review
Vol. 11 (2019), pp. 1–26More LessThis article reviews Kenneth Arrow's seminal work in economics, giving special emphasis to his contributions to social choice theory and general equilibrium theory.
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Econometrics of Auctions and Nonlinear Pricing
Vol. 11 (2019), pp. 27–54More LessThis review surveys the growing literature on the econometrics of first-price sealed-bid auctions and nonlinear pricing. The complexity of the economic models has initiated fruitful collaborations between econometrics and empirical research. We review the benchmark models and their extensions, the identification of the model primitives, and their nonparametric and semiparametric estimation. We discuss the future of the field, which goes beyond auctions and nonlinear pricing, as both can be viewed as economic mechanisms for price formation, allocation, and market organization.
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The Economics of Parenting
Vol. 11 (2019), pp. 55–84More LessParenting decisions are among the most consequential choices that people make throughout their lives. Starting with the work of pioneers such as Gary Becker, economists have used the tool set of their discipline to understand what parents do and how parents’ actions affect their children. In recent years, the literature on parenting within economics has increasingly leveraged findings and concepts from related disciplines that also deal with parent–child interactions. For example, economists have developed models to understand the choice among various parenting styles that were first explored in the developmental psychology literature and have estimated detailed empirical models of children's accumulation of cognitive and noncognitive skills in response to parental and other inputs. In this review, we survey the economic literature on parenting and point out promising directions for future research.
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Markets for Information: An Introduction
Vol. 11 (2019), pp. 85–107More LessWe survey a recent and growing literature on markets for information. We offer a comprehensive view of information markets through an integrated model of consumers, information intermediaries, and firms. The model embeds a large set of applications ranging from sponsored-search advertising to credit scores to information sharing among competitors. We then zoom in to one of the critical elements in the markets for information: the design of the information. We distinguish between ex ante sales of information (the buyer acquires an information structure) and ex post sales (the buyer pays for specific realizations). We relate this distinction to the different products that brokers, advertisers, and publishers use to trade consumer information online. We discuss the endogenous limits to the trade of information that derive from the potential adverse use of information to the consumers. Finally, we discuss recommender systems and other information filtering systems that use artificial intelligence to predict ratings or preferences in markets for indirect information.
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Global Wealth Inequality
Vol. 11 (2019), pp. 109–138More LessThis article reviews the recent literature on the dynamics of global wealth inequality. I first reconcile available estimates of wealth inequality in the United States. Both surveys and tax data show that wealth inequality has increased dramatically since the 1980s, with a top 1% wealth share of approximately 40% in 2016 versus 25–30% in the 1980s. Second, I discuss the fast-growing literature on wealth inequality across the world. Evidence points toward a rise in global wealth concentration: For China, Europe, and the United States combined, the top 1% wealth share has increased from 28% in 1980 to 33% today, while the bottom 75% share hovered around 10%. Recent studies, however, may underestimate the level and rise of inequality, as financial globalization makes it increasingly hard to measure wealth at the top. I discuss how new data sources (leaks from financial institutions, tax amnesties, and macroeconomic statistics of tax havens) can be leveraged to better capture the wealth of the rich.
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Robustness in Mechanism Design and Contracting
Vol. 11 (2019), pp. 139–166More LessThis review summarizes a nascent body of theoretical research on design of incentives when the environment is not fully known to the designer and offers some general lessons from the work so far. These recent models based on uncertainty and robustness offer an additional set of tools in the toolkit, complementary to more traditional, fully Bayesian modeling approaches, and broaden the range of problems that can be studied. The kinds of insights that such models can offer, and the methodological and technical challenges that they confront, broadly parallel those of traditional approaches.
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Experiments on Cognition, Communication, Coordination, and Cooperation in Relationships
Vol. 11 (2019), pp. 167–191More LessThis review discusses selected work in experimental game theory. My goals are to further the dialogue between theorists and empiricists that has driven progress in economics and game theory and to guide future experimental work. I focus on experiments whose lessons are relevant to establishing and maintaining coordination and cooperation in human relationships, the role of communication in doing so, and the underlying cognition. These are questions of central importance, where both the gap between theory and experience and the role of experiments in closing it seem large. Humans appear to be unique in their ability to use language to manipulate and communicate mental models of the world and of other people, vital skills in relationships. Continuing the dialogue between theorists and empiricists should help to explain why it matters for cooperation that we can communicate, and why and how it matters whether we communicate via natural language or abstract signals.
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Bootstrap Methods in Econometrics
Vol. 11 (2019), pp. 193–224More LessThe bootstrap is a method for estimating the distribution of an estimator or test statistic by resampling one's data or a model estimated from the data. Under conditions that hold in a wide variety of econometric applications, the bootstrap provides approximations to distributions of statistics, coverage probabilities of confidence intervals, and rejection probabilities of hypothesis tests that are more accurate than the approximations of first-order asymptotic distribution theory. The reductions in the differences between true and nominal coverage or rejection probabilities can be very large. In addition, the bootstrap provides a way to carry out inference in certain settings where obtaining analytic distributional approximations is difficult or impossible. This article explains the usefulness and limitations of the bootstrap in contexts of interest in econometrics. The presentation is informal and expository. It provides an intuitive understanding of how the bootstrap works. Mathematical details are available in the references that are cited.
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Experiments and Entrepreneurship in Developing Countries
Vol. 11 (2019), pp. 225–248More LessWe discuss the value of experiments in illuminating constraints on the growth of firms in developing countries. Experiments have provided insight into both the value and the difficulty of alleviating capital constraints in small firms. They suggest that urban, low-skilled labor markets appear to work reasonably well for firms, although there is a suggestion that frictions in markets for skilled workers may have more effect on firms. While observational data suggest that managerial training is important, experiments have shown that the traditional methods of delivering this training to small enterprises, at least, are not effective. Finally, while most work has focused on alleviating supply constraints, recent experiments have shown that positive demand shocks can be sufficient to generate firm growth. Experiments have been particularly illuminating in uncovering patterns in individual decision making, showing how agents respond to the specific changes in circumstances or incentives generated by the experiment. They are most valuable when they complement insight driven by theory.
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Bayesian Persuasion and Information Design
Vol. 11 (2019), pp. 249–272More LessA school may improve its students’ job outcomes if it issues only coarse grades. Google can reduce congestion on roads by giving drivers noisy information about the state of traffic. A social planner might raise everyone's welfare by providing only partial information about solvency of banks. All of this can happen even when everyone is fully rational and understands the data-generating process. Each of these examples raises questions of what is the (socially or privately) optimal information that should be revealed. In this article, I review the literature that answers such questions.
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Transitional Dynamics in Aggregate Models of Innovative Investment
Vol. 11 (2019), pp. 273–301More LessWhat quantitative lessons can we learn from models of endogenous technical change through innovative investments by firms for the impact of changes in the economic environment on the dynamics of aggregate productivity in the short, medium, and long run? We present a unifying model that nests several canonical models in the literature and characterize both their positive implications for the transitional dynamics of aggregate productivity and their welfare implications in terms of two sufficient statistics. We review the current state of measurement of these two sufficient statistics and discuss the range of positive and normative quantitative implications of our model for a wide array of counterfactual experiments, including the link between a decline in the entry rate of new firms and a slowdown in the growth of aggregate productivity. We conclude with a summary of the lessons learned from our analysis to help direct future research aimed at building models of endogenous productivity growth that are useful for quantitative analysis.
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Echo Chambers and Their Effects on Economic and Political Outcomes
Gilat Levy, and Ronny RazinVol. 11 (2019), pp. 303–328More LessIn this review, we survey the economics literature on echo chambers. We identify echo chambers as arising from a combination of two phenomena: (a) the choice of individuals to segregate with like-minded ones, i.e., the creation of chambers, and (b) behavioral biases that induce polarization when individuals exchange beliefs in these chambers, i.e., the echo. We summarize the literatures on these two phenomena and suggest how to combine the two literatures to gain insights about the effects of echo chambers on economic and political outcomes. We end by suggesting pathways for future research and discussing policy interventions to alleviate echo chambers.
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Evolutionary Models of Preference Formation
Vol. 11 (2019), pp. 329–354More LessThe literature on the evolution of preferences of individuals in strategic interactions is vast and diverse. We organize the discussion around the following question: Supposing that material outcomes drive evolutionary success, under what circumstances does evolution promote Homo economicus, defined as material self-interest, and when does it instead lead to other preferences? The literature suggests that Homo economicus is favored by evolution only when individuals’ preferences are their private information and the population is large and well-mixed, so that individuals with rare mutant preferences almost never get to interact with each other. If rare mutants instead interact more often (say, due to local dispersion), then evolution instead favors a certain generalization of Homo economicus including a Kantian concern. If individuals interact under complete information about preferences, then evolution destabilizes Homo economicus in virtually all games.
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Approximately Optimal Mechanism Design
Vol. 11 (2019), pp. 355–381More LessThe field of optimal mechanism design enjoys a beautiful and well-developed theory, as well as several killer applications. Rules of thumb produced by the field influence everything from how governments sell wireless spectrum licenses to how the major search engines auction off online advertising. There are, however, some basic problems for which the traditional optimal mechanism design approach is ill suited—either because it makes overly strong assumptions or because it advocates overly complex designs. This article reviews several common issues with optimal mechanisms, including exorbitant communication, computation, and informational requirements; it also presents several examples demonstrating that relaxing the goal to designing an approximately optimal mechanism allows us to reason about fundamental questions that seem out of reach of the traditional theory.
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Auction Market Design: Recent Innovations
Vol. 11 (2019), pp. 383–405More LessMarket design applies economic principles to the often messy problems of real-world exchange in which goods may not be homogeneous, the identities of trading partners may matter, contracts may not be executed, and even the formulation of trade as balancing supply and demand may be unhelpful. This article recounts the mostly academic research advancing the analysis and design of such markets. Among the highlighted applications are ones involving financial markets, Internet advertising, electricity auctions, spectrum auctions, cryptocurrencies, and combinatorial procurements.
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Fair Division in the Internet Age
Vol. 11 (2019), pp. 407–441More LessFair division, a key concern in the design of many social institutions, has for 70 years been the subject of interdisciplinary research at the interface of mathematics, economics, and game theory. Motivated by the proliferation of moneyless transactions on the internet, the computer science community has recently taken a deep interest in fairness principles and practical division rules. The resulting literature brings a fresh concern for computational simplicity (scalable rules) and realistic implementation. In this review of the most salient fair division results of the past 30 years, I concentrate on division rules with the best potential for practical implementation. The critical design parameter is the message space that the agents must use to report their individual preferences. A simple preference domain is key both to realistic implementation and to the existence of division rules with strong normative and incentive properties. I discuss successively the one-dimensional single-peaked domain, Leontief utilities, ordinal ranking, dichotomous preferences, and additive utilities. Some of the theoretical results in the latter domain are already implemented in the user-friendly SPLIDDIT platform (http://spliddit.org).
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Legislative and Multilateral Bargaining
Vol. 11 (2019), pp. 443–472More LessThis review of the theoretical literature on legislative and multilateral bargaining begins with presentation of the seminal Baron-Ferejohn model. The review then encompasses the extensions to bargaining among asymmetric players in terms of bargaining power, voting weights, and time and risk preferences; spatial bargaining; bargaining over a stochastic surplus; bargaining over public goods; legislative bargaining with alternative bargaining protocols in which players make demands, compete for recognition, or make counterproposals; and legislative bargaining with cheap talk communication.
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Social Networks in Policy Making
Vol. 11 (2019), pp. 473–494More LessRecent advances in data collection, computing power, and theoretical modeling have stimulated a growing literature in economics and political science studying how social networks affect policy making. We survey this literature focusing on two main aspects. First, we discuss the literature studying how (and if) social connections in Congress affect legislative behavior. We then discuss how social connections affect the relationship between policy makers and the outside world, focusing on lobbying; the importance of family, caste, and ethnic networks; and social media and public activism. In our discussion, we highlight the key methodological challenges in this literature, how they have been addressed, and the prospects for future research.
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Econometric Analysis of Panel Data Models with Multifactor Error Structures
Vol. 11 (2019), pp. 495–522More LessEconomic panel data often exhibit cross-sectional dependence, even after conditioning on appropriate explanatory variables. Two approaches to modeling cross-sectional dependence in economic panel data are often used: the spatial dependence approach, which explains cross-sectional dependence in terms of distance among units, and the residual multifactor approach, which explains cross-sectional dependence by common factors that affect individuals to a different extent. This article reviews the theory on estimation and statistical inference for stationary and nonstationary panel data with cross-sectional dependence, particularly for models with a multifactor error structure. Tests and diagnostics for testing for unit roots, slope homogeneity, cointegration, and the number of factors are provided. We discuss issues such as estimating common factors, dealing with parameter plethora in practice, testing for structural stability and nonlinearity, and dealing with model and parameter uncertainty. Finally, we address issues related to the use of these economic panel models.
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Using Randomized Controlled Trials to Estimate Long-Run Impacts in Development Economics
Vol. 11 (2019), pp. 523–561More LessWe assess evidence from randomized controlled trials (RCTs) on long-run economic productivity and living standards in poor countries. We first document that several studies estimate large positive long-run impacts, but that relatively few existing RCTs have been evaluated over the long run. We next present evidence from a systematic survey of existing RCTs, with a focus on cash transfer and child health programs, and show that a meaningful subset can realistically be evaluated for long-run effects. We discuss ways to bridge the gap between the burgeoning number of development RCTs and the limited number that have been followed up to date, including through new panel (longitudinal) data; improved participant tracking methods; alternative research designs; and access to administrative, remote sensing, and cell phone data. We conclude that the rise of development economics RCTs since roughly 2000 provides a novel opportunity to generate high-quality evidence on the long-run drivers of living standards.
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Is Education Consumption or Investment? Implications for School Competition
Vol. 11 (2019), pp. 563–589More LessMilton Friedman argued that giving parents freedom to choose schools would improve education. His argument was simple and compelling because it extended results from markets for consumer goods to education. We review the evidence, which yields surprisingly mixed results on Friedman's prediction. A key reason is that households often seem to choose schools based on their absolute achievement rather than their value added. We show that this can be rational in a model based on three ingredients that economists have highlighted since Friedman worked on the issue. First, education is an investment into human capital. Second, labor markets can feature wage premia: Individuals of a given skill level may receive higher wages if they match to more productive firms. Third, distance influences school choice and the placements that schools produce. These factors imply that choice alone is too crude a mechanism to ensure the effective provision of schooling.
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Productivity Measurement: Racing to Keep Up
Vol. 11 (2019), pp. 591–614More LessThis article provides a nontechnical review of the literature and issues related to the measurement of aggregate productivity. I begin with a discussion of productivity measures, their performance in recent decades, and key measurement puzzles that emerge from the data. The remainder of the review focuses on two important questions. First, how do we make more accurate the measures of prices used to deflate nominal output so as to win (or at least not lose) the race for economic measurement to keep up with a changing economy? I frame the issues and point to the most important and promising areas for further research. Second, what does or should GDP measure? I defend GDP as a valuable measure of production and offer suggestions for improving it. At the same time, I emphasize the importance of measuring economic welfare (well-being) and argue that GDP should be supplemented with a satellite account that measures economic welfare.
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History, Microdata, and Endogenous Growth
Ufuk Akcigit, and Tom NicholasVol. 11 (2019), pp. 615–633More LessThe study of economic growth is concerned with long-run changes, and therefore, historical data should be especially influential in informing the development of new theories. In this review, we draw on the recent literature to highlight areas in which study of history has played a particularly prominent role in improving our understanding of growth dynamics. Research at the intersection of historical data, theory, and empirics has the potential to reframe how we think about economic growth in much the same way that historical perspectives helped to shape the first generation of endogenous growth theories.
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Production Networks: A Primer
Vol. 11 (2019), pp. 635–663More LessThis article reviews the literature on production networks in macroeconomics. It presents the theoretical foundations for the role of input–output linkages as a shock propagation channel and as a mechanism for transforming microeconomic shocks into macroeconomic fluctuations. The article also provides a brief guide to the growing literature that explores these themes empirically and quantitatively.
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Economic Theories of Justice
Vol. 11 (2019), pp. 665–684More LessSocial justice considerations are incorporated into welfare economics via properties of the social welfare function and measures of individual utility. The ethical issues underlying various approaches are illustrated through intriguing paradoxes that have emerged in the literature. Such puzzles point to the tensions among certain important values (such as respecting preferences, giving priority to the worse off, personal responsibility, and informational simplicity) and suggest the relevant ways in which reasonable compromise can be sought. Welfare economics is now able to accommodate a large range of conceptions of justice, including utilitarianism and various forms of egalitarianism and libertarianism.
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Machine Learning Methods That Economists Should Know About
Vol. 11 (2019), pp. 685–725More LessWe discuss the relevance of the recent machine learning (ML) literature for economics and econometrics. First we discuss the differences in goals, methods, and settings between the ML literature and the traditional econometrics and statistics literatures. Then we discuss some specific methods from the ML literature that we view as important for empirical researchers in economics. These include supervised learning methods for regression and classification, unsupervised learning methods, and matrix completion methods. Finally, we highlight newly developed methods at the intersection of ML and econometrics that typically perform better than either off-the-shelf ML or more traditional econometric methods when applied to particular classes of problems, including causal inference for average treatment effects, optimal policy estimation, and estimation of the counterfactual effect of price changes in consumer choice models.
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Weak Instruments in Instrumental Variables Regression: Theory and Practice
Vol. 11 (2019), pp. 727–753More LessWhen instruments are weakly correlated with endogenous regressors, conventional methods for instrumental variables (IV) estimation and inference become unreliable. A large literature in econometrics has developed procedures for detecting weak instruments and constructing robust confidence sets, but many of the results in this literature are limited to settings with independent and homoskedastic data, while data encountered in practice frequently violate these assumptions. We review the literature on weak instruments in linear IV regression with an emphasis on results for nonhomoskedastic (heteroskedastic, serially correlated, or clustered) data. To assess the practical importance of weak instruments, we also report tabulations and simulations based on a survey of papers published in the American Economic Review from 2014 to 2018 that use IV. These results suggest that weak instruments remain an important issue for empirical practice, and that there are simple steps that researchers can take to better handle weak instruments in applications.
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Taking State-Capacity Research to the Field: Insights from Collaborations with Tax Authorities
Vol. 11 (2019), pp. 755–781More LessNo modern state can exist in the long term without effective taxation. Recent research emerging from close collaboration of academics with tax authorities has shed new light on how states can build such tax capacity. Using both randomized and natural experiments, these partnerships have not only opened access to new types of data but have also stimulated new perspectives and research questions. While much of research in public finance has historically assumed that a tax in the law is a tax that is collected, exciting new research takes an empirical look inside the black box of tax administration. It addresses issues ranging from the role of information and digitalization to taxpayer behavior or to the link between taxation and citizens’ relationship to the state. This article provides a brief overview of some of this research, as well as practical advice for those interested in implementing research in partnership with tax authorities or other large public entities.
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Free Movement, Open Borders, and the Global Gains from Labor Mobility
Vol. 11 (2019), pp. 783–808More LessStraightforward economic arguments point to the potential for large global output gains from the movement of labor from less to more productive locations. Yet the politics of receiving countries seems resistant, characterized rather by efforts to limit migration or to stop it altogether. In this article we examine the foundations of claims of large welfare gains through free mobility, studying implications of liberalizing migration for world welfare under a variety of models, paying attention not only to overall gains but also to how gains are distributed and reviewing attempts to quantify the benefits. We conclude by asking how far considerations beyond economics motivate keenness to impose restrictions on migration.
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Monetary Policy, Macroprudential Policy, and Financial Stability
Vol. 11 (2019), pp. 809–832More LessThis review reexamines from a theoretical perspective the role of monetary and macroprudential policies in addressing the build-up of risks in the financial system. We construct a stylized general equilibrium model in which the key friction comes from a moral hazard problem in firms’ financing that banks’ equity capital serves to ameliorate. Tight monetary policy is introduced by open market sales of government debt, and tight macroprudential policy by an increase in capital requirements. We show that both policies are useful, but macroprudential policy is more effective in fostering financial stability and leads to higher social welfare.
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Has Dynamic Programming Improved Decision Making?
Vol. 11 (2019), pp. 833–858More LessDynamic programming (DP) is a powerful tool for solving a wide class of sequential decision-making problems under uncertainty. In principle, it enables us to compute optimal decision rules that specify the best possible decision in any situation. This article reviews developments in DP and contrasts its revolutionary impact on economics, operations research, engineering, and artificial intelligence with the comparative paucity of its real-world applications to improve the decision making of individuals and firms. The fuzziness of many real-world decision problems and the difficulty in mathematically modeling them are key obstacles to a wider application of DP in real-world settings. Nevertheless, I discuss several success stories, and I conclude that DP offers substantial promise for improving decision making if we let go of the empirically untenable assumption of unbounded rationality and confront the challenging decision problems faced every day by individuals and firms.
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The International Monetary and Financial System
Vol. 11 (2019), pp. 859–893More LessInternational currencies fulfill different roles in the world economy, with important synergies across those roles. We explore the implications of currency hegemony for the external balance sheet of the United States, the process of international adjustment, and the predictability of the US dollar exchange rate. We emphasize the importance of international monetary spillovers and of the exorbitant privilege, and we analyze the emergence of a new Triffin dilemma.
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Universal Basic Income: Some Theoretical Aspects
Vol. 11 (2019), pp. 895–928More LessIn this article, we review the desirability and feasibility of a universal basic income (UBI) scheme from the theoretical point of view. We first discuss the possible theoretical justifications of UBI, contrasting the unconditionality of UBI with the many conditions that typically accompany other welfare policies. These justifications range from pure normative reasons to practical reasons due to the problem of screening beneficiaries and imperfections in institutions in charge of implementing tax and welfare policies. Next, we explore the conditions that determine the feasibility and size of a UBI. The broad picture that emerges from our review is that both normative and practical considerations make UBI easier to defend as a tool of poverty alleviation in developing countries than as a tool to achieve social justice in developed ones.
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Universal Basic Income in the United States and Advanced Countries
Vol. 11 (2019), pp. 929–958More LessWe discuss the potential role of universal basic incomes (UBIs) in advanced countries. A feature of advanced economies that distinguishes them from developing countries is the existence of well-developed, if often incomplete, safety nets. We develop a framework for describing transfer programs that is flexible enough to encompass most existing programs as well as UBIs, and we use this framework to compare various UBIs to the existing constellation of programs in the United States. A UBI would direct much larger shares of transfers to childless, nonelderly, nondisabled households than existing programs, and much more to middle-income rather than poor households. A UBI large enough to increase transfers to low-income families would be enormously expensive. We review the labor supply literature for evidence on the likely impacts of a UBI. We argue that the ongoing UBI pilot studies will do little to resolve the major outstanding questions.
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Universal Basic Income in the Developing World
Vol. 11 (2019), pp. 959–983More LessShould developing countries give all of their citizens enough money to live on? Interest in this idea has grown enormously in recent years, reflecting both positive results from a number of existing cash transfer programs and dissatisfaction with the perceived limitations of piecemeal, targeted approaches to reducing extreme poverty. We discuss what we know (and what we do not) about three questions: what recipients would likely do with the incremental income, whether this would unlock further economic growth, and whether giving the money to everyone (as opposed to targeting it) would be wise.
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