Currently, I focus my research on macroeconomics and finance, especially international macroeconomics and finance, monetary policy and financial markets. All the research I did in my Ph.D. stage is summarized in my CV, and all the working papers can be downloaded via the links in my CV. So I think it is not necessary to repeat them here. What I want to discuss here is the motivation of my research and the plan for my research in the next few year.
1. How I get the idea for research
So for, the most commonly used tool for macro theoretic analysis is the assumption of a representative agent in the economy. This kind of assumption simplified the analysis and it was used to achieve some good results. However, the micro foundation for this assumption is weak. Moreover, the application of this extremely simplified assumption is limited. For instance, if we were to use the representative agent model improperly, we would get wrong results. The contradiction between some theoretic results and empirical evidence is sometimes due to the improper use of the representative agent assumption. Departing from this idea, I start my research with the heterogeneous agent model.
2. What I did in the past 3 years (the Ph.D. stage)
Since I think the heterogeneous agent model is more powerful in the macro economic analysis, the questions left are what kind of heterogeneous agent model should I use and what are the problems that I can use the heterogeneous agent model to answer?
There are still a lot of puzzles in macroeconomics and financial markets. For example, Obstfeld and Rogoff (2001) summarize six major puzzles in international macroeconomics. I believe that at least a part of puzzles can be answered, if we use the heterogeneous agent to replace the representative agent in the analysis. Consequently, there are plenty of themes for my research. The remaining task is to select a good heterogeneous agent model. I have found that the endogenously segmented asset model developed by Alvarez, Atkeson, and Kehoe (2009) is a good framework for analyzing the financial markets related problems.
With this framework, I succeeded in addressing two important puzzles. The first one is the consumption-real exchange rate anomaly. According to the representative agent model, if the financial markets are complete, then there should be perfect international consumption risk sharing. However, empirical evidence shows that international risk sharing is quite poor. This anomaly can be easily solved by using the idea of heterogeneous agents. We just need to allow a part of households to participate in the financial markets, and the rest of households have a hand-to-mouth life. As a result, international risk sharing will be reduced to the level consistent with the empirical evidence. This is because households who do not participate in the financial markets cannot share consumption risk via financial markets, so they have very poor risk sharing. The aggregate level of international risk sharing depends on the ratio of the hand-to-mouth life households to the total households. The higher the ratio is, the lower is the level of risk sharing. This part of work is reported in my job market paper, “Limited Participation and International Risk Sharing: Does the Nominal Exchange Rate Matter?”
Another question that I can address with the heterogeneous agent framework is the expectation puzzles in the term structure of interest rates. According to the expectation hypothesis, the long term interest rate is just the term-weighted average of short term interest rates. However, empirical tests reject this theory. It is believed that the failure of the expectation hypothesis is due to the existence of time-varying risk premia, so a model that may generate large and variable risk premia is promising to reconcile the confliction between theory and empirical evidence. Again, the representative agent model is powerless in generating large and variable risk premia due to the rather small variations in aggregate consumption. However, if we allow the existence of the inactive house households in the financial markets, the consumption of the marginal investor can be quite variable, even though the aggregate consumption is essentially constant. As a result, risk premia under such condition is large and variable. In this way, with the heterogeneous agent model, I solved the expectation hypothesis successfully. The results of this work are reported in a working paper, entitled “Inflation, Endogenous Market Segmentation and the Term Structure of Interest Rates”.
3. Research plan for the next 3 years
The research experience in my Ph.D. stage tells me that the heterogeneous agent framework could be a fruitful avenue for macroeconomic analysis. So far, I have finished two proposals for the research, which is expected to be done in the next 3 years. One of them aims to analyze the welfare effect of monetary policy and fiscal policy on international trade within the framework of heterogeneous agent framework. We know that currently the analysis the welfare effect of monetary policy and fiscal policy on international trade is mainly within the framework of the representative agent model. So we usually conclude that any policy improving the export of a country may improve the output and improve the welfare of the society. However, if we consider that the economy as composed by different types of agents, then the results may be changed. We can simply divide the households into two groups. One group of households benefits from export, but the other group benefits from import. Then we need to rethink the welfare effect of export and import, which is dependent on the Pareto weights being given to the different groups and their ratio. We can expect that the change of the welfare effects of international trade may affect the optimal monetary policy, fiscal policy and the exchange rate regime. I have done some research and have obtained some initial results, which are different from the usual way that we think about the international trade. In another proposal, I plan to use the heterogeneous agent model to analyze the effect of inflation on the welfare of different groups of people.
Besides macroeconomics and finance, I’m also interested in economic history and the new classical economics framework developed by Prof. Rosen, Becker and Yang et al, which uses inframarginal analysis as a supplement of the marginal analysis and brings new explanation power to economics. I plan to do some research with the new classical economics framework in the future.
Reference
ALVAREZ, F., A. ATKESON, AND P. J. KEHOE (2009): “Time-Varying Risk, Interest Rates, and Exchange Rates in General Equilibrium,” Review of Economic Studies, 76(3), 851–878.
OBSTFELD, M., AND K. ROGOFF (2001): “The Six Major Puzzles in International Macroeconomics: Is There a Common Cause?” NBER Macroeconomics Annual 2000, (Cambridge, MA: MIT Press), 339–390.
YANG, X. (2001): “Economics: new classical versus neoclassical frameworks,” Blackwell Press.
1. How I get the idea for research
So for, the most commonly used tool for macro theoretic analysis is the assumption of a representative agent in the economy. This kind of assumption simplified the analysis and it was used to achieve some good results. However, the micro foundation for this assumption is weak. Moreover, the application of this extremely simplified assumption is limited. For instance, if we were to use the representative agent model improperly, we would get wrong results. The contradiction between some theoretic results and empirical evidence is sometimes due to the improper use of the representative agent assumption. Departing from this idea, I start my research with the heterogeneous agent model.
2. What I did in the past 3 years (the Ph.D. stage)
Since I think the heterogeneous agent model is more powerful in the macro economic analysis, the questions left are what kind of heterogeneous agent model should I use and what are the problems that I can use the heterogeneous agent model to answer?
There are still a lot of puzzles in macroeconomics and financial markets. For example, Obstfeld and Rogoff (2001) summarize six major puzzles in international macroeconomics. I believe that at least a part of puzzles can be answered, if we use the heterogeneous agent to replace the representative agent in the analysis. Consequently, there are plenty of themes for my research. The remaining task is to select a good heterogeneous agent model. I have found that the endogenously segmented asset model developed by Alvarez, Atkeson, and Kehoe (2009) is a good framework for analyzing the financial markets related problems.
With this framework, I succeeded in addressing two important puzzles. The first one is the consumption-real exchange rate anomaly. According to the representative agent model, if the financial markets are complete, then there should be perfect international consumption risk sharing. However, empirical evidence shows that international risk sharing is quite poor. This anomaly can be easily solved by using the idea of heterogeneous agents. We just need to allow a part of households to participate in the financial markets, and the rest of households have a hand-to-mouth life. As a result, international risk sharing will be reduced to the level consistent with the empirical evidence. This is because households who do not participate in the financial markets cannot share consumption risk via financial markets, so they have very poor risk sharing. The aggregate level of international risk sharing depends on the ratio of the hand-to-mouth life households to the total households. The higher the ratio is, the lower is the level of risk sharing. This part of work is reported in my job market paper, “Limited Participation and International Risk Sharing: Does the Nominal Exchange Rate Matter?”
Another question that I can address with the heterogeneous agent framework is the expectation puzzles in the term structure of interest rates. According to the expectation hypothesis, the long term interest rate is just the term-weighted average of short term interest rates. However, empirical tests reject this theory. It is believed that the failure of the expectation hypothesis is due to the existence of time-varying risk premia, so a model that may generate large and variable risk premia is promising to reconcile the confliction between theory and empirical evidence. Again, the representative agent model is powerless in generating large and variable risk premia due to the rather small variations in aggregate consumption. However, if we allow the existence of the inactive house households in the financial markets, the consumption of the marginal investor can be quite variable, even though the aggregate consumption is essentially constant. As a result, risk premia under such condition is large and variable. In this way, with the heterogeneous agent model, I solved the expectation hypothesis successfully. The results of this work are reported in a working paper, entitled “Inflation, Endogenous Market Segmentation and the Term Structure of Interest Rates”.
3. Research plan for the next 3 years
The research experience in my Ph.D. stage tells me that the heterogeneous agent framework could be a fruitful avenue for macroeconomic analysis. So far, I have finished two proposals for the research, which is expected to be done in the next 3 years. One of them aims to analyze the welfare effect of monetary policy and fiscal policy on international trade within the framework of heterogeneous agent framework. We know that currently the analysis the welfare effect of monetary policy and fiscal policy on international trade is mainly within the framework of the representative agent model. So we usually conclude that any policy improving the export of a country may improve the output and improve the welfare of the society. However, if we consider that the economy as composed by different types of agents, then the results may be changed. We can simply divide the households into two groups. One group of households benefits from export, but the other group benefits from import. Then we need to rethink the welfare effect of export and import, which is dependent on the Pareto weights being given to the different groups and their ratio. We can expect that the change of the welfare effects of international trade may affect the optimal monetary policy, fiscal policy and the exchange rate regime. I have done some research and have obtained some initial results, which are different from the usual way that we think about the international trade. In another proposal, I plan to use the heterogeneous agent model to analyze the effect of inflation on the welfare of different groups of people.
Besides macroeconomics and finance, I’m also interested in economic history and the new classical economics framework developed by Prof. Rosen, Becker and Yang et al, which uses inframarginal analysis as a supplement of the marginal analysis and brings new explanation power to economics. I plan to do some research with the new classical economics framework in the future.
Reference
ALVAREZ, F., A. ATKESON, AND P. J. KEHOE (2009): “Time-Varying Risk, Interest Rates, and Exchange Rates in General Equilibrium,” Review of Economic Studies, 76(3), 851–878.
OBSTFELD, M., AND K. ROGOFF (2001): “The Six Major Puzzles in International Macroeconomics: Is There a Common Cause?” NBER Macroeconomics Annual 2000, (Cambridge, MA: MIT Press), 339–390.
YANG, X. (2001): “Economics: new classical versus neoclassical frameworks,” Blackwell Press.