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2018 Working Papers

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Title/Author(s) Abstract Number

Who Voted for Brexit? Individual and Regional Data Combined

Eleonora Alabrese, Sascha O. Becker, Thiemo Fetzer and Dennis Novy

Previous analyses of the 2016 Brexit referendum used region-level data or small samples based on polling data. The former might be subject to ecological fallacy and the latter might suffer from small-sample bias. We use individual-level data on thousands of respondents in Understanding Society, the UK’s largest household survey, which includes the EU referendum question. We find that voting Leave is associated with older age, white ethnicity, low educational attainment, infrequent use of smartphones and the internet, receiving benefits, adverse health and low life satisfaction. These results coincide with corresponding patterns at the aggregate level of voting areas. We therefore do not find evidence of ecological fallacy. In addition, we show that prediction accuracy is geographically heterogeneous across UK regions, with strongly pro-Leave and strongly pro-Remain areas easier to redict. We also show that among individuals with similar socioeconomic characteristics, Labour supporters are more likely to support Remain while Conservative supporters are more likely to support Leave.


Security Transitions

Thiemo Fetzer, Oliver Vanden Eynde & Austin L. Wright

How do foreign powers disengage from a conflict? We study the recent largescale
security transition from international troops to local forces in the context of the ongoing civil conflict in Afghanistan. We construct a new dataset that combines
information on this transition process with declassified conflict outcomes and previously unreleased quarterly survey data. Our empirical design leverages the staggered roll-out of the transition onset, together with a novel instrumental variables approach to estimate the impact of the two-phase security transition. We
find that the initial security transfer to Afghan forces is marked by a significant,
sharp and timely decline in insurgent violence. This effect reverses with the actual
physical withdrawal of foreign troops. We argue that this pattern is consistent with a signaling model, in which the insurgents reduce violence strategically to facilitate the foreign military withdrawal. Our findings clarify the destabilizing consequences of withdrawal in one of the costliest conflicts in modern history and yield potentially actionable insights for designing future security transitions.

Did Austerity Cause Brexit?

Thiemo Fetzer

Did austerity cause Brexit? This paper shows that the rise of popular support
for the UK Independence Party (UKIP), as the single most important
correlate of the subsequent Leave vote in the 2016 European Union (EU) referendum, along with broader measures of political dissatisfaction, are strongly
and causally associated with an individual’s or an area’s exposure to austerity
since 2010. In addition to exploiting data from the population of all electoral
contests in the UK since 2000, I leverage detailed individual level panel data
allowing me to exploit within-individual variation in exposure to specific welfare
reforms as well as broader measures of political preferences. The results
suggest that the EU referendum could have resulted in a Remain victory had
it not been for a range of austerity-induced welfare reforms. Further, auxiliary
results suggest that the welfare reforms activated existing underlying
economic grievances that have broader origins than what the current literature
on Brexit suggests. Up until 2010, the UK’s welfare state evened out
growing income differences across the skill divide through transfer payments.
This pattern markedly stops from 2010 onwards as austerity started to bite.

Tax Progressivity and Self-Employment Dynamics

Wiji Arulampalam and Andrea Papini

Analysis of the relationship between taxes and self-employment should acccount for the interplay between responses in self-employment and wage employment. To this end, we estimate a two-state multi-spell duration model which accounts for both observed and unobserved heterogeneity using a large longitudinal administrative dataset for Norway for 1993-2011. Our findings confirm theoretical predictions, and are robust to various changes to denitions and sample selections. A policy experiment simulating a flatter tax schedule in the year 2000, is found to encourage both entry into and exit from self-employment, with an increase of about 11.5 percent in net in ow into self-employment. 1169

Taxes and the Location of Targets

Wiji Arulampalam, Michael P. Devereux, Federica Liberini

We use firm-level data to investigate the impact of taxes on the international location of targets in M&A, allowing for heterogeneous responses by companies. The statutory tax rate in the target country is found to have a negative impact on the probability of an acquisition in that country. In addition, the estimated size of the effect is found to depend on whether (i) acquirer is a domestic or a multinational enterprise; (ii) the acquisition is domestic or cross-border; and (iii) the acquirer's country has a worldwide or territorial tax system. 1168

Financial and Fiscal Interaction in the Euro Area Crisis : This Time was Different

Alberto Caruso
Lucrezia Reichlin & Giovanni Ricco

This paper highlights the anomalous characteristics of the Euro Area 'twin crises' by contrasting the aggregate macroeconomic dynamics in the period 2009-2013 with the business cycle fluctuations of the previous decades. We report three stylised facts. First, the contraction in output was marked by an anomalous downfall in investment, while consumption, savings and unemployment followed their historical relation with GDP. Second, households' and financial corporations' debts, and house prices deviated from their pre-crisis trends. Third, the jump in the public decit GDP ratio in 2008-2009 was unprecedented and so was the fiscal consolidation that followed. Our analysis points to the financial nature of the crisis as a likely explanation for these facts. Importantly, the 'anomaly' in public deficit is in large part explained by extraordinary measures in support of the financial sector, which show up in the stockflow adjustments and reveal a key interaction between the fiscal and the financial sectors.

Cohesive Institutions and Political Violence

Thiemo Fetzer and Stephan Kyburz

Can institutionalized transfers of resource rents be a source of civil conflict? Are cohesive institutions better in managing distributive conflicts? We study these questions exploiting exogenous variation in revenue disbursements to local governments together with new data on local democratic institutions in Nigeria. We make three contributions. First, we document the existence of a strong link between rents and conflict far away from the location of the actual resource. Second, we show that distributive conflict is highly organized involving political militias and concentrated in the extent to which local governments are non-cohesive. Third, we show that democratic practice in form having elected local governments significantly weakens the causal link between rents and political violence. We document that elections (vis-a-vis appointments), by producing more cohesive institutions, vastly limit the extent to which distributional conflict between groups breaks out following shocks to the available rents. Throughout, we confirm these findings using individual level survey data. 1166

Has Eastern European Migration Impacted UK-born Workers?

Sascha O. Becker & Thiemo Fetzer

The 2004 accession of 8 Eastern European countries to the European Union (EU) was accompanied by fears of mass migration. The United Kingdom - unlike many other EU countries - did not opt for temporary restrictions on the EU’s free movement of labour. We document that following EU accession more than 1 million people (ca. 3% of the UK working age population) migrated from Eastern Europe to the UK. We show that they mostly settled in places that had limited prior exposure to immigration. We provide evidence that these areas subsequently saw smaller wage growth at the lower end of the wage distribution and increased pressure on the welfare state, housing and public services. Using novel geographically is aggregated data by country-of-origin, we measure the effects of Eastern European migration on these outcomes for the UK-born and different groups of immigrants. Our results are important in the context of the UK’s Brexit referendum and the ongoing EU withdrawal negotiations in which migration features as a key issue. 1165

Forced Migration and Human Capital : Evidence from Post-WWII Population Transfers

Sascha O. Becker, Irena Grosfeld, Pauline Grosjean, Nico Voigtländer and Ekaterina Zhuravskaya

We exploit a unique historical setting to study the long-run effects of forced migration on investment in education. After World War II, the Polish borders were redrawn, resulting in large-scale migration. Poles were forced to move from the Kresy territories in the East (taken over by the USSR) and were resettled mostly to the newly acquired Western Territories, from which Germans were expelled. We combine historical censuses with newly collected survey data to show that, while there were no pre-WWII differences in education, Poles with a family history of forced migration are significantly more educated today. Descendants of forced migrants have on average one extra year of schooling, driven by a higher propensity to finish secondary or higher education. This result holds when we restrict ancestral locations to a subsample around the former Kresy border and include fixed effects for the destination of migrants. As Kresy migrants were of the same ethnicity
and religion as other Poles, we bypass confounding factors of other cases of forced migration. We show that labor market competition with natives and selection of migrants are also unlikely to drive our results. Survey evidence suggests that forced migration led to a shift in preferences, away from material possessions and towards investment in a mobile asset – human capital. The effects persist over three generations.

The Political Economy of Ideas

Sharun W. Mukand & Dani Rodrik

We develop a conceptual framework to highlight the role of ideas as a catalyst for policy and institutional change. We make an explicit distinction between ideas and vested interests and show how they feed into each other. In doing so the paper integrates the Keynes-Hayek perspective on the importance of ideas with the currently more fashionable Stigler-Becker (interests only) approach to political economy. We distinguish between two kinds of ideational politics { the battle among different worldviews on the efficacy of policy (worldview politics) versus the politics of victimhood, pride and identity (identity politics). Political entrepreneurs
discover identity and policy 'memes' (narratives, cues, framing) that shift beliefs about how the world works or a person's belief of who he is (i.e. identity). Our framework identifies a complementarity between worldview politics and identity politics and illustrates how they may reinforce each other. In particular, an increase in identity polarization may be associated with a shift in views about how the world works. Furthermore, an increase in income inequality is likely to result in a greater incidence of ideational politics. Finally, we show how ideas may not just constrain, but also 'bite' the interests that helped propagate them in the first instance.

Allocation Mechanisms, Incentives, and Endemic Institutional Externalities

Peter J. Hammond

Whether an economic agent's decision creates an externality often depends on the institutional context in which the decision was made. Indeed, in orthodox economics, a technological or exogenous externality occurs just in case one agent's economic welfare or production possibilities are directly affected by the market decisions of other agents. A pecuniary externality occurs just in case one consumer's economic welfare or producer's profit is affected indirectly by price changes caused by changes in other agents' decisions. Similarly, an institutional or endogenous externality may arise whenever allocations are determined by a mechanism that is not strategyproof for some agent. Then even a resource balance constraint creates an institutional externality except in special cases such as when no individual agent's action can affect market clearing prices - i.e., there are no pecuniary externalities. 1162

Costs and Benefits of Seasonal Migration : Evidence from India

Clément Imbert and John Papp

This paper provides new evidence on rural-to-urban migration decisions in develop-
ing countries. Using original survey data from rural India, we show that employment
provision on local public works signicantly reduces seasonal migration. Workers who choose to participate in the program forgo much higher earnings outside of the village. Structural estimates imply that the utility cost of one day away may be as high as 60% of migration earnings. Up to half of this cost can be explained by higher living costs and income risk. The other half likely reects high non-monetary costs from living and working in the city.

Why an EU Referendum?
Why in 2016?


Sascha O. Becker & Thiemo Fetzer

The outcome of the UK’s Brexit Referendum has been blamed on political
factors, such as concerns about sovereignty, and economic factors such as migration, and trade integration. Analyses of the cross-sectional referendum voting
pattern cannot explain how anti-EU sentiment built up over time. Since UKIP votes in the 2014 EU Parliament elections are the single most important predictor of the Vote Leave share, understanding the rise of UKIP might help to explain the role of political and economic factors in the build-up of Brexit. This paper presents new stylized facts suggesting that UKIP votes in local, national and European elections picked up dramatically in areas with weak socio-economic fundamentals, but only after 2010, at the expense of the Conservatives, and partly also Labour. The timing suggests that the Government’s austerity measures might have been a crucial trigger that helped to convert economic grievances into UKIP votes, putting increasing pressure on the Conservatives to hold the EU Referendum.

Bayesian Vector Autoregressions

Silvia Miranda-Agrippino & Giovanni Ricco

This article reviews Bayesian inference methods for Vector Autoregression
models, commonly used priors for economic and nancial variables, and applications
to structural analysis and forecasting.

Maternity leaves in Academia : Why are some UK universities more generous than others?

Mariaelisa Epifanio and Vera E. Troeger

Statutory parental leave provisions in the UK are amongst the least generous as compared to other EU and OECD countries. That is why most companies and other institutions, such as universities, top these legal provisions up with more generous occupational parental leave packages (OMPs). Yet, they don’t do so uniformly. Indeed, the generosity of OMPs offered by HEIs across the UK differ greatly. This paper examines both theoretically and empirically why this is the case. We find that income of HEIs doesn’t make a difference but size in terms of number of employees as well as the student-to-staff ratio do. Our results also show that more research intense universities with a higher previous share of female professors and female academics at child-bearing age provide more generous maternity pay. We offer a range of explanations for these findings.

Exchange Rate Exposure and Firm Dynamics

Juliana Salomao and Liliana Varela

This paper develops a firm-dynamics model with endogenous currency debt composition to study financing and investment decisions in developing economies. In our model, foreign currency borrowing arises from a trade-off between exposure to currency risk and growth. There is cross-sectional heterogeneity in these decisions in two dimensions. First, there is selection into foreign currency borrowing, as only productive firms employ it. Second, there is heterogeneity in firms’ share of foreign currency loans, driven by their potential growth. We assess econometrically the pattern of foreign currency borrowing using firm-level census data on Hungary, calibrate the model and quantify its aggregate impact.

Money Aggregates and Determinacy : A Reinterpretation of Monetary Policy During the Great Inflation

Irfan Qureshi

Should a policy rule include money? Including money exerts policy inertia and increases inflation aversion. In a New-Keynesian model with trend inflation, these features guarantee price determinacy even when the Taylor principle is not satisfied. Novel Greenbook data confirm money aggregates as U.S.Federal Open Market Committee policy objectives, enabling monetary policy to insulate the U.S.economy from self-fulfilling fluctuations despite positive trend inflation. A high response to inflation and lowtrend inflation guarantees determinacy post-1982. Cross-country applications highlight the superiority of the rule with money. Raising the inflation target from 2 percent to 4 percent violates the Taylor principle ; including money resolves this issue

Efficient Partnership Formation in Networks

Francis Bloch, Bhaskar Dutta & Mihai Manea

We analyze the formation of partnerships in social networks. Players need favors at random times and ask their neighbors in the network to form exclusive long-term
partnerships that guarantee reciprocal favor exchange. Refusing to provide a favor results in the automatic removal of the underlying link. When favors are costly, players agree to provide the first favor in a partnership only if they otherwise face the risk of eventual solitude. In equilibrium, the players essential for realizing every maximum matching can avoid this risk and enjoy higher payoffs than inessential players. Although the search for partners is decentralized and reflects local incentives, the strength of essential players drives efficient partnership formation in every network. When favors are costless, players enter partnerships at any opportunity and every maximal matching can emerge in equilibrium. In this case, efficiency is limited to special linking patterns: complete and complete bipartite networks, locally balanced bipartite networks with positive surplus, and factor-critical networks.

Is Envy Harmful to a Society’s Psychological Health and Wellbeing? A Longitudinal Study of 18,000 Adults

Redzo Mujcic & Andrew J. Oswald

Nearly 100 years ago, the philosopher and mathematician Bertrand Russell warned of the social dangers of widespread envy. One view of modern society is that it is systematically developing a set of institutions -- such as social media and new forms of advertising -- that make people feel inadequate and envious of others. If so, how might that be influencing the psychological health of our citizens? This paper reports the first large-scale longitudinal research into envy and its possible repercussions. The paper studies 18,000 randomly selected individuals over the years 2005, 2009, and 2013. Using measures of SF-36 mental health and psychological well-being, four main conclusions emerge. First, the young are especially susceptible. Levels of envy fall as people grow older. This longitudinal finding is consistent with a cross-sectional pattern noted recently by Nicole E. Henniger and Christine R. Harris, and with the theory of socioemotional regulation suggested by scholars such as Laura L. Carstensen. Second, using fixed-effects equations and prospective analysis, the analysis reveals that envy today is a powerful predictor of worse SF-36 mental health and well-being in the future. A change from the lowest to the highest level of envy, for example, is associated with a worsening of SF-36 mental health by approximately half a standard deviation (p <0.001). Third, no evidence is found for the idea that envy acts as a useful motivator. Greater envy is associated with slower -- not higher -- growth of psychological well-being in the future. Nor is envy a predictor of later economic success. Fourth, the longitudinal decline of envy leaves unaltered a U-shaped age pattern of well-being from age 20 to age 70. These results are consistent with the idea that society should be concerned about institutions that stimulate large-scale envy.

This paper also appears as CAGE Discussion Paper No: 361
Published: Social Science and Medicine


Unhappiness and Pain in Modern America: A Review Essay, and Further Evidence, on Carol Graham’s Happiness for All?

David G. Blanchflower & Andrew J. Oswald

In Happiness for All?, Carol Graham raises disquieting ideas about today’s United States. The challenge she puts forward is an important one. Here we review the intellectual case and offer additional evidence. We conclude broadly on the author’s side. Strikingly, Americans appear to be in greater pain than citizens of other countries, and most subgroups of citizens have downwardly trended happiness levels. There is, however, one bright side to an otherwise dark story. The happiness of black Americans has risen strongly since the 1970s. It is now almost equal to that of white Americans.

Forthcoming publication: Journal of Economic Literature


The social value of information in economies with mandatory savings

Pablo F. Beker & Conrado Cuevas

We study the value of public information in a stochastic exchange economy where agents trade assets to reallocate risk and mandatory (retirement) savings imposes a lower bound on the market value of some agents' holdings of a nancial asset. Since equilibrium prices depend on the agents' beliefs about the states of nature, the arrival of information shifts the agents' mandatory savings constraints. We show that the arrival of public information can generate an ex-ante Pareto improvement relative to an uninformative equilibrium even when ex-post improvements are not possible. 1152

The measurement of welfare change

Walter Bossert & Bhasker Dutta

We propose and characterize a class of measures of welfare change that are based on the generalized Gini social welfare functions. In addition, we analyze these measures in the context of a second-order dominance property that is akin to generalized Lorenz dominance as introduced by Shorrocks (1983) and Kakwani (1984). Because we consider welfare differences rather than welfare levels, the requisite equivalence result involves linear welfare functions (that is, those associated with the generalized Ginis) only, as opposed to the entire class of strictly increasing and S-concave welfare indicators. Journal of Economic

Ignoring Good Advice

David Ronayne and Daniel Sgroi
We present results from an experiment involving 1,500 participants on whether, when and why good advice is ignored, focusing on envy and stubbornness. Participants performance in skill-based and luck-based tasks generated a probability of winning a bonus. About a quarter ignored advice that would have increased their chance of winning. Good advice was followed less often when the adviser was relatively highly remunerated or the task was skill-based. More envious advisees took good advice more often in the skill-based task, but higher adviser remuneration significantly reduced this effect. Susceptibility to the sunk cost fallacy reduced the uptake of good advice.

Do Ration Shop Systems Increase Welfare? Theory and an Application to India

Lucie Gadenne

In many developing countries households can purchase limited quantities of goods at a fixed subsidized price through ration shops. This paper asks whether these countries' characteristics justify the use of such ration shop systems. I find an equity-efficiency trade-off: an efficiencymaximizing government will never use ration shops but a welfare-maximizing one might, to redistribute and provide insurance. Welfare gains from introducing ration shops are highest for necessity goods with high price risk. I calibrate the model for India and find that ration shops are indeed welfare-improving for three of the four goods sold through the system today.

This paper also appears as CAGE Discussion Paper No: 358


The Effects of Entry in Oligopolistic Trade with Bargained Input Prices

Robin Naylor & Christian Soegaard

Firms which face the threat of import competition from foreign rivals are conventionally seen as favouring import protection. We show that this is not necessarily the case when domestic firms' in-put prices are determined endogenously. In a framework where the input price is determined through bargaining with an (upstream) input supplier, the relationship between a domestic (downstream) firm's profits and the number of foreign competitors depends on trade costs. If trade costs are sufficiently high, then an increase in the number of foreign entrants can raise the profits of a downstream firm in a home market characterised by Cournot competition. The intuition for this result is that increased product market competition through the entry of foreign firms is mirrored by profit-enhancing moderation of the bargained input price. We examine a number of tariff and non-tariff barriers to international trade and identify conditions under which import-competing firms will favour the removal of barriers to foreign competition. 1148

Falling Behind and Catching up: India’s Transition from a Colonial Economy

Bishnupriya Gupta

India fell behind during colonial rule. The absolute and relative decline of Indian GDP per capita with respect to Britain began before colonization and coincided with the rising textile trade with Europe in the 18th century. The decline of traditional industries was not the main driver Indian decline and stagnation. Inadequate investment in agriculture and consequent decline in yield per acre stalled economic growth. Modern industries emerged and grew relatively fast. The falling behind was reversed after independence. Policies of industrialization and a green revolution in agriculture increased productivity growth in agriculture and industry, but Indian growth has been led by services. A strong focus on higher education under colonial policy had created an advantage for the service sector, which today has a high concentration of human capital. However, the slow expansion in primary education was a disadvantage in comparison with the high growth East Asian economies


The Impact of Public Employment : Evidence from Bonn

Sascha O. Becker,
Stephan Heblich & Daniel M. Sturm

This paper evaluates the impact of public employment on private sector activity using the relocation of the German federal government from Berlin to Bonn in the wake of the Second World War as a source of exogenous variation. To guide our empirical analysis, we develop a simple economic geography model in which public sector employment in a city can crowd out private employment through higher wages and house prices, but also generates potential productivity and amenity spillovers. We find that relative to a control group of cities, Bonn experiences a substantial increase in public employment. However, this results in only modest increases in private sector employment with each additional public sector job destroying around 0.2 jobs in industries and creating just over one additional job in other parts of the private sector. We show how this finding can be explained by our model and provide several pieces of evidence for the mechanisms emphasised by the model. 1146