Intertemporal Tradeoffs Research Articles

Public Debt and the Political Economy of Reforms

How do electoral incentives influence the choice to experiment with a policy reform that generates uncertain future benefits? To answer this question, we examine a two-period model of redistributive politics with uncertain policy outcomes involving a mixture of private and public benefits. In equilibrium, we find that the intertemporal trade-off between current policy costs and future benefits creates an incentive for politicians to use public debt to smooth spending across periods. The higher the share of policy benefits that are in the form of a public good, the higher the level of available debt-related spending on targeted policies that is necessary. (JEL D63, D72, E23, H41, H63)

Optimal intertemporal curative drug expenses: The case of hepatitis C in France

We study intertemporal tradeoffs that health authorities face when considering the control of an epidemic using innovative curative medical treatments. We set up a dynamically controlled susceptible–infected–recovered (SIR) model for an epidemic in which patients can be asymptomatic, and we analyze the optimality conditions of the sequence of cure expenses decided by health authorities at the onset of the drug innovation process. We show that analytical conclusions are ambiguous because of their dependence on parameter values. As an application, we focus on the case study of hepatitis C, the treatment for which underwent a major upheaval when curative drugs were introduced in 2014. We calibrate our controlled SIR model using French data and simulate optimal policies. We show that the optimal policy entails some front loading of the intertemporal budget. The analysis demonstrates how beneficial intertemporal budgeting can be compared to non-forward-looking constant budget allocation.

The optimal momentum of population growth and decline

About 50 years ago, Keyfitz (1971) asked how much further a growing human population would increase if its fertility rate were immediately to be reduced to replacement level and remain there forever. The reason for demographic momentum is an age–structure inertia due to relatively many potential parents because of past high fertility. Although nobody expects such a miraculous reduction in reproductive behavior, a gradual decline in fertility in rapidly growing populations seems inevitable. As any delay in fertility decline to a stationary level leads to an increase in the momentum, it makes sense to think about the timing and the quantum of the reduction in reproduction. More specifically, we consider an intertemporal trade-off between costly pro- and anti-natalistic measures and the demographic momentum at the end of the planning period. This paper uses the McKendrick–von Foerster partial differential equation of age–structured population dynamics to study a sketched problem in a distributed parameter control framework. Among the results obtained by applying an appropriate extension of Pontryagin’s Maximum Principle are the following: (i) monotony of adaptation efforts to net reproduction rate and convex decrease/concave increase (if initial net reproduction rate exceeds 1/is below 1); and (ii) oscillating efforts and reproduction rate if, additionally, the size of the total population does not deviate from a fixed level.

From data through discount rates to the area under the curve.

The rate of discounting future goods is a crucial factor in intertemporal trade-offs, upon which depends not only individual well-being but also that of our planet: How much privation now for a temperate future for our grandchildren? What is the best way to measure how the value of future goods decreases with its delay? The most accurate discount functions involve several covarying parameters, making interpretation equivocal. A universal and robust measure is the area under the discount curve, the AuC. The AuC of a hyperbolic discount function is a logarithmic function of the discount rate, k. The same integral also approximates the area under a hyperboloid function. A simple technique converts each datum into estimates of the discount rate, eliminating rogue data points in the process. These trimmed estimates are converted into areas and tested against data, where they succeed at predicting the AuC and its relation to log(k).

Minding the time gap: politicians’ perspectives on inter-temporal trade-offs in policy and politics

ABSTRACT Scholars in several fields share a desire to better understand the inter-temporal dimensions of policy-making. While several studies analysed individuals’ preferences regarding policies whose benefits unfold in the future, little is known about policy-makers’ own perceptions of inter-temporal trade-offs in politics. Using an original survey of municipal politicians in Sweden, we demonstrate that factors found important in macro-level research on future-oriented policy-making also matter for politicians’ micro-level perceptions. Politicians who perceive the policy-making process as consensus-oriented, characterised by corporatist concertation and by a low risk of policy reversal, and those who feel confident about (re-)election into government, are less likely to perceive a trade-off between policies that help them win elections and policies that benefit society in the long term, and less likely to view politics as short-term biased. Trade-off perceptions are, furthermore, related to previously overlooked variations in how politicians understand the inter-temporal profile of physical and social investment policies. Our findings have significant implications for comparative public policy research, by uncovering how politicians perceive inter-temporal trade-offs and shining new light on the micro-foundations of future-oriented policy-making.

On the Ricardian Equivalence Theorem in the Presence of Banks and a Reserve Requirement

We study the Ricardian Equivalence Theorem in the presence of a reserve requirement. Banks pay depositors the deposit rate and receive the borrowing rate on loans. Equivalence fails because the reserve requirement drives a wedge between the deposit and borrowing rates implying that government faces a different intertemporal tradeoff than savers. A tax cut financed by an increase in government debt causes an increase in savings but only increases the supply of loanable funds by a fraction because of the reserve requirement. This causes interest rates to rise and consumption to fall. We also show that if the central bank pays interest on reserves at the borrowing rate, the various rates are equal, however, equivalence still fails. The reason is that future taxes to pay down the debt must be higher for the central bank to pay interest and consumption will fall in response.

The temporal dimensions of policy responses to capital surges

The temporal dimensions of policy responses to capital surges

Optimal R&D investment in the management of invasive species

Invasive alien species (IAS) threaten world biodiversity, ecosystem services, and economic welfare. While existing literature has characterized the optimal control of an established IAS, it has not considered how research and development (R&D) into new removal methods or technologies can affect management decisions and costs over time. R&D can lower the costs of control in a management plan and creates an intertemporal trade-off between quick but costly control and gradual but cheaper removal over time. In this paper, we develop and solve a continuous time dynamic optimization model to study how investment in R&D influences the optimal control of an established invasive species. After characterizing the dynamic model solution, we solve the model numerically to study the benefits from R&D in the management of the brown tree snake (Boiga irregularis), and explore how optimal solutions vary across economic and biological conditions. We find that the introduction of R&D significantly reduces overall costs of IAS and management and that the cost reductions substantially outweigh research expenditure. These results imply that policymakers seeking to control IAS should consider R&D as a vital component of cost effective control strategies.

Endogenous economic structure, climate change, and the optimal abatement path

This paper endogenizes economic structure in Nordhaus's standard DICE model, and builds a dynamic intertemporal optimization model to determine long-term CO2 mitigation policy. Two basic macroeconomic sectors that vary in carbon intensity and suffer different damage from climate change are incorporated: one producing consumer goods, and another producing capital goods. The model finds a bidirectional interaction between climate change and economic structure. Climate change is able to reverse structure transition by decreasing investment rate. Meanwhile, economic structure evolution affects the choice of policies for managing climate change. Compared to the standard DICE model, our results show that we are likely to face a more severe climate situation; therefore, deeper mitigation efforts are called for, which requires investing an average of 3.2% of GDP per year for 2 °C warming goal. Mitigation efforts can become more effective for the economy as economic structure evolves and evokes future investment response, which will be determined not only by the normal intertemporal trade-off between present-day and future consumption, but also by another trade-off between high and low carbon-intensive goods.

Fiscal Foresight and Perverse Distortions to Firm Behavior: Anticipatory Dips and Compensating Rebounds

We study the conditions under which fiscal foresight – forward-looking agents anticipating future policy changes – results in perverse economic behavior through unintended intertemporal tradeoffs. Somewhat surprisingly, fiscal foresight by itself is far from sufficient for policy-induced incentives to perversely distort firm behavior. Rather, we show that there are two additional sets of conditions, at least one of which must hold to generate perverse behavior: (i) storable output, diminishing returns, and a non- competitive output market; (ii) “rolling base” policy design and storable output. These conditions suggest that the estimated impacts of fiscal policies may be sensitive to underlying economic or legislative characteristics and that policies targeted to specific firms or industries with unique characteristics may not be generalizable.

Inherited Patience and the Taste for Environmental Quality

Environmental-quality and environmental-protection actions vary worldwide. Investing in environmental quality often involves intertemporal trade-offs, with present costs and future rewards. A growing body of literature finds that patience, a measure of time preference, is positively associated with pro-environmental policies, attitudes, and behaviors. However, much of this work relies on contemporaneous measures of patience that may be jointly determined with environmental attitudes, and thus may give rise to spurious correlations, calling the validity of these results into question. This paper contributes to the discussion on the determinants of environmental quality by addressing this methodological concern. We propose an individual measure of patience in the form of inherited cultural values, which is derived from information on the countries of origin of an individual’s parents. We argue that this inherited-patience measure is plausibly an exogenous event in an individual’s life. Using this measure, we find a strong, positive relationship between inherited patience and concern for the environment. Our results are robust to the inclusion of variables reflecting an individual’s demographic and socioeconomic status, religious identity, trust, political ideology, and location, as well as period and country fixed effects.

Monetary Policy When the Central Bank Shapes Financial-Market Sentiment

Recent research has found that monetary policy works in part by influencing the risk premiums on both traded financial-market securities and intermediated loans. Research has also shown that when risk premiums are compressed, there is an increased likelihood of a reversal that damages the credit-supply mechanism and the real economy. Together these effects create an intertemporal tradeoff for monetary policy, as stimulating the economy today can sow the seeds of a future downturn that might be difficult to offset. We draw out some implications of this tradeoff for the conduct of monetary policy.

Public investment and human capital with segmented labour markets

Abstract We develop a dynamic general equilibrium macroeconomic model with segmented labour markets and efficiency wages to examine how labour market structures influence the impact of human capital investment in low-income countries. For plausible calibration values, public investment in education is much more effective than infrastructure investment in promoting long-run economic development, but because investment in education affects labour productivity with a lag, policymakers face an intertemporal trade-off which depends on their social discount rate and the weight of distributional objectives in the social welfare function. We show the distortionary structure of labour markets matters in leveraging welfare gains from public investment and in shifting the optimal public investment programme further in favour of human capital, relative to the case of flex-wage full-employment labour markets.

Changing Prices in a Changing Climate: Electoral Competition and Fossil Fuel Taxation

When do governments adopt ambitious climate policy? Charting the theoretical territory between climate change politics and long-term policymaking, this paper highlights the role of electoral competition in shaping how politicians respond to the intertemporal tradeoff of one important climate change mitigation policy: fossil fuel taxation. The more secure the government is in office, the more insulated it is from the vagaries of political competition, and the more likely it is to impose costs on constituents today to generate a future stable climate. By influencing governments’ time preferences, competition structures the myopia of elected officials. I test the arguments using an original dataset of gasoline taxation across high-income democracies between 1988 and 2013. I find evidence that higher levels of electoral competition are associated with lower gasoline tax rates, and that the relationship is moderated by the level of costs imposed on voters, but not government partisanship. More generally, the analysis highlights when governments can increase consumer prices to address long-term challenges.

Women's Choice for Their Offspring: Checking on Investment in Human Capital

This study aims to examine the relationship between women’s time preference as a factor of her decision-making and children’s education within their household. We estimate the Multinomial Logit model using data from 2014 survey from IFLS-5. We use responses to hypothetical choice questions which has inter-temporal tradeoffs available on the survey data to determine individual time preference. Tentative results suggest that more patient women invested more in their children’s education. The children have better educational attainment and health condition due to the mother’s household decision. The proxy of individual time preference is attained only from hypothetical questions in which related to financial gain instead of educational and health gain. Other arguments that may arises is we assume that the time preference of one individual never changed during their lifetime. This study would help in designing education and health policy especially for children.

The open-economy ELB: Contractionary monetary easing and the trilemma

Contrary to Mundell's trilemma, we show that free capital mobility may prevent monetary policy from ensuring output stability even if the exchange rate is flexible due to the existence of an Effective Lower Bound. The ELB is an interest rate threshold below which monetary easing becomes contractionary because of adverse effects on credit supply. A tightening in global monetary and financial conditions increases the ELB and may force central banks to hike rates even though domestic economic activity contracts. We also show that the ELB gives rise to a novel inter-temporal trade-off for monetary policy and calls for using a broad range of policy tools to restore monetary transmission.

The pox of politics: Troesken's tradeoff reexamined.

In The Pox of Liberty, Werner Troesken details the tradeoff between liberal institutions and communicable disease. According to Troesken, individual freedom presents a danger to the public health in the face of infectious disease, while constitutional constraints restrict the government’s ability to implement effective policy. Contra Troesken, I argue that decision-makers, amidst a crisis of contagion, neglect intertemporal tradeoffs, thereby discounting long run costs while favoring short run policies. These policies, once implemented, are difficult to reverse due to the path dependent nature of political institutions. Irreversible and self-reinforcing growth in political institutions established to enhance health can have an unintended negative impact on health during future crises, where political agents must operate in a more cumbersome and error-prone institutional environment. Using events from the history of public health in the U.S. as support for my theory, I conclude that Troesken’s alleged tradeoff ought to be met with greater skepticism.

What you are getting and what you will be getting: Testing whether verb tense affects intertemporal choices.

Prior research has shown that the way information is communicated can impact decisions, consistent with some forms of the Sapir-Whorf hypothesis that language shapes thought. In particular, language structure-specifically the form of verb tense in that language-can predict savings behaviors among speakers of different languages. We test the causal effect of language structure encountered during financial decision-making, by manipulating the verb tense (within a single language) used to communicate intertemporal tradeoffs. We find that verb tense can significantly shift choices between options, owing to tense-based inferences about timing. However, the spontaneous use of verb tense when making choices occurs only in the complete absence of other timing cues and is eliminated if even ambiguous or nondiagnostic time cues are present, although prompted timing inferences persist. We test between multiple competing accounts for how verb tense differentially impacts timing inferences and choices. We find evidence for a cue-based account, such that the presence of other cues blocks the spontaneous use of verb tense in making intertemporal decisions, consistent with the "Good Enough" proposal in psycholinguistics. (PsycInfo Database Record (c) 2022 APA, all rights reserved).

Time Horizon in Corporate Resource Allocation—Investment Horizon, Investor Horizon, and Stakeholders

Research in strategic management emphasizes that managers struggle with decisions that require an intertemporal tradeoff between short-term success and long-term performance. With respect to corporate resource allocation, this tradeoff also manifests itself via short-term versus long-term investments; via investors that exhibit heterogenous time horizons; and via the time horizon of the firm's stakeholders. I contribute to this literature by reviewing and synthesizing extant findings on time horizon in strategy; identifying relevant, emerging themes for future lines of inquiry; and highlighting logical inconsistencies at the intersection of time horizon and stakeholder theory. More empirical and theoretical extensions are warranted on this topic, which is characterized by inherent complexity.

Revisiting intertemporal elasticity of substitution in a sticky price model

Macroeconomic models typically assume additively separable preferences where consumption enters the utility function in a logarithmic form. This restriction implies that consumption growth is highly sensitive to movements in real interest rates, which in turn implies an unrealistically steep demand curve and intertemporal trade-off. We re-estimate the stylized New Keynesian Model with US data using King et al. (1988) preferences with and without habits and show that the equilibrium real interest rate elasticity of output is in the range of 0.05–0.20 in the US. Such low real interest rate elasticity is better in line with the empirical consumption Euler equation literature and implies relatively weak transmission of monetary policy to output and inflation.