Kenneth Kasa

Adjustment costs and pricing-to-market theory and evidence

Abstract This paper develops an adjustment cost model of pricing-to-market. The model consists of a monopolist who supplies an identical, nondurable good to two foreign markets. It is shown that the degree of pricing-to-market increases with the relative importance of the transitory component in exchange rates. Customs data from 1978 through 1987 on U.S. and Canadian imports of seven German commodities are used to estimate the models parameters and test its over-identifying restrictions.

Will the Fed Ever Learn

This paper studies optimal learning by a Central Bank that is unsure about the natural rate of unemployment and the slope of the Phillips Curve. Given its objective of stabilizing output and inflation, the Central Bank must balance the short-term benefits of behaving optimally given its current beliefs, or taking actions that are currently sub-optimal but which yield new information, and hence improve future performance. Using dynamic programming results from Easley and Kiefer (1988) , this paper shows that the Central Bank may come to believe that there is an exploitable relationship between inflation and output, even when no such relationship exists. Thus, this paper provides another reason why monetary policy may be subject to a persistent inflation bias.

A robust Hansen-Sargent prediction formula

This paper derives a formula for the optimal forecast of a discounted sum of future values of a random variable. This problem reflects a preference for robustness in the presence of (unstructured) model uncertainty. The paper shows that revisions of a robust forecast are more sensitive to new information, and discusses the relevance of this result to previous findings of excess sensitivity of consumption and asset prices to new information.

Identifying the source of dynamics in disaggregated import data

This paper uses Kennans (1988) model to separately identify supply-side and demand-side dynamics in US import data. Dynamics arise from both autocorrelated shocks to supply- and demand-side fundamentals, and from lagged adjustment to these shocks. The model consists of a pair of partial adjustment models in which consumers and producers each attempt to follow a stochastic target level of imports subject to a quadratic adjustment cost. The model is applied to quarterly data on US imports of seven narrowly defined commodities: Autos, Beer, Cameras, Wine, Cigars, Tea, and Soap. Two main results emerge. First, adjustment costs are important on both sides of the market. Second, supply-side adjustment costs are larger than demand-side adjustment costs.

An observational equivalence among -control policies

Abstract This paper constructs an equivalence class of objective functions that produce the same linear state-feedback decision rule. Members of this class are distinguished by the relative weight placed on state variability and the minimized H ∞ norm of the system’s transfer function. This result is used to show that in models of dynamic policy formation a concern for robustness in the presence of model uncertainty can substitute for the ad hoc incorporation of adjustment costs.

Optimal policy with limited commitment

This paper uses Whitemans(1986) frequency-domain optimization methodology to parameterize the precommitment period in a standard rational expectations policy design model. This allows researchers to adopt an empirical approach to the time consistency issue. That is, the operative commitment horizon in a given policy setting can be estimated along with the other parameters characterizing the preferences and constraints of the agents in the model. It is shown that the commitment horizon can be estimated by running (restricted) regressions of the policymakers instrument variable on past values of its target variable. ; Parameterizing the commitment horizon also delivers a mapping between welfare (or the value of the policymakers objective function) and the length of the commitment horizon. The paper shows that the rate of convergence to the perfect precommitment value can be either quite slow or quite rapid, suggesting that the severity of the time consistency constraint can be sensitive to variation in the assumed commitment horizon. ; Finally, the results are applied to U.S. and German monetary policy during the post-Bretton Woods era. Assuming the monetary authority attempts to stabilize inflation using a Federal Funds like interest rate as an instrument, the results point to a one-month ahead commitment horizon for the U.S. Federal Reserve, and to a twelve-month ahead commitment horizon for the German Bundesbank. However, these horizons are estimated very imprecisely.

Model Averaging and Persistent Disagreement

The authors consider the following scenario: Two agents construct models of an endogenous price process. One agent thinks the data are stationary, the other thinks the data are nonstationary. A policymaker combines forecasts from the two models using a recursive Bayesian model averaging procedure. The actual (but unknown) price process depends on the policymaker?s forecasts. The authors find that if the policymaker has complete faith in the stationary model, then beliefs and outcomes converge to the stationary rational expectations equilibrium. However, even a grain of doubt about stationarity will cause beliefs to settle on the nonstationary model, where prices experience large self-confirming deviations away from the stationary equilibrium. The authors show that it would take centuries of data before agents were able to detect their model misspecifications