Economic Modeling in the Post Great Recession Era

JOHN E. SILVIA is a managing director and the chief economist for Wells Fargo. Previously he worked on Capitol Hill as senior economist for the U.S. Senate Joint Economic Committee and chief economist for the U.S. Senate Banking, Housing, and Urban Affairs Committee. AZHAR IQBAL is director and econometrician at Wells Fargo Securities. SARAH WATT HOUSE is vice president of Wells Fargo Securities.

• Preface/Justification xiiiAcknowledgments xxiChapter 1 Setting the Context 1The Problem with Uncritical Assumptions in a Less-Than-Perfect Economy 2The Problem with Models in an Imperfect Economy 3Four Characteristics of a Less-Than-Perfect Economy 4Economic Policy Inconsistencies—The Parable of Strange Bedfellows 13Chapter 2 Dynamic Adjustment in an Economy: Frictions Matter 15Introduction 16Quantifying Frictions: Is the Long-Run Average a Useful Guide for the Future? 32Modeling Dynamic Adjustment due to Economic Frictions: Decision Making in an Evolving World 49Dynamic Economic Adjustment: An Evolution unto Itself 67Appendix 68A Case for the Multiple Markets: 1983–2008 68The Labor Market: 1983–2008 70Chapter 3 Information: Past Imperfect, Present Incomplete, Future Uncertain 73Story Behind the Numbers 76Conclusion 103Chapter 4 Price Adjustment and Search for Equilibrium 105What Barriers Are There to Perfectly Flexible Prices? 107Implications 112Finding Dynamic Adjustment in the Data 116Conclusion 121Chapter 5 Business Investment: This Time Is Different 123Drivers of Business Spending 125Putting It All Together: Explaining Slow Recovery in Capital Investment 134Chapter 6 Corporate Profits: Reward, Incentive, and That Standard of Living 135Introduction: Profits as Essential Partner 136The Role of Profits in the Economic Cycle: Five Drivers 137The Role of Profits: Incentives and Rewards 140Concluding Remarks: Modeling Profits 167Chapter 7 Labor Market Evolution: Implications for Private-Sector and Public-Policy Decision Makers 169Part I: Labor Market Imperfections 171Part II: Heterogeneity in the Labor Market 182Part III: How Do Secular Labor Market Trends Impact Economic Policy? 196Chapter 8 Inflation: When What You Get Isn’t What You Expect 205Introduction 206What Is Inflation? 207Why Does Inflation Matter? 208What Determines Inflation? 212Inflation after the Great Recession 219Application: Predicting if Central Banks Can Achieve Price Stability 230Chapter 9 Interest Rates and Credit: Capital Markets in the Post–Great Recession World 235Imperfect Guidance in an Uncertain World 236A Look at Actual History over the Long Run 247Credit and Administered Rates 250Imperfect Information and Credit 255Conclusion: Shift from Historical Benchmarks 280Chapter 10 Three-Dimensional Checkers: Open Economy, Capital Flows, and Exchange Rates 281Newton’s Third Law 282Introducing a New Price to the Analysis: The Role of Exchange Rates 289Three-Dimensional Checkers on an International Playing Field 295A Perfect Model in an Imperfect World 298Concluding Remarks: Future Looks Different 330Chapter 11 Assessing Economic Policy in an Imperfect Economy 331Generalized Policy Model 333Rules and Reputation: Beyond Economic Benchmarks 338Confronting Our Three Market Imperfections 340Economic Policy in the Context of an Imperfect Economy 359About the Authors 361Index 363