Refereed Articles

• Revisiting intertemporal elasticity of substitution in a sticky price model
  Journal of Economic Dynamics and Control (2022)
  with Jouko Vilmunen (University of Turku) and Oskari Vähämaa (University of Helsinki)
  
  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.

• Investment dynamics and forecast: Mind the frequency
  Finance Research Letters (2022)
  with Fabio Verona, Bank of Finland
  
  We analyze the in-sample fit and the out-of-sample forecast performance of the investment equation using different proxies for Tobin’s Q, controlling for cash flow, and using their frequency-decomposed components. We show that different frequencies of bond Q and cash flow significantly improve the empirical performance (both in-sample and out-of-sample) of the traditional investment equation. The key step is to filter out the noisy frequencies of the predictors and only retain those that have the greatest individual predictive power.

• Can large trade shocks cause crises? The case of the Finnish-Soviet trade collapse
  Journal of International Economics July (2021)
  with Adam Gulan and Markus Haavio, Bank of Finland
  
  We study the macroeconomic consequences of a major trade disruption using the example of the Finnish–Soviet trade collapse in 1991. This is a rare case of a well–identified large trade shock in a developed economy. We find that the shock significantly affected Finnish output. Even so, the trade collapse was insufficient to generate an all–out crisis, and accounts for only a part of the Finnish Great Depression (1990–1993). We show that shocks originating domestically played a major role throughout the depression.

• What does "below, but close to, two per cent" mean? Assessing the ECB's reaction function with real time data
  International Journal of Central Banking 2 (June) (2021)
  with Markus Haavio, Pirkka Jalasjoki and Maritta Paloviita, Bank of Finland
  
  Using unique real-time quarterly macroeconomic projections of the Eurosystem/ECB staff, we estimate competing specifications of the ECB's monetary policy reaction function. We consider specifications which include inflation and output growth projections, a past inflation gap, a time-varying natural real interest rate, and different inflation targets. Our first key finding is that the de facto inflation target of the ECB lies between 1.6 percent and 1.8 percent. Our second key finding is that the ECB reacts both to short-term macroeconomic projections and to past deviations of inflation from its de facto target.

• Comparing Fiscal Consolidation Multipliers Across Models in Europe
  International Journal of Central Banking, September 2019
  with Massimiliano PISANI, Sebastian SCHMIDT, Vesna CORBO, Tibor HLEDIK, Josef HOLLMAYR, Samuel HURTADO, Paulo JÚLIO, Dmitry KULIKOV, Matthieu LEMOINE, Matija LOZEJ, Henrik LUNDVALL, José R. MARIA, Brian MICALLEF, Dimitris PAPAGEORGIOU, Jakub RYSANEK, Dimitrios SIDERIS, Carlos THOMAS, Gregory De WALQUE

This paper employs fifteen dynamic macroeconomic models maintained within the European System of Central Banks to assess the macroeconomic effects of a temporary fiscal tightening when the zero lower bound (ZLB) on monetary policy holds for two years. The main results are as following. First, the ZLB does not greatly affect short-run multipliers in the case of a temporary fiscal tightening implemented in isolation by a generic euro area (EA) country. Second, the ZLB unfolds quite sizeable effects on the size of multipliers if the same fiscal tightening measure is simultaneously implemented in the whole EA. Third, public consumption multipliers are typically larger in absolute value than short-run tax (on labor income, capital income, and consumption) multipliers. Fourth, recessionary effects of the initial fiscal tightening are lower if distortionary taxes are reduced in the medium and long run.

• Sovereign Risk, European Crises Resolution Policies and Bond Spreads
  International Journal of Central Banking, 11(2), 2015
  with Helinä Laakkonen and Jouko Vilmunen, Bank of Finland
  
  We study the effects of a wide range of European crisis resolution policies, including large scale asset purchase programs of the ECB, on 10-year sovereign bond spreads of seven European countries. Our results based on daily data on bond spreads suggests that policies that are directly geared towards easing the funding strains of the sovereigns and improving market liquidity have been most effective in calming the European sovereign markets. Quantitatively the largest effects on bond spreads are due to announcements of ECB's SMP program and OMTs. At the same time, announcements of financial assistant programmes have typically increased somewhat the perceived riskiness of long term bonds in the guarantor countries but reduced the bond spreads in the countries receiving funding.

• The Sensitivity of Job Destruction to Vintage and Tenure Effects
  Scandinavian Journal of Economics 116(4), 1068-1090, 2014. Article first published online 3 July 2014.
  with Juuso Vanhala, Bank of Finland
  
  Matching models with endogenous job destruction typically deliver excessively volatile job destruction and moderate volatility of vacancies. In our model, vintage and tenure effects promote the creation of new matches that are temporarily more productive, while reducing the survival of temporarily less productive matches. This cleansing effect produces a counter-cyclical inflow into unemployment, removes the strong response of job destruction to productivity shocks, and generates a downward-sloping Beveridge curve, as in the data. The model also generates more volatility in vacancies, the job-finding rate, and labor-market tightness.

• Consumption, Leisure and Borrowing Constraints
  The B.E. Journal of Macroeconomics 12(1) 2012
  
  We derive and estimate an aggregate Euler consumption equation in which non-separability between consumption and leisure and borrowing constrained households makes current consumption dependent on labour and asset (house) prices. Estimation results suggest that when labour is included in the aggregate consumption equation it proves to be more important than house prices in explaining the wide fluctuations in Finnish consumption data. Moreover, the evidence of excess sensitivity of consumption to income virtually disappears as the consumption Euler equation accounts for predictable changes in labour in the Finnish data.

• Transmission Lags and Optimal Monetary Policy
  Journal of Economic Dynamics and Control, 35 (4), 2011
  with Kai Leitemo, Norwegian School of Management (BI)
  
  The credibility problems of monetary policy are enlarged by transmission lags whenever the welfare criterion consists of arguments with differing transmission lags. If, as usually argued, prices react to monetary policy with a longer lag than output, the discretionary bias is substantially increased under a consumer welfare maximizing policy criterion (flexible inflation targeting) in the prototype New Keynesian model. Money growth targeting can significantly reduce the discretionary bias, but is not robust to other specifications of welfare with higher valuation of output stability

• New Evidence on Implicit Contracts from Linked Employer-Employee Data
  Scandinavian Journal of Economics 112 (4) Special issue: Price and Wage Dynamics, 2010
  with Torsten Santavirta, Aalto University School of Economics
  
  We improve the precision of the implicit contract model test proposed by Beaudry and DiNardo (1991). Our dataset allows us to define the exact industry and plant of a particular employment relationship, link local labor market characteristics to individual-level wages, and control for composition effects. We find evidence in favor of the spot-market model of wage setting in the whole sample, but there is significant variation across industries and education levels. In particular, the spot market matters most for low-skill workers, while the implicit contract model with one-sided limited commitment applies better to high-skill workers.

• Why Do Growth Rates Differ? Evidence from Cross-country Data on Private Sector Production
  Economica, Published online in July 30, 2009
  with Matti Viren, Bank of Finland
  
  We estimate standard production functions with a new cross-country data set on business sector production, wages and R&D investment for a selection of 14 OECD countries including the US. The data sample covers years 1960–2004. The data suggest that growth differences can largely be explained by capital deepening and the ability to produce new technology in the form of new patents. We also find strong evidence of complementarity between patents and openness of the economy, but little evidence of increasing elasticity of substitution over time.

• Model Uncertainty and Delegation: A Case for Friedman’s k-percent Money Growth Rule?
  Journal of Money Credit and Banking 40(2-3),  2008
  with Kai Leitemo, Norwegian School of Management (BI)
  
  Model uncertainty affects the monetary policy delegation problem. If there is uncertainty with regards to the determination of the delegated objective variables, the central bank will want robustness against potential model misspecifications. We show that with plausible degree of model uncertainty, delegation of the Friedman rule of increasing the money stock by k percent to the central bank will outperform commitment to the social loss function (flexible inflation targeting). The reason is that the price paid for robustness under flexible inflation targeting outweighs the inefficiency of money growth targeting. Imperfect control of money growth does not change this conclusion.

• Un Siglo y Medio de Velocidad de Circulacion del Dinero en Espana: Estimacion y Determinantes
  Journal of Iberian and Latin American Economic History 24, 2006
  with Concepcion Garcia-Iglesias, Univ. of Helsinki and Albert Carreras, Pompeu Fabra
  
  We present the yearly evolution of the Spanish income velocity of money (M2) and we explain its behavior from 1850 to 2000. The Spanish income velocity of money displays a downward trend until 1973 and shows the expected U-shaped pattern at the end of the twentieth century. An international comparison shows how the Spanish trend change occurs with a lag due to the late industrialization. We estimate the determinants of the velocity—the inverse of the demand for money—for the period 1850–1997. A cointegration analysis and an error correction model investigate the importance of the institutional variables in explaining the long-run behavior of the income velocity of money in Spain. The findings reveal a greater stability in the long-run velocity model when the institutional variables are considered.

• Taxation and Centralised Wage Setting: The Case of Endogenous Labour Supply
  Scottish Journal of Political Economy 52(4), 2005
  with Pekka Sinko, Government Institute for Economic Research
  
  The implications of centralised wage setting for the relationship between taxation, wages and employment are studied allowing for endogenous adjustment in work hours. We show that centralisation promotes wage moderation, makes wages and employment less sensitive to changes in wage taxation and reduces the hours worked. With an individual supply of working hours, a wage tax can even improve employment if wage setting is centralised and marginal utility from a public good is sufficiently high. Moreover, if a profit tax is used to finance public expenditure, higher tax reduces wages and improves employment.

• Labour taxation, public finance and wage-determination
  European Journal of Political Economy 20(4),  2004
  with Jaakko Kiander, Labour Institute for Economic Research and Jouko Vilmunen, Bank of Finland.
  
  This paper analyzes the relationship between unemployment, average effective labour tax rates and public spending in 17 OECD countries. The focus is on the degree of centralization and cooperation in wage setting. Estimation results from a dynamic time-series-cross-section model suggest that the countries where wage setting takes place at the firm level have used labour taxes less extensively in financing welfare spending, compared to countries with centralized or decentralized bargaining. This is consistent with another finding, according to which labour taxes distort the labour demand the most in the countries with firm level bargaining.

• Labour market flexibility in the euro area
  European Business Journal, vol. 12:2, 100–110, 2000
  with Jouko Vilmunen and  David Mayes

In Journals (Finnish)

• Onko inflaatio rahataloudellinen vai fiskaalinen ilmiö?
  Kansantaloudellinen aikakausikirja , 3/2021
  with  Jarmo Kontulainen, Bank of Finland
  
  Rahapolitiikan ja finanssipolitiikan yhteinen mittava elvytys koronakriisin aikana on nostanut esiin huolen velkaantumisesta ja fiskaalisesta dominanssista. Nämä huolet liittyvät läheisesti talouden hintatason määräytymiseen ja inflaatiodynamiikkaan tilanteessa, missä rahapolitiikan liikkumavara on kaventunut merkittävästi. Avaamme artikkelissamme näitä kysymyksiä toisaalta konventionaalisen rahapolitiikan teorian ja toisaalta ns. fiskaalisen hintatasoteorian näkökulmasta. Osoittautuu, että hintataso voidaan määrittää yksikäsitteisesti molemmissa regiimeissä. Valaisemme raha- ja finanssipolitiikan inflaatiovaikutuksia kummassakin regiimissä mallisimulointien avulla. Kun fiskaalinen hintatasoteoria yhdistetään rahapolitiikan oppikirjamalliin, inflaatio on rahapolitiikan ja finanssipolitiikan välisen interaktion tulos, missä sekä rahapolitiikan määrittelemä korkotaso että finanssipolitiikan päätökset valtion tuloista ja menoista määrittävät inflaatiota.

• Fiskaalinen devalvaatio yhtenä hintakilpailukykyä parantavana toimena
  Kansantaloudellinen aikakausikirja , 3/2016
  Fiskaalinen devalvaatio kohentaa hintakilpailukykyä sitä enemmän, mitä vaimeammin palkat reagoivat siihen. Vaikutusta tehostaa myös kotimaisten tuotantohintojen joustavuus. Dynaamiset vaikutukset huomioivien mallilaskelmien perusteella fiskaalisella devalvaatiolla on vaikea saada aikaan merkittävää ja pitkäaikaista kilpailukykyloikkaa ja työllisyyden paranemista. Pidemmällä aikavälillä fiskaalisen devalvaation vaikutuksia voidaan kuitenkin merkittävästi vahvistaa tehostamalla esimerkiksi hyödykemarkkinoiden toimintaa. Yksi keskeinen keino tässä on kilpailun lisääminen.

• Hiipuvan kasvun lähteillä
  Kansantaloudellinen aikakausikirja , 2/2015
  Suomen talous ei ole kasvanut bruttokansantuotteella mitattuna vuoden 2011 jälkeen. Yksi mahdollinen syy on että täystyöllisyystasapainon mukainen tasapainokorko on painunut niin alas että edes nykyinen historiallisen alhainen korkotaso ei riitä elvyttämään yksityistä kysyntää. Kansainvälisessä kirjallisuudessa ilmiöön liitetään käsite sekulaarinen stagnaatio.  Alhaisen tasapainokoron potentiaalisimmiksi selittäjiksi nousevat Suomessa hidas tuottavuuskasvu, väestön ikääntyminen ja investointien suhteellisten hintojen lasku. Hyvin alhaisen tasapainokoron mahdollisuus on syytä ottaa talouspolitiikassa huomioon, sillä taloudellinen kasvu voi jäädä hitaaksi hyvin pitkäksi aikaa. Kysynnän tilapäinen vahvistaminen finanssipolitiikan keinoin ei auta, sillä se ei nosta tasapainoreaalikorkoa. Talouspolitiikalla pitää pyrkiä ensisijaisesti tuottavuuskasvun vahvistamiseen poistamalla kilpailun rajoitteita ja vahvistamalla yritysten toimintaedellytyksiä ja innovatiivisuutta.

In Books and Collections