Working Papers

Inflation and Treasury Convenience, with Anna Cieslak and Wenhao Li, 2023

- supported by NSF grant 2149193 - SSRN Link

We document low-frequency shifts in the relationship between inflation and the convenience yield on US Treasury bonds. Treasury convenience comoves positively with inflation during the inflationary 1970s and 1980s, but negatively in the pre-WWII period and the pre-pandemic 2000s. We explain these changes with an interplay of the ``money channel” and the ``New Keynesian demand channel” by introducing Treasury convenience yield into a standard New Keynesian model. Exogenous shocks to inflation (such as cost-push shocks) raise nominal interest rates and, by extension, the opportunity cost of holding money and money-like assets, inducing a positive inflation-convenience relationship as observed in the 1970s and 1980s. In contrast, exogenous shocks to liquidity preferences (such as those originating from financial crises and panics) raise the perceived value of Treasuries, lowering consumption demand and inflation, and result in a negative inflation-convenience relationship as seen pre-WWII and post-2000. We argue that the experience of the past century is inconsistent with a direct effect of inflation depressing Treasury convenience.

Perceptions about Monetary Policy, with Michael Bauer and Adi Sunderam, 2023

- revise and resubmit Quarterly Journal of Economics - 

- supported by NSF grant 2149193 - BFI Summary

- Press Brookings, American Banker - 

We estimate perceptions about the Fed's monetary policy rule from panel data on professional forecasts of interest rates and macroeconomic conditions. The perceived dependence of the federal funds rate on economic conditions is highly time-varying. Forecasters update their perceptions about the policy rule in response to monetary policy actions, measured by high-frequency interest rate surprises, suggesting that forecasters have imperfect information about the rule. The perceived rule is priced into financial markets crucial for monetary policy transmission, affecting how interest rates respond to macroeconomic news and term premia in long-term interest rates.

Back to the 1980s or Not? The Drivers of Inflation and Real Risks in Treasury Bonds, 2023

- supported by NSF grant 2149193 - BFI Summary

Data: Treasury Risk Stagflation Indicators (February 2023)

AFA 2023 Inflation Panel Slides

This paper analyzes the informational content of nominal and real bond risks for the economic drivers in a New Keynesian model of monetary policy. Endogenously time-varying risk premia fit standard asset pricing moments for bonds and stocks, and link model nominal bond-stock betas to the shocks prevalent in equilibrium, rather than realized shocks. Counterfactual analyses show that positive nominal bond-stock betas as in the 1980s arise from the combination of supply shocks and a reactive monetary policy rule, but not if supply shocks are accompanied by a more inertial output-focused monetary policy response.

Commitment and Investment Distortions Under Limited Liability, 2023, with Jesse Perla and Mike Szkup

- revise and resubmit Journal of Economic Theory - 

We study how frictions originating from the presence of limited liability distort firms’ investment and financing choices. By financing new investments with debt, firms can use limited liability to credibly commit to defaulting earlier---allowing both firms' owners and new creditors to benefit from diluting existing creditors. In a dynamic setup, this leads to a time-inconsistency, which increases the cost of external funds, and discourage investment. We show that the interaction of these two forces leads to heterogeneous investment distortions where highly-indebted firms overinvest and those with low levels of debt underinvest. Allowing direct payments to firms’ owners financed with debt can mitigate overinvestment but, in the presence of repeated investment opportunities, tend to exacerbate the underinvestment of low-leverage firms.

The Dark Side of Conservative Central Banks: A Model of Political Turnover and the Central Bank, with Wioletta Dziuda, 2022

We present a two-period model, where an apolitical central bank affects electoral outcomes. The central bank minimizes a standard quadratic loss function in inflation and unemployment along an expectational Phillips curve, where the elected government's quality acts as a supply shock. In the model, a central bank with a strong price stability mandate shifts the fully rational electoral mean-variance trade-off towards the incumbent of known quality and away from the challenger of unknown quality, thereby allowing lower quality incumbents to be reelected. Intuitively, because the incumbent's quality is less uncertain she benefits more from the reduction in the inflation bias, and suffers less from the increase in unemployment volatility, when the central bank is focused on stabilizing inflation. We test key model predictions using data on elections and central bank laws from developed countries and in a difference-in-differences design around the introduction of the Euro. In line with the model, we show that political leaders are more likely to be reelected if the central bank governor is directly appointed by the executive, and when the central bank has a mandate focused exclusively on price stability.