The Costs of Emerging Markets Financial Crises: Output, Productivity and Welfare

1. The Costs of Emerging Markets Financial Crises: Output, Productivity and Welfare LFN, Buenos Aires September 30, 2009

2. The paper • Basic question: Why are financial crises so costly in terms of output and welfare? • Or, why does TFP collapse during financial crisis? • Note that the welfare question is tricky and the W function that we use in economics may not be the appropriate one • For instance people care a lot about unemployment (Pernice and Sturzenegger, 2003) • I say this because the paper talks about murders and suicides

3. The paper • It builds a model based on the hypothesis that financial crises decrease the efficiency of resource allocation and shows how this decrease in efficiency affects TFP • It also includes: • A careful discussion of the difference between the ideal measure of real value added and the approach used by national statistical agencies • An empirical application to the Argentinean crisis of 2001/2002 • Maybe the Argentinean government could start charging royalties on papers on the Argentinean crisis

4. The paper • Basic question: Why are financial crises so costly in terms of output and welfare? • One hypothesis is that resources are allocated less efficiently (or more inefficiently) during crises • The paper presents a framework for measuring this effect • Guido and Mark are very careful in building a model that can then be taken to the data. • This is a great contribution of the paper

5. This is the equation we use to implement our TFP decomposition

6. The paper • Main findings: • In the Argentinean crisis 60% of the decline in TFP is driven by changes in the efficiency of resource allocation (especially allocation across sectors) • But 17 percent (??) is measurement error

7. Crisis • We model the crisis as an unanticipated change in the prices at which goods trade internationally, the world interest rate, and the entire distribution of wedges faced by firms • Intuition: • Real depreciation • ? • ?

8. Crisis • Questions: • Is the international interest rate that changes (presumably goes up), or some measure of the risk premium? • What about the wedges?

9. What are the wedges? • The paper provides an intuition in term of distortionary taxes • But why are they different across sectors (and possibly even across plants)? • Why does the financial crisis affect them in a different way? • For me it is very hard to follow the paper without understanding more about the wedges

10. Fixed costs • Flow fixed costs and initial fixed costs • Are they the same? • I don’t think they should be • How important are they for the results of the model? • Does it make sense to assume that the decision to produce in any given period is static? • Is this related to the assumption on flow fixed costs and start-up fixed costs? • Doesn’t this modeling strategy generate too many shutdowns?

11. Empirical application • How do you take care of entry and exit in your sample? • It is very strange that the wedge on capital is the one that changes the least • One would think that a financial crisis should have a big effect on investment

12. A view from the planet Krugman • The ongoing financial crisis has made it clear that macroeconomic models need to allocate a more prominent role to financial shocks and financial frictions. One possible way to achieve this is by adopting a behavioural approach that incorporates elements of “animal spirits”, as outlined, for instance, in the recent book by Akerlof and Shiller (2009). In our own work, we have focused on a different avenue through which financial shocks could affect the macroeconomy – the interaction between nonstandard economic shocks and enforcement problems of financial contracts • Jermann and Quadrini • Guido and Mark are closer to J&Q than to A&S • So, I asked my father

13. The Costs of Emerging Markets Financial Crises: Output, Productivity and Welfare LFN, Buenos Aires September 30, 2009