Working Papers

 

 

 

 

 

1.     Responses to "Toward Bubble Clarity: A Comment on Miao and Wang", with Pengfei Wang, PDF, May 2025

 

Abstract: Tomohiro Hirano and Alexis Akira Toda (2025) argue that our model (Miao and Wang 2018) does not feature a rational bubble based on the traditional definition. Their comment is more about semantics rather than about substance. They do not find any error in Miao and Wang (2018). Their argument does not apply to the Miao-Wang model, which goes beyond the traditional definition. The bubble component in the Miao-Wang model incorporates a liquidity premium and cannot be ruled out by the transversality condition.

 

 

2.     Long-Term Securities and Banking Crises, with Zhouxiang Shen and Dongling Su, PDF, October 2023

 

Abstract: The US bank holdings of long-term securities have increased in recent years. As is witnessed by the recent bank failures including SVB, prices of long-term securities are sensitive to interest rate hikes and can trigger bank runs. To study the role of bank holdings of long-term bonds, we incorporate banks in a DSGE framework. We study how cost-push shocks and the associated passive or active interest rate hikes affect the macroeconomy including inflation, investment, and output. The procyclical bank balance sheets and long-term bond prices amplify the adverse shocks, which can trigger bank runs. We introduce two types of macroprudential policies that can mitigate or prevent banking crises: a permanent tax on bank holdings of long-term bonds and a cyclical tax that responds to interest-rate changes.

 

3.     Fiscal Stimulus under Average Inflation Targeting, with Zheng Liu and Dongling Su, PDF, November 2022

 

Abstract: The stimulus effects of expansionary fiscal policy under average inflation targeting (AIT) depends on both monetary and fiscal policy regimes. AIT features an inflation makeup under the monetary regime, but not under the fiscal regime. In normal times, AIT amplifies the short-run fiscal multipliers under both regimes while mitigating the cumulative multiplies due to intertemporal substitution. In a zero-lower-bound (ZLB) period, AIT reduces fiscal multipliers under a monetary regime by shortening the duration of the ZLB through expected inflation makeup. Under the fiscal regime, AIT has a nonlinear effect on fiscal multipliers because of the absence of inflation makeup and the presence of a nominal wealth effect.

 

 

4.     Robust Financial Contracting and Investment, PDF, with Aifan Ling and Neng Wang, Jaunary 2021.

 

Abstract: We study how investors' preferences for robustness influence corporate investment, financing, and compensation decisions and valuation in a financial contracting model with agency. We characterize the robust contract and show that early liquidation can be optimal when investors are sufficiently ambiguity averse. We implement the robust contract by debt, equity, cash, and a financial derivative asset. The derivative is used to hedge against the investors' concern that the entrepreneur may be overly optimistic. Our calibrated model generates sizable equity premium and credit spread, and implies that ambiguity aversion lowers Tobin's q, the average investment, and investment volatility. The entrepreneur values the project at an internal rate of return of 3.5% per annum higher than investors do.

 

 

5.     Multivariate LQG Control under Rational Inattention in Continuous Time. February 2019

 

Abstract: I propose a multivariate linear-quadratic-Gaussian control framework with rational inattention in continuous time. I propose a three-step solution procedure. The critical step is to transform the problem into a rate distortion problem and derive a semidefinite programming representation. I provide generalized reverse water-filling solutions for some special cases and characterize the optimal signal dimension. I apply my approach to study a consumption/saving problem and illustrate two pitfalls in the literature.

 

 

 

  1. Oil Driven Stock Price Momentum, with Dayong Huang, PDF, May 2016

 

Abstract: Stocks with high exposure to oil price movements perform well when oil price rises and poorly when oil price falls. This oil driven stock price momentum differs from the conventional stock price momentum and it is related to firms’ profitability. Daily oil price movement measures the state of the economy at high frequency and exposures to oil price movement estimated with daily data can be significant in forecasting future returns.

 

 

  1. Dynamic Contracts with Learning Under Ambiguity, with Shaolin Ji and Li Li, PDF, March 2016.

 

Abstract: We study a continuous-time principal-agent problem with learning under ambiguity. The agent takes hidden actions to affect project output. The project quality is unknown to both the principal and the agent. The agent faces ambiguity about mean output, but the principal does not. We show that incentives are delayed due to ambiguity. While belief manipulation due to learning about unknown quality causes wages and pay-performance sensitivity to be front-loaded, ambiguity smooths wages and causes the drift and volatility of wages to decline more slowly over time. When the level of ambiguity is sufficiently large, the principal fully insures the agent by allowing the agent to shirk forever.

 

 

  1. Credit Risk and Business Cycles, with Pengfei Wang, PDF, August 2010.

 

Abstract: We incorporate long-term defaultable corporate bonds and credit risk in a dynamic stochastic general equilibrium business cycle model. Credit risk amplifies aggregate technology shocks. The debt-capital ratio provides a new state variable and its endogenous movements provide a propagation mechanism. The model can match the persistence and volatility of output growth as well as the mean equity premium and the mean risk-free rate as in the data. The model implied credit spreads are countercyclical and forecast future economic activities because they affect firm investment through Tobin's Q. They also forecast future stock returns through changes in the market price of risk. Finally, we show that shocks to the credit markets are transmitted to the real economy through Tobin's Q.

 

 

 

The following papers are outdated and need revisions. But they are still cited by a few papers.

 

1.     Stationary Equilibria of Economies with a Continuum of Heterogeneous Consumers, PDF, 2002

 

2.     Managerial Preferences,  Corporate Governance, and Financial Structure, PDF, with Hong Liu, March 2006

 

3.     Experimentation under Uninsurable Idiosyncratic Risk: An Application to Entrepreneurial Survival, PDF, with Neng Wang, May 2007

 

Abstract: We propose an analytically tractable continuous-time model of experimentation in which a risk-averse entrepreneur cannot fully diversify the idiosyncratic risk from his business investment. He makes consumption/savings and business exit decisions jointly, while learning about the unknown quality of the project over time. Using the closed-form solutions, we show that (i) the entrepreneur may stay in business even though the project's net present value (NPV) is negative; (ii) entrepreneurial risk aversion erodes option value and lowers private project value so that a sufficiently risk-averse entrepreneur may exit even when the NPV is positive; (iii) a more risk-averse or a more pessimistic entrepreneur exits earlier; and (iv) the model can generate a positive relation between wealth and entrepreneurial survival duration from undiversifiable idiosyncratic risk without liquidity constraints.

 

4.     Corporate Tax Policy and Long-Run Capital Formation: The Role of Irreversibility and Fixed Costs, PDF, May 2008.

Abstract: This paper presents an analytically tractable continuous-time general equilibrium model with investment irreversibility and fixed adjustment costs. In the model, there is a continuum of firms that are subject to idiosyncratic shocks to capital. Although the presence of investment frictions lowers consumer welfare, it may raise or reduce the long-run average capital stock, depending on the degree of idiosyncratic uncertainty. An increase in this uncertainty may raise equilibrium aggregate capital, but reduce welfare. An unexpected permanent change in the corporate income tax rate affects the investment trigger and target values, and hence the size and rate of capital adjustment. Following this tax policy, the percentage changes in equilibrium quantities are larger when fixed adjustment costs are larger. These changes are significantly smaller in a general equilibrium model than in a partial equilibrium model.