Fall 2004

Economics 527
Behavioral and Institutional Economics

Robert Shiller
Monday and Wednesday 1:00-2:20
robert.shiller@yale.edu
30 Hillhouse Ave., Room 23a, 432-3708
http://www.econ.yale.edu/~shiller

Administrative Assistant: carol.copeland@yale.edu, 432-3726, 30 Hillhouse Ave., Room 11a

Behavioral economics incorporates insights from other social sciences, such as psychology and sociology, into economic models, and attempts to explain anomalies that defy standard economic analysis. Institutional economics is the study of the evolution of economic organizations, laws, contracts, and customs as part of a historical and continuing process of economic development. Behavioral economics and institutional economics are naturally treated together, since so much of the logic and design of economic institutions has to do with complexities of human behavior. Topics include economic fluctuations and speculation, herd behavior, attitudes towards risk, money illusion, involuntary unemployment, saving, investment, poverty, identiy, religion, trust, risk management and social welfare institutions.

Course Requirements: Problem sets, short term paper on one of the topics on the reading list, take-home final exam of short essay form.

Three class sessions will be set aside for discussion of term paper topics: October 13, November 3, December 1. No class November 17.

Required Purchases (Audubon Copy Center):

1. Shiller, Robert J., Irrational Exuberance 2nd Edition, 2005 (prepublication draft, 2004)

2. Packet of Economics 527 readings


1. Introduction and Methodology, September 1

Akerlof, George, and Robert J. Shiller, "Behavioral Macroeconomics," (Packet)

Shiller, Robert, The New Financial Order: Risk in the 21st Century Intoduction, pp. 1-18 (Packet)

Barberis, Nicholas, and Richard C. Thaler, "A Survey of Behavioral Finance," NBER Working Paper No. w9222, 2002, www.nber.org.

Mitchell, Wesley C., "Commons on Institutional Economics," The American Economic Review, 25(4):635-52, December 1935. JSTOR

Joskow, Paul A. "The New Institutional Economics: A Report Card," ISNIE Presidential Address, 2004, http://www.isnie.org/ISNIE03/papers03/JOSKOW?PRESIDENTIAL%20FINAL?9?13?03.pdf

Wilson, E. O. Consilience: The Unity of Knowledge Knopf, 1998 RESERVE

Koopmans, Tjalling "Measurement without Theory," Review of Economics and Statistics 29:161-72, August 1947 JSTOR

Sims, Christopher A. "Macroeconomics and Reality," Econometrica 48:148, January 1980. JSTOR

Popper, Karl R. The Logic of Scientific Discovery Section 1 and Section 20, New York, Science Editions, 1961. RESERVE

Caldwell, Bruce J., "Clarifying Popper," Journal of Economic Literature 29(1):1-33, 1991. JSTOR

Friedman, Milton, "The Methodology of Positive Economics," in M. Friedman Essays in Positive Economics Chicago: University of Chicago Press, 1956. RESERVE


2. Economic Fluctuations and Speculation, September 6

Irrational Exuberance Chapters 1 and 2

Romer, Christina, "The Great Crash and the Onset of the Great Depression," Quarterly Journal of Economics, 105(3) (August 1990), pp. 597-624. JSTOR

Sachs, Jeffrey, and Stephen Radelet, "The Onset of the East Asian Financial Crisis," NBER Working Paper No. w6680, August 1998 Brookings Papers on Economic Activity 28-1, pp. 1-74, 1998,


3. Zeitgeist and Confidence, September 8

Irrational Exuberance Chapters 3, 6, and 7

Khurana, Rakesh, Searching for a Corporate Savior: The Irrational Quest for Charismatic CEOs Princeton University Press, 2004. RESERVE

Frum, David,How We Got Here: The 70s, The Decade that Brought You Modern Life--For Better or Worse RESERVE

Katona, George, "On the Origin of Changes in Attitudes," Chapter 5 in George Katona, The Powerful Consumer: Psychological Studies of the American Economy, 1960, McGraw-Hill Book Company, Inc., pp. 68-79. (Packet)


4. Feedback, September 13

Irrational Exuberance Chapter 4

Barberis, Nicholas, and Andrei Shelifer, Style Investing NBER Working Paper No. w8039, December 2000.

Barberis, Nicholas, Andrei Shleifer, and Robert Vishny, "A Model of Investor Sentiment," Journal of Financial Economics, 49 (1998): 30743. JSTOR

Campbell, John Y. and John H. Cochrane, "By Force of Habit: A Consumption-Based Explanation of Aggregate Stock Market Behavior," NBER Working Paper, 1995.


5. Epidemics and Herd Behavior, September 15

Irrational Exuberance Chapter 9

Bikhchandani, D., David Hirshleifer and Ivo Welch, "A Theory of Fashion, Social Custom and Cultural Change," Journal of Political Economy 81:637-54, 1992. JSTOR

Avery, Christopher, and Peter Zemsky, "Multidimensional Uncertainty and Herd Behavior in Financial Markets," American Economic Review 88(4):724-48, 1998. JSTOR

Banerjee, Abhijit, "A Simple Model of Herd Behavior," Quarterly Journal of Economics107(3):979-817, 1992. JSTOR

Lee, In Ho, "Market Crashes and Informational Avalanches," The Review of Economic Studies 65(4):741-60, 1998. JSTOR


6. Efficient Markets Theory, September 20

Irrational Exuberance Chapters 10 and 11

Siegel, Jeremy J. and Thaler, Richard H. "Anomalies: The Equity Premium Puzzle." Journal of Economic Perspectives, Winter, 1997, 11(1), pp. 191-200. JSTOR


7. Prospect Theory, September 22

Kahneman, Daniel, and Amos Tversky, "Prospect Theory," Econometrica 1989. JSTOR.

Barberis, Nicholas, Ming Huang and Tano Santos, "Prospect Theory and Asset Prices," Quarterly Journal of Economics 116(1):1 2001

Thaler, Richard and E. J. Johnston, "Gambling with the HOuse Money and Trying to Break Even: The Effects of Prior Outcomes on Risky Choice," Management Science 36:643-60. JSTOR: Search under business


8. Money Illusion and Institutions to Exploit or Combat It, September 27

Fisher, Irving, The Money Illusion, Adelphi Company Publishers, New York, 1928, Ch. I, "A Glance at the Money Illusion," pp. 3-18. Packet

Kahneman, Daniel, Jack Knetsch and Richard H. Thaler, "Fairness as a Constraint on Profit-Seeking: Entitlements in the Market," American Economic Review September 76:4 (September 1986) pp. 728-41. Packet, JSTOR

Eldar Shafir, Diamond, Peter, and Tversky, Amos. "Money Illusion." Quarterly Journal of Economics, May 1997, 112(2), pp. 341-74. JSTOR

Shiller, Robert J., "Why Do People Dislike Inflation?" in Christina D. Romer and David H. Romer, eds., Reducing inflation: Motivation and Strategy. NBER Studies in Business Cycles, vol. 30. Chicago and London: University of Chicago Press, 1997, pp. 13-65.

Zeckhauser "Schmeduling," unpublished paper, Kennedy School, 2004.

Heidhues, Paul, and Botond Koszegi, "The Impact of Consumer Loss Aversion on Pricing," Heidhues-Koszegi-Pricing.pdf

Shiller, Robert J. "New Units of Measurement and Electronic Money," in The New Financial Order Princeton, 2003 (Packet)


9. Involuntary Unemployment, September 29

Yellen, Janet L. "Efficiency Wage Models of Unemployment." American Economic Review, May, 1984 (Papers and Proceedings), 74(2), pp. 200-5. packet, JSTOR

Krueger, Alan B., and Lawrence H. Summers, "Efficiency Wages and the Interindustry Wage Structure," Econometrica, 56(2) (March 1988), pp. 259-93. packet, JSTOR

Fehr, Ernst, Georg Kirchsteiger and Arno Riedl. "Does Fairness Prevent Market Clearing? An Experimental Investigation." Quarterly Journal of Economics, May 1993, 108(2), pp. 437-59. packet, JSTOR

Blanchard, Olivier, and Lawrence Summers, "Hysteresis in Unemployment," European Economic Review, 31:1/2 (February-March 1987), pp. 288-95. packet, JSTOR

Paola Giuliano "The Determinants of Living Arrangements" Giuliano_Paper.pdf


10. Wage and Price Dynamics, Phillips Curve, October 4

Bewley, Truman, Why Wages Don't Fall During a Recession, Chapter 11, pp. 170-198. Cambridge, MA: Harvard University Press, 1999. Chapter 11, "Resistance to Pay Reduction," pp. 170-198. Packet RESERVE

Akerlof, George A., William T. Dickens and George L. Perry. "Near-Rational Wage and Price Setting and the Long-Run Phillips Curve." Brookings Papers on Economic Activity; 2000:1, pp. 1-44. Packet

Mankiw, N. Gregory and Ricardo Reis. "Sticky Information versus Sticky Prices: A Proposal to Replace the New Keynesian Phillips Curve," Quarterly Journal of Economics, 117:4 (November 2002) pp.1295-1328. Packet

George A. Akerlof and Janet L. Yellen. "A Near-Rational Model of the Business Cycle, with Wage and Price Inertia," Quarterly Journal of Economics, Supplement 1985a, 100(5), pp. 823-38. Packet JSTOR

`Mankiw, N. Gregory. "Small Menu Costs and Large Business Cycles: A Macroeconomic Model." Quarterly Journal of Economics, May 1985, 110(2), pp. 529-38. Packet JSTOR


11. Consumption and Saving, October 6

Shefrin, Hersh M., and Richard Thaler, "The Behavioral Life-Cycle Hypothesis," Economic Inquiry, 26:4 (October, 1988), pp. 609-43. Packet JSTOR

Thaler, Richard H. and Shlomo Benartzi Save More Tomorrow: Using Behavioral Economics to Increase Employee Saving," unpublished paper, University of Chicago, 2001 (forthcoming, Journal of Political Economy)

Angeletos, George-Marios, David Laibson, Andrea Repetto, Jeremy Tobacman, and Stephen Weinberg, "The Hyperbolic Consumption Model: Calibration, Simulation, and Empirical Evaluation," Journal of Economic Perspectives, 15:3 (Summer 2001), pp. 47-68. Packet JSTOR

Bernheim, B. Douglas, Jonathan Skinner, and Steven Weinberg. "What Accounts for the Variation in Retirement Wealth Among U.S. Households?" American Economic Review, September 2001, 91(4), pp. 832-55.


12. Investment, October 11

Bond, Stephen R. and Jason G. Cummins, "The Stock Market and Investment in the New Economy: Some Tangible Facts and Intangible Fictions," Brookings Papers on Economic Activity, 2000:1, pp. 61-108. Packet

Lamont, Owen, "Cash Flow and Investment: Evidence from Internal Capital Markets," Journal of Finance, 52:1 (March 1997) pp. 83?109. JSTOR

First Paper Discussion Session, October 13

13. Coordination Failures, October 18

Howitt, Peter and Robert Clower. "The Emergence of Economic Organization." Journal of Economic Behavior and Organization, January 2000, 41(1), pp. 55?84. Packet

Fehr, Ernst, and Jean Robert Tyran, "Does Money Illusion Matter?" American Economic Review, December, 2001, 91(5), pp. 1239-62. Packet


14. Poverty and Identity, October 20

Akerlof, George A., and Rachel E. Kranton, "Economics and Identity." Quarterly Journal of Economics, August 2000, 115(3), pp. 715-53. Packet


15. Religion, October 25

Weber, Max, The Protestant Ethic and the 'Spirit' of Capitalism Chapter I (Religious Affiliation and Social Stratification) and II (The Spirit of Capitalism) translated by Talcott Parsons, Routledge 2002 [1904-5, 1930] RESERVE

Barro, Robert J. and Rachel McCleary "Religion and Economic Growth," NBER Working Paper No. w9682, May 2003.


16. Trust and Social Capital, October 27

caballero, Ricardo, Kevin Cowan, and Jonathan Kearns, "Fear of Sudden Stops: Lessons from Australia and Chile" NBER Working Paper No. 10519, May 2004.

Glaeser, Edward L., David Laibson, Jose A. Scheinkman and Chirstine L. Soutter, "What is Social Capital? The Determinants of Trust and Trustworthiness" NBER Working Paper, 1999.


17. Risk Management Institutions, November 1

Moss, David, When All Else Fails: Government as the Ultimate Risk Manager Harvard University Press, 2004. RESERVE

Shiller, Robert J., The New Financial Order, Chapter 9: "Macro Markets Trading the Biggest Risks." Packet


Second Paper Discussion Session, November 3

18. Managing Large Risks, November 8

Baxter, Marianne, and Urban Jermann, "The International Diversification Puzzle is Worse Than You Think, America Economic Review, March 1997, 87:170-80. JSTOR

Bottazzi, Laura, Paulo Pesenti, and Eric van Wincoop, "Wages, Profits, and the International Portfolio Puzzle," European Economic Review, 1996, 40: 219–254. JSTOR

Brainard, William, and F.T. Dolbear, "Social Risk in Financial Markets," American Economic Review, 1971, 61: 360–370. JSTOR

Backus, David, Patrick Kehoe, and Finn Kydland, "International Real Business Cycles," Journal of Political Economy, 1992, 100: 745–775. JSTOR

Davis, Steven, Jeremy Nalewaik and Paul Willen, "On the Gains to International Trade in Risky Financial Assets,"; NBER Working Paper No. 7796, 2000.

Baxter, Marianne, Urban J. Jermann, and Robert G. King, "Synthetic Returns on NIPA Assets: An International Comparison," European Economic Review, 1998, 42: 1141–-172. JSTOR

Caballero, Ricardo J., and Arvind Krishnamurthy, "Smoothing Sudden Stops," NBER Working Paper #8427, 2001,

Athanasoulis, Stefano, and Robert J. Shiller "World Income Components: Measuring and Exploiting International Risk-Sharing Opportunities," American Economic Review, September 2001, Cowles Foundation Discussion Paper No. 1239.

Froot, Kenneth, "The Market for Catastrophe Risk: A Clinical Examination," NBER Working Paper No. 8110, 2001.


19. Real Estate Risks, November 10

Caplin, Andrew, Sewin Chan, Charles Freeman, and Joseph Tracy, Housing Partnerships: A New Approach to a Market at a Crossroads, MIT Press, 1997. JSTOR

Shiller, Robert J., and Allan N. Weiss, "Home Equity Insurance" Journal of Real Estate Finance and Economics, 1999.

Sinai, Todd, and Nicholas Souleles, "Owner Occupied Housing as Insurance Against Rent Risk," unpublished paper, Wharton School, University of Pennsylvania, May 2001.

Case, Bradford, William Goetzmann, and Geert Rouwenhorst, "Global Real Estate Markets: Cycles and Fundamentals," Yale University, March 1999.


20. Institutional Failures in Development Economics, November 15

Easterly, William, The Elusive Quest for Growth: Economists' Adventures and Misadventures in the Tropics MIT Press, 2002. RESERVE

Stiglitz, Joseph Globalization and Its Discontents W.W. Norton, 2003. RESERVE

De Soto, Hernando, Mystery of Capital: Why Capitalism Succeeds in the West and Fails Everywhere Else Basic Books, 2003. RESERVE


21. Dynamism, November 29

Phelps, Edmund, "Economic Underperformance in Continental Europe: A Prospering Economy Runs on the Dynamism from its Economic Institutions" Packet

Gordon, Robert J., "Why Was Europe Left at the Station when America's Productivity Locomotive Departed?" Discussion Paper No. 4416, Centre for Economic Policy Research, 2004,

Clark, Gregory, "Why Isn't the Whole World Developed? Lessons from the Cotton Mills," The Journal of Economic History 47(1):141-73, March 1987. JSTOR


Third Paper Discussion Session, December 1