Slides: The Economics of Financial Stress (Chen Lian) (PEP2023)

(22)’s] experimental evidence Finding 1: financial stress & naivete =⇒ a psychological theory of poverty trap Sophisticates save out of stress, understanding that saving relieves stress Naifs dis-save, fall into a poverty trap, and incur high welfare losses 4 / 29 A Tractable Intertemporal Model of Financial Stress Model: A tractable intertemporal model of financial stress/“scarcity” Financial str. [...] (20)] Financial stress generates positive wealth effect of labor supply close to constraints ∂`j (a) `j (a) v ∂cj (a)− · −∂ Θ(a)= ∂a ︸ cj (a) σ︷︷ ∂a ︸ ︸ ︷∂︷a ︸ <0, wealth effect >0, alleviating financial stress I Relieving stress frees up time and cognitive resources for productive work 25 / 29 Financial Stress and the Wealth Effect of Labor Supply Model: negative wealth effect of labor supply wit. [...] I Popular debate about the stimulus check often centers around reliving financial stress 25 / 29 Positive Wealth Effect of Labor Supply Close to a (Naivete) labor 1.4 `1(a) 1.3 `2(a) `1(a) (No Stress) 1.2 `2(a) (No Stress) 1.1 1 0.9 0.8 0.7 0.6 a -0.2 0 0.2 0.4 0.6 0.8 1 Wealth, a 26 / 29 Productive labor hours, `j(a) Welfare Costs of Financial Stress Financial stress increases the welfare costs o. [...] Our survey, full sample I Q: financial stress at liquidity co(nstrai)nts & the slope of financial stress Θ̄,α = (0.27,2.0574) 7 / 43 Alternative Functional Forms of Stress Function: Sophistication main 1.2 s1(a) g1(a) 1 s2(a) g2(a) s1(a) (No Stress) g1(a) (No Stress) 0.8 s2(a) (No Stress) g2(a) (No Stress) 0.6 0.4 0.2 0 -0.2 Endo aEndo a -0.4 a 0 0.5 1 1.5 2 2.5 3 a 0 0.5 1 1.5 2 2.5 3 Wealth, a W. [...] δ F (·) is a normalized logistic function 1 − 1 1 −β x− 1 +e ( 2) 1 −β(0− 1 +e 2)F (x) = 1 − 1 , 1 1 1 −β(1− 2) 1 −β(0−+e +e 2) Θ = 0.27 (benchmark) b = 0.5 (location of the decline) δ = 0.5 and β = 50 (speed of the decline) 11 / 43 Non-convex Stress Function: Sophistication main 1.4 s1(a) g1(a) 1.2 s2(a) g2(a) s1(a) (No Stress) g1(a) (No Stress) 1 s2(a) (No Stress) g2(a) (No Stress) 0.8 0.6 0.4 0.