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Why are emerging economies excessively vulnerable to shocks to external funding? What was the role of financial flows from emerging to developed economies in setting the stage for the subprime crisis? This paper addresses these questions in a simple general equilibrium framework that emphasizes the aggregate implications of the misallocation of funds on the micro level. The analysis shows that the misallocation of funds amplifies volatility even in a closed economy. Financial integration between relatively distorted emerging economies and relatively undistorted developed economies leads to a further divergence in volatility, thereby providing a new and simple explanation for the divergent trends in output volatility up to the recent crisis. In the integrated environment, cheap funding leads to an endogenous deterioration of the financial system in developed economies. These predictions are consistent with a wide variety of microfoundations, in which distortions cause productive projects to be relatively more sensitive to aggregate shocks. The paper provides some empirical evidence for these microfoundations.

Banks & Banking Reform --- Debt Markets --- Economic Theory & Research --- Emerging market volatility --- Emerging Markets --- Financial crises --- Financial distortions --- Log supermodularity --- Macroeconomics and Economic Growth --- Markets and Market Access --- Matching --- The Great Moderation

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Does an unregulated financial system absorb too many productive inputs? This paper studies this question in the context of a dynamic model with heterogeneous producers. In the absence of a financial system, the only way to purchase inputs is using internal funds. Producers are subject to idiosyncratic productivity shocks, and will decide to produce only if their productivity is high enough. Otherwise, they will hold money. A financial intermediation technology allows producers to purchase inputs in excess of their internal funds, by borrowing from unproductive agents. However, intermediation requires the use of costly monitoring services. In equilibrium, intermediation increases the money in circulation and raises nominal prices, thereby reducing the value of internal funds and making producers increasingly reliant on costly monitoring services. For this reason, society is better off when intermediation is restricted.

Access to Finance --- Costs of the financial sector --- Debt Markets --- Economic Theory & Research --- Finance and Financial Sector Development --- Financial intermediation --- Financial regulation --- Fiscal & Monetary Policy --- Islamic Finance --- Liquidity --- Macroeconomics and Economic Growth

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Is a five-day workweek followed by a two-day weekend a socially optimal schedule? This paper presents a model in which labor productivity and the marginal utility of leisure evolve endogenously over the workweek. Labor productivity is shaped by two forces: restfulness, which decreases over the workweek, and memory, which improves over the workweek. The structural parameters of the model are disciplined using daily variation in electricity usage per worker. The results suggest that increases in the ratio of vacation to workdays lead to output losses. A calibration of the model suggests that a 2-3 day workweek followed by a 1 day weekend can increase welfare.

Calendar Reform. --- E-Business. --- Economic Theory and Research. --- Fatigue. --- Labor Markets. --- Labor Policies. --- Learning By Doing. --- Leisure. --- Macroeconomics and Economic Growth. --- Memory. --- Private Sector Development. --- Productivity. --- Religious Institutions. --- Social Protections and Labor. --- Week. --- Work and Working Conditions.

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This paper studies the possibility of using financial regulation that prohibits the use of money substitutes as a tool for mitigating the adverse effects of deviations from the Friedman rule. When inflation is not too high regulation aimed at eliminating money substitutes improves welfare by economizing on transaction costs. The gains from regulation depend on the distribution of income and the level of direct taxation. The area under the demand for money curve is equal to the welfare cost of inflation only when there are no direct taxes and no proportional intermediation cost: otherwise, the area under the demand curve overstates the welfare cost of inflation when money substitutes are not important and understates the welfare cost when money substitutes are important.

Access to Finance --- Debt Markets --- Economic Theory & Research --- Emerging Markets --- Finance and Financial Sector Development --- Liquidity --- Macroeconomics and Economic Growth --- Political Economy --- Private Sector Development --- Regulations of Money Substitutes --- Welfare Cost of Inflation

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This paper studies the issue of real exchange rate misalignment and the difficulties in settling international real exchange rate disputes. The authors show theoretically that determining when a country should be sanctioned for real exchange rate "manipulations" is difficult: in some situations a country's real exchange rate targeting can be beneficial to other countries, while in others it is not. Regardless, it is difficult to establish whether a misaligned real exchange rate is intentionally manipulated rather than unintentionally caused by other policies or by various distortions in the economy. The paper continues by illustrating the difficulty in measuring real exchange rate misalignment, and provides a critical assessment of existing methodologies. It concludes by proposing a new method for measuring real exchange rate misalignment based on differences in marginal products between producers of tradable and non-tradable goods.

Currencies and Exchange Rates --- Debt Markets --- Economic Stabilization --- Economic Theory & Research --- Macroeconomic Management --- Macroeconomics and Economic Growth --- Real exchange rate misalignment