Essays on macroeconomics

University of Minnesota Ph.D. dissertation. July 2013. Major:Economics. Advisors: Fabrizio Perri and Timothy J. Kehoe. 1 computer file (PDF); viii, 75 pages, appendix A.The dissertation includes two essays. In the first essay I try to explain the slow recovery of the U.S. economy after the 2008-2009 recession. I develop a theory in which the slow recovery is due to continuing weak consumption demand arising from slowly resolved aggregate uncertainty. An exogenous belief shock creates uncertainty about firms' credit availability. This translates into income uncertainty at the household level because firms have to borrow from banks in order to hire workers. In response, household demand is low, which in turn causes firms to borrow little and produce little. This low level of economic activity impedes the resolution of uncertainty regarding credit availability. Therefore, the economy stagnates with high uncertainty, low demand, and low output, even though there is no shock to fundamentals. The resolution of uncertainty is not efficient because households do not fully internalize the effect of increasing their own demand on improving the quality of information. This leaves room for government intervention. Quantitatively my model generates a slow recovery, which is comparable to U.S. employment data. Model pre- dictions are also consistent with U.S. county level data: counties with cheaper access to household credit have higher employment but all counties recover at the same rate. In the second essay, which is co-authored with Yun Pei, we try to understand the impact of sovereign default on the lending countries. We develop a model in which banks in the lending countries can buy foreign sovereign bond, provide loan to domestic firms and borrow from domestic households. We find that a sovereign default in foreign countries can result in an output drop in the lending countries, because the default can worsen the balance sheet of banks. Therefore default risk in foreign countries can be transmitted to output risk in the lending countries. However, this does not mean that the governments in the lending countries should limit the purchase of foreign sovereign bond. A tax on the purchase of sovereign bond reduces the output fluctuation but also decreases the welfare of domestic bankers and households