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PhD Students Grants

Michaelmas 2021 Funding Results

From Fixed Contracts to Free Markets: The Welfare Effects of Liberalizing Pakistan's Electricity Sector
Researcher: Tim Dobermann
Picture a planner in a developing country deciding on critical investments into electricity generation. Before them lies a suite of options: the capacity of the power plant, the fuel used by the generator, and the variable costs proposed by a contractor. When evaluating each proposal they must not only consider what is efficient and cost-effective today but what will be so in the future. Invest too little and the country will face blackouts; invest too much and the country must shoulder the fiscal consequences. Looming over their decision is the knowledge that their choice will stand for two to three decades, must cover demand over this rapidly changing period, and can only be reversed at great cost. A rigid power purchase price, sealed by a fixed contract, sets in stone the decision. Do we expect the planner to have made the right choice? Unlikely. Can we, however, even ascertain what the right choice in this story is? Again, unlikely. Predicting demand or cost changes year by year can be fickle, let alone over decades.

Instead of determining these contracts ex-ante, we could draw from classical Hayekian ideas by introducing a market that lets producers rapidly respond to “changes in the particular circumstances of time and place”. This project will evaluate the welfare effects of the introduction of a wholesale market for electricity generation in Pakistan. This market will replace an age-old system of rigid contracts negotiated and set by centralized planners, offering a unique opportunity to study the ideas famously set out by Hayek on the role of markets in harnessing decentralized knowledge to improve the welfare of society. Records on existing power purchase contracts will be assembled to examine what happens to the cost of supply after the market is introduced in April 2022. Drawing on a long-standing engagement with the federal government of Pakistan with co-authors, I will use confidential electricity billing and firm tax data to measure the welfare effects of the (hypothesized!) price changes from the market reform. Over time, but beyond the scope of this grant, I will examine changes in investment following the introduction of the market, notably whether there is an entry in other cost-competitive technologies like solar that may have been previously disadvantaged.
The Use of Knowledge in Policy Implementation Learning to Implement (Industrial) Policy: Evidence from Three Decades of IP in Korea
Researcher: Philipp Barteska
This project will contribute to the understanding of two themes of Hayek's work -- the use of knowledge in society and the role of the state. It will do so by studying bureaucrats' ability and learning-by-doing in the implementation of industrial policy. It aims to provide evidence that successful industrial policy relies on bureaucrats' experience in particular sectors and with individual firms, reflecting Hayek's observation of the value of "knowledge of people, of local conditions, and special circumstances".

To estimate the importance of learning-by-doing, the main empirical strategy will exploit the pre-existing variation in industries and firms exporting to the country of each bureaucrat's 1st assignment to identify effects on subsequent targeting and effectiveness of export promotion measures. This approach exploits plausibly exogenous variation as products that were insignificant for Korean exports at the time of export promotion officers' first appointments, often quickly gained in importance in subsequent years. This gain in importance occurred due to factors unrelated to the individual bureaucrat: the rapid growth and change in composition of Korean manufacturing and national policies such as the Heavy and Chemical Industries drive (1972-1979). This suggests that differential exposure to individual products targeted by this policy drive in the pre-1972 era was likely uncorrelated with other bureaucrat characteristics but significant to their later ability to promote exports in line with national policy.Instead of determining these contracts ex-ante, we could draw from classical Hayekian ideas by introducing a market that lets producers rapidly respond to "changes in the particular circumstances of time and place". This project will evaluate the welfare effects of the introduction of a wholesale market for electricity generation in Pakistan. This market will replace an age-old system of rigid contracts negotiated and set by centralized planners, offering a unique opportunity to study the ideas famously set out by Hayek on the role of markets in harnessing decentralized knowledge to improve the welfare of society. Records on existing power purchase contracts will be assembled to examine what happens to the cost of supply after the market is introduced in April 2022. Drawing on a long-standing engagement with the federal government of Pakistan with co-authors, I will use confidential electricity billing and firm tax data to measure the welfare effects of the (hypothesized!) price changes from the market reform. Over time, but beyond the scope of this grant, I will examine changes in investment following the introduction of the market, notably whether there is an entry in other cost-competitive technologies like solar that may have been previously disadvantaged.
Hayek Redux: Bankruptcy, Leverage and Productivity Growth
Researcher: Johannes Matt
Innovation is risky. Its outcomes are highly uncertain. Entrepreneurs spend vast sums of their own money in the hunt for the next big thing. Some succeed, many fail. A well-structured bankruptcy code provides the institutional underpinning for successful innovation. It is the safety net for entrepreneurs to fail and try again.

Over the last decade international bankruptcy law has undergone sweeping changes. The European Commission has been pushing for a long-overdue harmonisation across member states. Across the pond, the U.S. bankruptcy code has been amended numerous times in recent years. The trend has gone towards making laws more creditor-friendly while trying to maintain protection for creditors.

The aim of this project is to analyse how bankruptcy laws affect innovation and economic growth. A well-known trade-off in economic theory is between exploitation of well-known concepts and the exploration of new ideas. Small, incremental innovations and the exploitation of minor improvements can contribute to sustained economic growth. But it is the big ideas that push the technological frontier. The optimal design of the bankruptcy code is about how we can ensure sufficient exploitation of ideas, while encouraging the development of new, cutting-edge innovation.

Throughout his work on free banking, Hayek has emphasised the importance of financial intermediation, credit and credit liquidation for economic growth. In an interview with the newspaper The Times in the autumn of 1980, Hayek stressed the importance of tight bankruptcy laws for economic growth pointing out that "all that bankruptcy does is to remove an inefficient management and give someone else the chance to take over. Britain would have been much better, in fact, if it had had bigger and better bankruptcies" (Bradley 1980). Bankruptcy regulation has been at the forefront of Hayek's work on the Great Depression of 1929. In his 1933 essay The present state and immediate prospects of the study of industrial fluctuations, Hayek highlights the importance of firm liquidation to escape the deflationary pressures of financial crises. In fact, Hayek argues that it is exactly aggressive liquidation of unproductive firms that can contribute to long-run economic growth.
The Macroeconomic Implications of Bankruptcy Moratoria
Researcher: Yannick Schindler
This research project explores the large fluctuations in corporate bankruptcy rates and capital re-allocation that occur across the business cycle. In particular, this project provides theoretical evidence that the degree to which capital can freely re-allocate across an economy is an important factor driving bankruptcy rates. This evidence is puzzling as it contrasts sharply with a common narrative classically told about macroeconomic fluctuations: an economy that can more flexibly adjust where capital and labour are allocated can better weather a recession than an economy in which capital and labour are very rigid and fixed. How can an economy that features both the possibility of corporate bankruptcy and capital re-allocation feature deeper and more prolonged recessions than a more rigid economy? Because of the rich interaction between a) changes in corporate bankruptcy rates, b) the cost of capital, and c) capital re-allocation away from firms that are at a high risk of bankruptcy and towards firms that are less at risk of bankruptcy. In effect, capital flows away from firms who are at risk of going bankrupt at exactly the time when keeping capital with those firms is most important for attenuating the impact of a recession. At its current stage, the project relies on micro-founded modelling to shed light on the rich feedback loops between the rate of bankruptcies and the degree of capital re-allocation in the economy. Early theoretical results already suggest that inserting bankruptcies into a structural model in the real business cycle tradition generates significant room for welfare enhancing policies that try to mitigate bankruptcy rates following a negative shock to the economy.

The research themes in this project relate to theories of the business cycle, which were of significant interest to Hayek and the subject of much of his work in the 1920s and 1930s. Furthermore, the findings of this project are informative for policies that amend, at the national level, bankruptcy procedures such as the bankruptcy moratoria enacted in many countries during the COVID-19 crisis. These market interventions would likely have been of interest to Hayek given his belief in laissez-faire market mechanisms and aversion to state intervention. It is through both the study of business cycles and the focus on the welfare implications of state-enacted bankruptcy moratoria that this research project relates to Hayekian ideas. Furthermore, given the widespread, and unprecedented, enactment of national bankruptcy moratoria during the COVID-19 crisis, this research project is both timely and relevant to the current discussion of optimal state interventions following sudden shocks like the COVID-19 pandemic.