Research, Economics

Research Profile: Luba Petersen, Economics

November 28, 2016

An Assistant Professor in the Department of Economics, Dr. Luba Petersen's work uses experimental economic methods to understand macroeconomic problems. Her research in macroeconomics moves beyond conventional macroeconomic models, which attempt to predict how people make economic decisions, to focus instead on how economic policy can influence beliefs and decisions.

Combining macroeconomics – the study of the aggregate economy – with experimental economics – the use of experimental methods to study individual and group behavior in economic settings – is crucial to Petersen's approach. As she explains, “In a laboratory experimental economy, researchers don’t have to wait around for the ideal scenario to occur or policy to be implemented.” Instead, new policies can be tested with no risk, making it easier to identify the effects of a policy change on behavior.

Petersen traces her research interests to her undergraduate degree at McMaster University. While working at the McMaster Experimental Economics Laboratory as a research assistant, she became interested in the intersection of experimental methods and macroeconomics. During her PhD at the University of California Santa Cruz, Petersen realized that almost all macroeconomics research uses models of the economy that “make rather strong assumptions about how people make decisions (optimally) and form beliefs about their environment (rationally).” Petersen's PhD research thus focused on how people’s behaviour compares to the predictions of standard economic theory.

By using laboratory experiments in her work, Petersen evaluates assumptions underlying mainstream macroeconomic models, and illustrates how “people rely on historical information and past experience to form their beliefs about the future”, noting that they “do not always make optimal decisions.” In recent work, Petersen relies on these findings to demonstrate the need for more effective monetary policies, a crucial finding since “policymakers can’t simply toy around with policy to learn about how the economy works, but in the lab, I can expose subjects to a particular environment without creating a real-world recession. I can experiment with policies, information or features of the economy and see how these changes influence behaviour.”

For instance, in her 2016 working paper with Guidon Fenig and Mariya Mileva, Petersen examines asset price bubbles in terms of how different monetary policies and regulatory strategies might stabilize the bubbles. In the experiment, subjects can work, buy goods, and trade risky assets in the economy. Study results show that the standard policy recommendation of restricting lending can actually worsen asset price bubbles, as household investors circumvent borrowing constraints by working more and putting their wealth into asset markets. However, raising interest rates in response to asset price inflation to dissuade speculation initially stimulates the growth of asset price bubbles as investors’ savings grow, but can pop the bubble when interest rates reach higher levels.

Petersen also works with Oleksiy Kryvtsov at the Bank of Canada to examine how individuals and groups form expectations about the economy. Expectations are understood in conventional macroeconomic theories to influence the economy, but Kryvtsov and Petersen find that this ‘expectations channel’ is weaker than predicted by theory. This finding is important because it will inform ongoing research to identify the causal links between “macroeconomic disturbances, policy, and central bank communication, beliefs and decisions,” by examining how minor changes in central bank announcements can influence individual beliefs, and how economies evolve.

Petersen’s advice for students interested in pursuing graduate studies in Economics is straightforward: “you need to have a research idea that you feel is important, because you’ll be dedicating years of study to your work”, and she suggests that students should “expect to fail repeatedly until you get your idea, model, regressions, experiments to work out. But if you are really passionate about what you are researching, you will not mind that initial failure so much and you will have the motivation to keep going.”

Adopting a similar approach in her undergraduate teaching, Petersen emphasizes the need for students to think creatively, suggesting “It is essential for students to be able to develop strategies for tackling new problems or puzzles.” She adds, “I have students explain how they reason through the problem, identify where their confusion is, and have them figure out (hopefully on their own) the solution.” Petersen also “encourages students to question their own logic or intuition,” advice that clearly informs her own research that challenges conventional macroeconomic thinking.