nep-cmp New Economics Papers
on Computational Economics
Issue of 2010‒10‒02
nineteen papers chosen by
Stan Miles
Thompson Rivers University

  1. Heuristic Strategies in Finance – An Overview By Marianna Lyra
  2. SAINT – a Standardized CGE-model for Analysis of Indirect Taxation By Bohlin, Lars
  3. Comparing the Economic Impact of an Export Shock in Two Modeling Frameworks By Andrew J. Cassey; David W. Holland; Abdul Razack
  4. A Keynes-Kalecki Model of Cyclical Growth with Agent-Based Features By Mark Setterfield; Andrew Budd
  5. Transporting goods and damages. The role of trade on the distribution of climate change costs By Schenker, Oliver
  6. Public spending composition and public sector efficiency: Implications for growth and poverty reduction in Uganda By Sennoga, Edward B.; Matovu, John Mary
  7. Solving infinite-dimensional optimization problems by polynominal approximation By DEVOLDER, Olivier; GLINEUR, François; NESTEROV, Yurii
  8. Semi-Closed Form Cubature and Applications to Financial Diffusion Models By Christian Bayer; Peter Friz; Ronnie Loeffen
  9. International Cooperation on Climate Change Adaptation from an Economic Perspective By Kelly C. de Bruin; Rob B. Dellink; Richard S.J. Tol
  10. A macroeconomic model for the evaluation of labor market reforms By Krebs, Tom; Scheffel, Martin
  11. Error bounds for small jumps of L\'evy processes and financial applications By El Hadj Aly Dia
  12. Simulation of Risk Processes By Burnecki, Krzysztof; Weron, Rafal
  13. A Numerical Analysis of Optimal Extraction and Trade of Oil under Climate Policy By Emanuele Massetti; Fabio Sferra
  14. The Optimal Climate Policy Portfolio when Knowledge Spills Across Sectors By Emanuele Massetti; Lea Nicita
  15. A three dimensional stochastic Model for Claim Reserving By Magda Schiegl
  16. Analytical and Numerical Approaches to Pricing the Path-Dependent Options with Stochastic Volatility By Yu. A. Kuperin; P. A. Poloskov
  17. About the Justification of Experience Rating: Bonus Malus System and a new Poisson Mixture Model By Magda Schiegl
  18. Perpetual Cancellable American Call Option By Thomas J. Emmerling
  19. Transaction fees and optimal rebalancing in the growth-optimal portfolio By Yu Feng; Matus Medo; Liang Zhang; Yi-Cheng Zhang

  1. By: Marianna Lyra
    Abstract: This paper presents a survey on the application of heuristic opti- mization techniques in the broad field of finance. Heuristic algorithms have been extensively used to tackle complex financial problems, which traditional optimization techniques cannot efficiently solve. Heuristic optimization techniques are suitable for non-linear and non-convex multi-objective optimization problems. Due to their stochastic fea- tures and their ability to iteratively update candidate solutions, heuris- tics can explore the entire search space and reliably approximate the global optimum. This overview reviews the main heuristic strategies and their application to portfolio selection, model estimation, model selection and financial clustering.
    Keywords: finance, heuristic optimization techniques, portfolio management, model selection, model estimation, clustering
    Date: 2010–09–21
  2. By: Bohlin, Lars (Department of Business, Economics, Statistics and Informatics)
    Abstract: This paper describes a computable general equilibrium (CGE) model that builds on the IFPRI standard model but is more suitable for analysis of taxes on specific commodities. It has a richer structure of taxes and trade margins on commodities than the IFPRI model and a flexible nest structure of production and household demand functions. It may be used for open as well as for closed economies. Also, data for a Swedish implementation is described and this application of the model is compared to some previous Swedish CGE models in terms of the estimated effects of a doubling of the CO2 tax rate.
    Keywords: Optimal taxation; CGE-analysis
    JEL: D58 D62 H23
    Date: 2010–09–21
  3. By: Andrew J. Cassey; David W. Holland; Abdul Razack (School of Economic Sciences, Washington State University)
    Abstract: Because of more restrictive assumptions on regional input-output (IO) models compared to computable general equilibrium (CGE) models, the literature agrees IO results are intuitively consistent with long run equilibrium but otherwise overestimated. We compare the results of IO and CGE models from an exogenous export shock under various labor market constraints and capital closures. Consistent with the literature, we find the IO model's results do not match those of the CGE models. But contrary to conventional wisdom, the positive secondary impacts are larger with the CGE models than with the IO model. Furthermore, we find the closest match between direct effects is when the CGE model has short run restrictions. Our finding means that the common view of CGE model results being both lower in estimate and more accurate in the short run than IO models does not universally hold. Thus researchers’ choice of models and interpretation of results need to be more nuanced and cautious than previously thought.
    Keywords: input-output, computable general equilibrium, economic impacts, exports
    JEL: C67 C68 R13 R15
    Date: 2010–07
  4. By: Mark Setterfield (Department of Economics, Trinity College); Andrew Budd (Sloan School of Management, MIT)
    Abstract: Throughout his career, Malcolm Sawyer has both encouraged and contributed to the development of a Kaleckian alternative to conventional macroeconomic theory. In the spirit of this endeavour, we construct a Keynes-Kalecki model of cyclical growth with agent-based features. Our model is driven by heterogeneous firms who, confronting an environment of fundamental uncertainty, revise their “state of long run expectations” in response to recent events. Model simulations generate fluctuations in the rate of growth that are aperiodic and of variable amplitude. We also study the size distribution of firms resulting from our simulations, finding evidence of a power law distribution that we have no reason to anticipate from the basic structure of our model. Finally, we reflect on the potential advantages of combining aggregate structural modelling with some of the methods and practices of agent-based computational economics.
    Keywords: Kaleckian model, growth, cycles, agent-based computational economics
    JEL: E12 E32 E37 O41
    Date: 2010–09
  5. By: Schenker, Oliver
    Abstract: Impacts from climate change vary signicantly across world regions. Whereas regions in tropical and subtropical areas will sufer severely from the eects of climate change, are the impact estimates for regions in more northern latitudes relative moderate. But regions can not be considered as independent from each others exposure. In this paper we examine the spillover of climate change impacts between regions through international trade within a climate sensitive, dynamic CGE model with international trade. Under the emission scenario SRES A1B we observe at the end of the twenty-first century regional losses between 2 and 13 % GDP relative to a scenario without climate change. By means of a decomposition method we show that such a spillover of damages through international trade has a signicant influence, positive or negative, on the total costs of climate change for a region. For regions with low exposure to climate change and high adaptive capacities, spillover effects are responsible for a third of total costs from climate change.
    Keywords: Climate Change; Multi-regional Dynamic CGE Model; International Trade; Decomposition of General Equilibrium Effects.
    JEL: C68 O41 F47 D58
    Date: 2010–07–19
  6. By: Sennoga, Edward B.; Matovu, John Mary
    Abstract: The paper examines the interrelationships between public spending composition and Uganda's development goals including economic growth and poverty reduction. We utilize a dynamic CGE model to study these interrelationships. This paper demonstrates that public spending composition does does indeed influence economic growth and poverty reduction. In particular, this study shows that improved public sector efficiency coupled with re-allocation of public expenditure away from the unproductive sectors such as public administration and security to the productive sectors including agriculture, energy, water and health leads to higher GDP growth rates and accelerates poverty reduction. Moreover, the rate of poverty is faster in rural households relative to the urban households. A major contribution of this paper is that investments in agriculture particularly with a view of promoting value addition and investing in complementary infrastructure including roads and affordable energy contributes to higher economic growth rates and also accelerates the rate of poverty reduction.
    Keywords: Sennoga, Matovu, EPRC, Public expenditure, Economic growth - Uganda, Poverty reduction, Computable General Equilibrium, Agribusiness, Agricultural and Food Policy, Community/Rural/Urban Development, Consumer/Household Economics, Crop Production/Industries, Demand and Price Analysis, Financial Economics, Institutional and Behavioral Economics, Production Economics, Public Economics, Resource /Energy Economics and Policy, C68, D58, E62, F15, H62, 132,
    Date: 2010–02
  7. By: DEVOLDER, Olivier (Center for Operations Research and Econometrics (CORE), Université catholique de Louvain (UCL), Louvain la Neuve, Belgium); GLINEUR, François (Center for Operations Research and Econometrics (CORE), Université catholique de Louvain (UCL), Louvain la Neuve, Belgium); NESTEROV, Yurii (Center for Operations Research and Econometrics (CORE), Université catholique de Louvain (UCL), Louvain la Neuve, Belgium)
    Abstract: In this paper, we solve a class of convex infinite-dimensional optimization problems using a numerical approximation method that does not rely on discretization. Instead, we restrict the decision variable to a sequence of finite-dimensional linear subspaces of the original infinite-dimensional space and solve the corresponding finite-dimensional problems in a efficient way using structured convex optimization techniques. We prove that, under some reasonable assumptions, the sequence of these optimal values converges to the optimal value of the original infinite-dimensional problem and give an explicit description of the corresponding rate of convergence.
    Keywords: infinite-dimensional optimization, polynomial approximation, semidefinite programming, positive polynomials, optimization in normed spaces, continuous linear programs, infinite programming
    Date: 2010–06–01
  8. By: Christian Bayer; Peter Friz; Ronnie Loeffen
    Abstract: Cubature methods, a powerful alternative to Monte Carlo due to Kusuoka~[Adv.~Math.~Econ.~6, 69--83, 2004] and Lyons--Victoir~[Proc.~R.~Soc.\\Lond.~Ser.~A 460, 169--198, 2004], involve the solution to numerous auxiliary ordinary differential equations. With focus on the Ninomiya-Victoir algorithm~[Appl.~Math.~Fin.~15, 107--121, 2008], which corresponds to a concrete level $5$ cubature method, we study some parametric diffusion models motivated from financial applications, and exhibit structural conditions under which all involved ODEs can be solved explicitly and efficiently. We then enlarge the class of models for which this technique applies, by introducing a (model-dependent) variation of the Ninomiya-Victoir method. Our method remains easy to implement; numerical examples illustrate the savings in computation time.
    Date: 2010–09
  9. By: Kelly C. de Bruin (Environmental Economics and Natural Resources Group Wageningen University); Rob B. Dellink (Environmental Economics and Natural Resources Group, Wageningen University); Richard S.J. Tol (Institute for Environmental Studies, Vrije Universiteit Economic and Social Research Institute, and Department of Spatial Economics, Vrije Universiteit)
    Abstract: This paper investigates the economic incentives of countries to cooperate on international adaptation financing. Adaptation is generally implicitly incorporated in the climate change damage functions as used in Integrated Assessment Models. We replace the implicit decision on adaptation with explicit adaptation in a multi-regional setting by using an adjusted RICE model. We show that making adaptation explicit will not affect the optimal mitigation path when adaptation is set at its optimal level. Sub-optimal adaptation will, however, change the optimal mitigation path. Furthermore this paper studies for different forms of cooperation what effects international adaptation transfers will have on (i) domestic adaptation and (ii) the optimal mitigation path. Adaptation transfers will fully crowd out domestic adaptation in a first best setting. Transfers will decrease overall mitigation in our numerical simulations. An analytical framework is used to analyse the most important mechanisms and a numerical model is used to assess the magnitude of effects.
    Keywords: Climate Change, Adaptation Funding, Integrated Assessment Modeling
    JEL: H41 Q4 Q54
    Date: 2010–05
  10. By: Krebs, Tom; Scheffel, Martin
    Abstract: We develop a tractable macroeconomic model with employment risk and labor market search in order evaluate the effects of labor market reform on unemployment, growth, and welfare. The model has a large number of risk-averse households who can invest in risk-free physical capital and risky human capital. Unemployed households receive unemployment benefits and decide how much search effort to exert. We present a theoretical characterization result that facilitates the computation of equilibria substantially. We calibrate the model to German data and use the calibrated model economy to simulate the macroeconomic effects of the German labor market reforms of 2005 and 2006 (Hartz Reforms). We find that the 2005-reform had large employment effects: the equilibrium unemployment rate has been reduced by approximately 1.1 percentage points from 7.5 to 6.4 percent. Moreover, the drop in unemployment has led to substantial output gains. Finally, employed and short-term unemployed households experienced significant welfare gains, whereas the long-term unemployed have lost in welfare terms. The effects of the 2006-reform are qualitatively similar, but quantitatively much smaller. We also show that the social welfare maximizing replacement rate is lower than the current (post-reform) replacement rate in Germany. However, implementing the optimal unemployment benefit system generates only small welfare gains. --
    Keywords: dynamic general equilibrium,heterogenous agents,human capital,labor market search,unemployment insurance,German labor market reform
    JEL: E24 E60 J64 J65
    Date: 2010
  11. By: El Hadj Aly Dia (LAMA)
    Abstract: The pricing of exotic options in exponential L\'evy models amounts to the computation of expectations of functionals of the whole path of a L\'evy process. In many situations, Monte-Carlo methods are used. However, the simulation of a L\'evy process with infinite L\'evy measure generally requires either to truncate small jumps or to replace them by a Brownian motion with the same variance. We derive bounds for the errors generated by these two types of approximation. These bounds can be applied to a number of exotic options (barriers, lookback, American, Asian).
    Date: 2010–09
  12. By: Burnecki, Krzysztof; Weron, Rafal
    Abstract: This paper is intended as a guide to simulation of risk processes. A typical model for insurance risk, the so-called collective risk model, treats the aggregate loss as having a compound distribution with two main components: one characterizing the arrival of claims and another describing the severity (or size) of loss resulting from the occurrence of a claim. The collective risk model is often used in health insurance and in general insurance, whenever the main risk components are the number of insurance claims and the amount of the claims. It can also be used for modeling other non-insurance product risks, such as credit and operational risk. In this paper we present efficient simulation algorithms for several classes of claim arrival processes.
    Keywords: Risk process; Claim arrival process; Homogeneous Poisson process (HPP); Non-homogeneous Poisson process (NHPP); Mixed Poisson process; Cox process; Renewal process.
    JEL: C63 C24 G32 C15
    Date: 2010
  13. By: Emanuele Massetti (Fondazione Eni Enrico Mattei, Euro-Mediterranean Center for Climate Change); Fabio Sferra (Fondazione Eni Enrico Mattei)
    Abstract: We introduce endogenous investments for increasing conventional and non-conventional oil extraction capacity in the integrated assessment model WITCH. The international price of oil emerges as the Nash equilibrium of a non-cooperative game. When carbon emissions are not constrained, oil is used throughout the century, with unconventional oil taking over conventional oil from mid-century onward. When carbon emissions are constrained, oil consumption drops dramatically and the oil price is lower than in the BaU. Unconventional oil is not extracted. Regional imbalances in the distribution of stabilisation costs are magnified and the oil-exporting countries bear, on average, costs three times larger than in previous estimates.
    Keywords: Climate Policy, Integrated Assessment, Oil Production, Oil Revenues, Oil Trade
    JEL: E17 F17 Q32 Q43 Q54
    Date: 2010–09
  14. By: Emanuele Massetti (Fondazione Eni Enrico Mattei and Euro-Mediterranean Center for Climate Change); Lea Nicita (Fondazione Eni Enrico Mattei)
    Abstract: This paper studies the implications for climate policy of the interactions between environmental and knowledge externalities. Using a numerical analysis performed with the hybrid integrated assessment model WITCH, extended to include mutual spillovers between the energy and the non-energy sector, we show that the combination between environmental and knowledge externalities provides a strong rationale for implementing a portfolio of policies for both emissions reduction and the internalisation of knowledge externalities. Moreover, we show that implementing technology policy as a substitute for stabilisation policy is likely to increase global emissions.
    Keywords: Technical Change, Climate Change, Development, Innovation, Spillovers
    JEL: C72 H23 Q25 Q28 O31 O41 Q54
    Date: 2010–07
  15. By: Magda Schiegl
    Abstract: Within the Solvency II framework the insurance industry requires a realistic modelling of the risk processes relevant for its business. Every insurance company should be capable of running a holistic risk management process to meet this challenge. For property and casualty (P&C) insurance companies the risk adequate modelling of the claim reserves is a very important topic as this liabilities determine up to 70% percent of the balance sum. We propose a three dimensional (3D) stochastic model for claim reserving. It delivers consistently the reserve's distribution function as well as the distributions of all parts of it that are needed for accounting and controlling. The calibration methods for the model are well known from data analysis and they are applicable in an practitioner environment. We evaluate the model numerically by the help of Monte Carlo (MC) simulation. Classical actuarial reserve models are two dimensional (2D). They lead to an estimation algorithm that is applied on a 2D matrix, the run off triangle. Those methods (for instance the Chain - Ladder or the Bornhuetter - Ferguson method) are widely used in practice nowadays and give rise to several problems: They estimate the reserves' expectation and some of them - under very restriction assumptions - the variance. They provide no information about the tail of the reserve's distribution, what would be most important for risk calculation, for assessing the insurance company's financial stability and economic situation. Additionally, due to the projection of the claim process into a two dimensional space the results are very often distorted and dependent on the kind of projection. Therefore we extend the classical 2D models to a 3D space because we find inconsistencies generated by inadequate projections into the 2D spaces.
    Date: 2010–09
  16. By: Yu. A. Kuperin; P. A. Poloskov
    Abstract: In this paper new analytical and numerical approaches to valuating path-dependent options of European type have been developed. The model of stochastic volatility as a basic model has been chosen. For European options we could improve the path integral method, proposed B. Baaquie, and generalized it to the case of path-dependent options, where the payoff function depends on the history of changes in the underlying asset. The dependence of the implied volatility on the parameters of the stochastic volatility model has been studied. It is shown that with proper choice of model parameters one can accurately reproduce the actual behavior of implied volatility. As a consequence, it can assess more accurately the value of options. It should be noted that the methods developed here allow evaluating options with any payoff function.
    Date: 2010–09
  17. By: Magda Schiegl
    Abstract: The claim experience of the past is a very important information to calculate the fair price of an insurance contract. In a lot of European countries for instance the prices for motor car insurance depend on the number of claims the driver has reported to the insurance company during the last years. Classically these prices are calculated on the basis of a mixed Poisson model with a gamma mixing distribution. The mixing distribution models the car drivers' qualities across the insured portfolio. This is just one example for experience rating. In the classical context the price is equal to the expectation of the Bayesian posterior distribution. In some lines of business (especially third party liability and lines with exposure to extreme weather events) we that the real world data cannot be described well enough by the classical Poisson - gamma model. Therefore we investigate the influence of the mixing distribution on the posterior distribution conditional on the experienced number of claims. This enables the application of other - more risk adequate premium principles than the expectation principle. We introduce the inverse - gamma distribution as a new mixing distribution to model claim numbers and compare it to the classical gamma distribution. In both cases a closed analytic representation of the mixed distribution can be found: In the classic case the well known negative binomial distribution, in our new one a representation using the Bessel functions. Additionally we present numerical results about the tail behaviour of the mixed Poisson - inverse - gamma distribution. Finally we introduce the concept of resolution. It enables us to decide if the classification of risk groups via the number of experienced claims is a risk adequate procedure.
    Date: 2010–09
  18. By: Thomas J. Emmerling
    Abstract: This paper examines the valuation of a generalized American-style option known as a Game-style call option in an infinite time horizon setting. The specifications of this contract allow the writer to terminate the call option at any point in time for a fixed penalty amount paid directly to the holder. Valuation of a perpetual Game-style put option was addressed by Kyprianou (2004) in a Black-Scholes setting on a non-dividend paying asset. Here, we undertake a similar analysis for the perpetual call option in the presence of dividends and find qualitatively different explicit representations for the value function depending on the relationship between the interest rate and dividend yield. Specifically, we find that the value function is not convex when $r>d$. Numerical results show the impact this phenomenon has upon the vega of the option.
    Date: 2010–09
  19. By: Yu Feng; Matus Medo; Liang Zhang; Yi-Cheng Zhang
    Abstract: The growth-optimal portfolio optimization strategy pioneered by Kelly is based on constant portfolio rebalancing which makes it sensitive to transaction fees. We examine the effect of fees on an example of a risky asset with a binary return distribution and show that the fees may give rise to an optimal period of portfolio rebalancing. The optimal period is found analytically in the case of lognormal returns. This result is consequently generalized and numerically studied for broad return distributions and returns generated by a GARCH process.
    Date: 2010–09

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