nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2006‒01‒24
29 papers chosen by
Christian Zimmermann
University of Connecticut

  2. Real Business Cycle Models: Past, Present and Future By Rebelo, Sérgio
  3. The Impact of Labor Markets on the Transmission of Monetary Policy in an Estimated DSGE Model By Kai Christoffel; Keith Kuester; Tobias Linzert
  4. Business cycle non-linearities and productivity shocks By Paolo Piselli
  5. Search Equilibrium, Production Parameters and Social Returns to Education: Theory and Estimation By Christian Holzner; Andrey Launov
  6. Global versus Country-Specific Shocks and International Business Cycles By Michel Normandin; Bruno Powo Fosso
  7. Evaluating the Performance of the Search and Matching Model By Eran Yashiv
  8. Optimal Fiscal Policy over the Business Cycle By Filippo Occhino
  9. Economic and VAR Shocks: What Can Go Wrong? By Jesús Fernández-Villaverde; Juan F. Rubio-Ramíre; Thomas J. Sargent
  10. Equilibrium dynamics in an aggregative model of capital accumulation with heterogeneous agents and elastic labor. By Cuong Le Van; Manh Hung Nguyen; Yiannis Vailakis
  11. Real Business Cycle Theory and the Great Depression : The Abandonment of the Absentionist Viewpoint By Michel, DE VROEY; Luca, PENSIEROSO
  12. Existence of competitive equilibrium in a single-sector growth model with heterogeneous agents and endogenous leisure. By Cuong Le Van; Manh Hung Nguyen
  13. Monetary policy with heterogenous agents and credit constraints. By Yann Algan; Xavier Ragot
  14. Estimation and Evaluation of a Segmented Markets Monetary Model By John Landon-Lane; Filippo Occhino
  15. Liquidity effects in non Ricardian economies. By Jean-Pascal Bénassy
  16. The Welfare Cost of Macroeconomic Uncertainty in the Post-War Period By João Victor Issler; Afonso Arinos de Mello Franco; Osmani Teixeira de Carvalho Guillén
  17. DSGE Models of High Exchange-Rate Volatility and Low Pass-Through By Corsetti, Giancarlo; Dedola, Luca; Leduc, Sylvain
  18. Interest rate rules, inflation and the Taylor principle: An analytical exploration. By Jean-Pascal Bénassy
  19. Obsolescence and Productivity By Antonio R. Sampayo; Fernando del Río
  20. From Busts to Booms, in Babies and Goodies By Michele Boldrin; Larry Jones; Alice Schoonbroodt
  21. Competitiveness, market power and price stickiness: A paradox and a resolution. By Jean-Pascal Bénassy
  22. The real effect of inflation with credit constraints. By Xavier Ragot
  23. The Distribution of Money Balances and the Non-Neutrality of Money By Aleksander Berentsen; Gabriele Camera; Christopher Waller
  24. Debt Non-Neutrality, Policy Interactions, and Macroeconomic Stability By Ludger Linnemann; Andreas Schabert
  25. The Dynamic Behavior of the Real Exchange Rate in Sticky Price Models By Bjorn A. Hauksson
  26. It's a Small Small Welfare Cost of Fluctuations By Frank Portier; Luis A. Puch
  27. The Political Economy of Housing Supply By François Ortalo-Magné; Andrea Prat
  28. Financial Repression, Tax Evasion and Long-Run Monetary and Fiscal Policy Trade-Off in an Endogenous Growth Model with Transaction Costs By Patrick Villieu; Alexandru Minea
  29. The fiscal theory of the price level puzzle: A non Ricardian view. By Jean-Pascal Bénassy

  1. By: Martin Menner
    Abstract: Search-theory has become the main paradigm for the micro-foundation of money. But no comprehensive business cycle analysis has been undertaken yet with a search-based monetary model. We extend the model with divisible goods and divisible money of Shi (JET, 1998) to allow for capital formation, analyze the monetary propagation mechanism and contrast the model .s implications with US business cycle stylized facts. With empirically plausible adjustment costs the model features a persistent propagation of monetary shocks and is able to replicate fairly well the volatility and cross-correlation with output of key US time series, including sales and inventory investment. We find that monetary policy shocks are unlikely to be an important source of business cycle fluctuations but discover another dimension where money matters: the very frictions that make money essential shape also the responses of variables to real shocks.
    Date: 2005–10
  2. By: Rebelo, Sérgio
    Abstract: In this paper I review the contribution of real business cycles models to our understanding of economic fluctuations, and discuss open issues in business cycle research.
    Keywords: business cycles; productivity; recessions
    JEL: E1 E3
    Date: 2005–12
  3. By: Kai Christoffel (European Central Bank); Keith Kuester (Goethe University, Frankfurt); Tobias Linzert (European Central Bank and IZA Bonn)
    Abstract: Real wages are a key determinant of marginal costs. The latter themselves are a driving force of inflation. We ask how wages and labor market shocks feed into the inflation process. We model search and matching frictions in the labour market in an otherwise standard New- Keynesian closed economy DSGE model. We estimate the model using Bayesian techniques for German data from the mid 70s to present. In our framework, we find that labor market structure is important for the evolution of the business cycle, and for monetary policy in particular. Yet labor market shocks are not important information for the conduct of stabilization policy.
    Keywords: labor market, wage rigidity, bargaining, Bayesian estimation
    JEL: E52 E58 J64
    Date: 2005–12
  4. By: Paolo Piselli (Banca d'Italia)
    Abstract: The recent empirical evidence documenting the presence of asymmetries in business cycles represents a challenge for the standard equilibrium models of real business cycle. These models successfully explain most first and second moments of the actual time series, but cannot replicate non-linear features of the data, unless a non-linear innovation is introduced. This paper aims at investigating the possible non-linearity in the technology shock, the basic innovation in Real Business Cycle models. In order to measure the unobservable technology shock, we derive some alternative measures of total factor productivity such as revenue-based and cost-based Solow residual and we also control for cyclical factor utilisation. We test for non-linearities and model a nonlinear SETAR model for the productivity shock as a natural extension of the autoregressive linear process, the standard way of representing technology shocks. Our findings suggest that, although the standard Solow residual turns out to be linear, the other measures of technology shock appear non-linear, as soon as non-technological cyclical components are ruled out.
    Keywords: Solow residual, technology shock, non-linear models, linearity test
    JEL: C22 C52 E32
    Date: 2004–07
  5. By: Christian Holzner (ifo Institute for Economic Research); Andrey Launov (University of Würzburg and IZA Bonn)
    Abstract: We introduce different skill groups and production functions into the Burdett-Mortensen equilibrium search model. Supermodularity in the production process leads to a positive intrafirm wage correlation between skill groups. Theory implies that increasing returns to scale can lead to a unimodal earnings density with a decreasing right tail even in the absence of productivity dispersion. Our empirical results indicate economy-wide increasing returns to scale. We use the structural estimates of the production parameters to investigate whether private returns to education equal social returns. Our estimates suggest a positive welfare effect from increasing the share of medium-skilled agents in the workforce.
    Keywords: search, wage correlation, social returns to education
    JEL: J21 J23 J64
    Date: 2005–12
  6. By: Michel Normandin; Bruno Powo Fosso
    Abstract: This paper documents the relative importance of global and country-specific shocks for international business cycles. For this purpose, we rely on a symmetric two-country, dynamic, general-equilibrium model with costly, incomplete, international financial markets. We also relate exogenous technologies and government expenditures to unobservable common and idiosynchratic components, and apply a Kalman filter to extract the associated global and country-specific shocks. We show that the baseline parametrization of the model, including all shocks, closely matches the cyclical fluctuations of key macroeconomic variables for the United States and a non-US aggregate over the post-1975 period. We then experiment alternative parametrizations, isolating the effects of each shock, and find that country-specific technology shocks constitute a prime determinant of international business cycles. Also, global technology shocks have marginal contributions, whereas global and country-specific government-expenditure shocks have negligible effects on cyclical fluctuations.
    Keywords: General Equilibrium, Kalman Filter, Symmetric Economies
    JEL: F32 F41 C32
    Date: 2006
  7. By: Eran Yashiv (LSE (visiting), Tel Aviv University and IZA Bonn)
    Abstract: Does the search and matching model fit aggregate U.S. labor market data? While the model has become an important tool of macroeconomic analysis, recent literature pointed to some significant failures in accounting for the data. This paper aims to answer two questions: (i) Does the model fit the data, and, if so, on what dimensions? (ii) Does the data “fit” the model, i.e. what are the data which are relevant to be explained by the model? The analysis shows that the model fits certain specifications of the data on many dimensions, though not on all. This includes capturing the high persistence and high volatility of most of the key variables, the negative co-variation of unemployment and vacancies, and the behavior of the worker job finding rate. A key role in this fit is played by the convexity of hiring costs and the stochastic properties of the separation rate. The latter is a major component of the rate discounting the future value of the job-worker match. The paper offers a workable, empirically-grounded version of the model for the analysis of aggregate U.S. labor market dynamics.
    Keywords: search, matching, U.S. labor market, vacancies, labor market flows, business cycles
    JEL: E24 E32 J32 J63
    Date: 2006–01
  8. By: Filippo Occhino (Rutgers University)
    Abstract: How should taxes, government expenditures, the primary and fiscal surpluses and government liabilities be set over the business cycle? We assume that the government chooses expenditures and taxes to maximize the utility of a representative household, utility is increasing in government expenditures, only distortionary labor income taxes are available, and the cycle is driven by exogenous technology shocks. We first consider the commitment case, and characterize the Ramsey equilibrium. In the case that the utility function is constant elasticity of substitution between private and public consumption and separable between the composite consumption good and leisure, taxes, government expenditures and the primary surplus should all be constant positive fractions of production, and both government liabilities and the fiscal surplus should be positively correlated with production. Then, we relax the commitment assumption, and we show how to determine numerically whether the Ramsey equilibrium can be sustained by the threat to revert to a Markov perfect equilibrium. We find that, for realistic values of the preferences discount factor, the Ramsey equilibrium is sustainable.
    Keywords: Fiscal Policy; Commitment; Ramsey Equilibrium; Time-consistency; Sustainable equilibrium;
    JEL: E62
    Date: 2005–05–05
  9. By: Jesús Fernández-Villaverde; Juan F. Rubio-Ramíre; Thomas J. Sargent
    Date: 2005–12–31
  10. By: Cuong Le Van (CERMSEM); Manh Hung Nguyen (CERMSEM); Yiannis Vailakis (CERMSEM)
    Abstract: The paper extends the canonical representative agent Ramsey model to include heterogeneous agents and elastic labor supply. The welfare maximization problem is analyzed and shown to be equivalent to a non-stationary reduced form model. An iterative procedure is exploited to prove the supermodularity of the indirect utility function. Supermodularity is subsequently used to establish the convergence of optimal paths.
    Keywords: Single-sector growth model, heterogeneous agents, elastic labor supply.
    JEL: C62 D51 E13
    Date: 2005–12
  11. By: Michel, DE VROEY (UNIVERSITE CATHOLIQUE DE LOUVAIN, Department of Economics); Luca, PENSIEROSO (UNIVERSITE CATHOLIQUE DE LOUVAIN, Department of Economics)
    Abstract: Is the Great Depression amenable to real business cycle theory ? In the 1970s and 1980s Lucas and Prescott took an abstentionist stance. They admitted that, because of its exceptional character, an explanation of the Great Depression was beyond the grasp of the equilibrium approach to the business cycle. However while Lucas stuck to this view, we show that Prescott changed his mind at the end of the 1990s breaking his earlier self-imposed restraint. In this paper we document this evolution of opinion and produce a first assessment of real business cycle models of the Great Depression. We claim that the fact of having consctructed an equilibrium model of the Great Depression constitutes a methodological breakthrough. However, as far as substance is concerned, we argue that the contribution of real business cycle literature on the Great Depression is slim, and does not gain the upper hand over the works of economic historians. We conclude suggesting that historical episodes may exist for which the modelisation method of real business cycle theory is inferior to the ‘tick’ sort of analysis that is proper to econoic historians.
    Keywords: Great Depression, New Classical Marcroeconomics, Real Business Cycle Theory, Equilibrium, Unemployment
    JEL: B22 N10 E32
    Date: 2005–11–15
  12. By: Cuong Le Van (CERMSEM); Manh Hung Nguyen (CERMSEM)
    Abstract: We prove the existence of competitive equilibrium in a single-sector dynamic economy with heterogeneous agents and elastic labor supply. The method of proof relies on exploiting the existence of Lagrange multipliers in infinite dimensional spaces and the link between Pareto-optima and competitive equilibria.
    Keywords: Optimal growth model, Lagrange multipliers, single-sector growth model, competitive equilibrium, elastic labor supply.
    JEL: C61 C62 D51 E13 O41
    Date: 2005–10
  13. By: Yann Algan; Xavier Ragot
    Abstract: This paper analyzes the long-run effect of monetary policy when credit constraints are taken into account. This analysis is carried on in a heterogeneous agents framework in which infinitely lived agents can partially self-insure against income risks by using both financial assets and real balences. First we show theoretically that financial borrowing constraints give rise to an heterogeneity in money demand, leading to a real effect of inflation. Secondly, we show that inflation has a quantitative positive impact on output and consumption in economies which closely match the wealth distribution of the United States. Thirdly, we find that the average welfare cost of inflation is much smaller compared to a complete market economy, and that inflation induces important redistributive effects across households.
    Date: 2005
  14. By: John Landon-Lane (Rutgers University); Filippo Occhino (Rutgers University)
    Abstract: This paper develops a heterogeneous agents segmented markets model with endogenous production and a monetary authority that follows a Taylor-type interest rate rule. The model is estimated using Markov chain Monte Carlo techniques and is evaluated as a framework suitable for empirical monetary analysis. We find that the segmented markets friction significantly improves the statistical out-of-sample prediction performance of the model, and generates delayed and realistic impulse response functions to monetary policy shocks. In addition, we find that the estimates of the Taylor rule are stable across the pre-1979 and post-1982 periods in our sample, while the volatilities of the structural shocks faced in the pre-1979 period are substantially higher than in the post-1982 period.
    Keywords: Segmented Markets; Markov chain Monte Carlo; Taylor rule; Monetary policy shocks;
    JEL: C11 C52 E52
    Date: 2005–06–13
  15. By: Jean-Pascal Bénassy
    Abstract: It has often been found difficult to generate a liquidity effect (i.e. a negative effect of monetary injections on the nominal interest rate) in the traditional "Ricardian" stochastic dynamic model with a single infinitely lived household. We show that moving to a non Ricardian environment where new agents enter the economy in each period allows to generate such a liquidity effect.
    Date: 2005
  16. By: João Victor Issler (Graduate School of Economics - EPGE, Getulio Vargas Foundation); Afonso Arinos de Mello Franco (Graduate School of Economics - EPGE, Getulio Vargas Foundation); Osmani Teixeira de Carvalho Guillén (IBMEC Business School - Rio de Janeiro and Banco Central do Brasil)
    Abstract: Lucas (1987) has shown the surprising result that the welfare cost of business cycles is quite small. Using standard assumptions on preferences and a fully-fledged econometric model we computed the welfare costs of macroeconomic uncertainty for the post-WWII era using the multivariate Beveridge-Nelson decomposition for trends and cycles, which considers not only business-cycle uncertainty but also uncertainty from the stochastic trend in consumption. The post-WWII period is relatively quiet, with the welfare costs of uncertainty being about 0 .9% of per-capita consumption. Although changing the decomposition method changed substantially initial results, the welfare cost of uncertainty is qualitatively small in the post-WWII era - about $175.00 a year per-capita in the U.S. We also computed the marginal welfare cost of macroeconomic uncertainty using this same technique. It is about twice as large as the welfare cost - $350.00 a year per-capita.
    Keywords: welfare costs of business cycles, Beveridge-Nelson decomposition
    JEL: E32 C32 C53
    Date: 2006–01–02
  17. By: Corsetti, Giancarlo; Dedola, Luca; Leduc, Sylvain
    Abstract: This paper develops a quantitative, dynamic, open-economy model which endogenously generates high exchange rate volatility, whereas a low degree of exchange rate pass-through (ERPT) stems from both nominal rigidities (in the form of local currency pricing) and price discrimination. We model real exchange rate volatility in response to real shocks by reconsidering and extending two approaches suggested by the quantitative literature (one by Backus Kehoe and Kydland [1995], the other by Chari, Kehoe and McGrattan [2003]), within a common framework with incomplete markets and segmented domestic economies. We show that, in our framework, both approaches are successful in generating volatility without any need for nominal shocks, and without suffering from shortcomings such as a fall in import volatility. Our model accounts for a variable degree of ERPT over different horizons. In the short run, we find that a very small amount of nominal rigidities --- consistent with the evidence in Bils and Klenow [2004] --- lowers the elasticity of import prices at border and consumer level to 27% and 13%, respectively. Still, exchange rate depreciation worsens the terms of trade -- in accord with the evidence stressed by Obstfeld and Rogoff [2000]. In the long run, ERPT coefficients are also below one, as a result of price discrimination. We run a set of regressions adopted by the empirical literature on ERPT, typically plagued by omitted variable bias and measurement errors, on the time series generated by our model. The ERPT estimates are biased, although in most cases reasonable; most regressions can detect differences between short-run and long-run ERPT. We show that the quality of empirical proxies for marginal costs and demand typically vary depending on the shocks (real vs. nominal) hitting the economy.
    Keywords: DSGE models; exchange rate volatility; international business cycle; international transmission; pass-through
    JEL: F33 F41
    Date: 2005–12
  18. By: Jean-Pascal Bénassy
    Abstract: The purpose of this article is to characterize optimal interest rate rules in the framework of a dynamic stochastic general equilibrium model, and notably to scrutinize the "Taylor principle", according to which the nominal interest rate should respond more than one for one to inflation. This model yields explicit solutions for the optimal rule. We find that the elasticity of response depends on numerous factors, such as the degree of price rigidity, the autocorrelation of the underlying shocks, or which measure of inflation is used. In general the optimal elasticity of the interest rate with respect to inflation needs not be greater than one.
    Date: 2005
  19. By: Antonio R. Sampayo; Fernando del Río
    Abstract: In this paper we argue that the increase in the obsolescence costs caused by the adoption of new information technologies, can play an important role in accounting for the productivity slowdown undergone by the US economy after 1974. We develop a standard growth model with physical and intangible capital in which technical progress is embodied in equipment. In this framework, we assume that the obsolescence of intangible capital increases when the embodied technical progress accelerates. The model is calibrated for the period 1957-1973 and the response of the economy to an increase in the rate of embodied technical progress -as observed after 1974- is simulated. We show that the increase in the obsolescence cost caused by the acceleration of embodied technical progress can account for a large part of the productivity slowdown post-1974.
  20. By: Michele Boldrin; Larry Jones; Alice Schoonbroodt
    Date: 2005–12–31
  21. By: Jean-Pascal Bénassy
    Abstract: Are prices less sticky when markets are more competitive? Our intuition would naturally lead us to give an affirmative answer to that question. But we first show that DSGE models with staggered price or wage contracts have actually the opposite and paradoxical property, namely that price stickiness is an increasing function of competitiveness. To eliminate this paradox, we next study a model where monopolistic competitors choose prices optimally subject to a cost of changing prices as in Rotemberg (1982a,b). For a given cost function, we find the more intuitive result that more competitiveness leads to more flexible prices.
    Date: 2005
  22. By: Xavier Ragot
    Abstract: The article presents a new channel through which inflation affects real variables. In a simple liquidity constraint model where money enters the utility function of infinitely living households, it is proven that credit constraints create heterogeneity in money demand. Because of this, long run inflation affects the real interest rate and wealth inequalities even when there is no redistributive effect, no distorting fiscal policy, and no substitution between leisure and working time. This result is proven for a general class of utility and production functions. In a simple calibration exercise, an increase in inflation from 2% to 3% increases the capital stock by 0.12% and raises wealth inequality.
    Date: 2005
  23. By: Aleksander Berentsen; Gabriele Camera; Christopher Waller
    Abstract: Recent monetary models with explicit microfoundations are made tractable by assuming that agents have access to centralized markets after one round of decentralized trade. Given quasi-linear preferences, this makes the distribution of money degenerate which keeps the models simple but precludes discussion of distributional effects of monetary policy. We generalize these models by assuming two rounds of trade before agents can readjust their money holdings to study a range of new distributional effects analytically. We show that unexpected, symmetric lump-sum money injections may increase short-run output and welfare, while asymmetric injections may increase long-run output and welfare.
    Keywords: distribution, no-neutrality, money balance
    JEL: A12
  24. By: Ludger Linnemann (University of Cologne); Andreas Schabert (Faculty of Economics and Econometrics, University of Amsterdam)
    Abstract: We study the consequences of non-neutrality of government debt for macroeconomic stabilization policy in an environment where prices are sticky. Assuming transaction services of government bonds, Ricardian equivalence fails because public debt has a negative impact on its marginal rate of return and thus on private savings. Stability of equilibrium sequences requires a stationary evolution of real public debt, which steers inflation expectations and rules out endogenous fluctuations. Under anti-inflationary monetary policy regimes, macroeconomic fluctuations tend to decrease with the share of tax financing, which justifies tight debt constraints. In particular, a balanced budget policy stabilizes the economy under cost-push shocks, such that output and inflation variances can be lower than in a corresponding case where debt is neutral.
    Keywords: Government debt; fiscal and monetary policy rules; stabilization policy; equilibrium uniqueness
    JEL: E32 E63 E52
  25. By: Bjorn A. Hauksson
    Abstract: I show that the empirical impulse response of the real exchange rate is hump-shaped. This fact can explain why a number of recent authors have been unable to match the persistence of the real exchange rate using sticky-price business cycle models driven by monetary shocks. The key failure of the models used in the recent literature is that they yield monotonic impulse responses for the real exchange rate. While it is extremely difficult for models that have this feature to match the empirical persistence of the real exchange rate, models that yield hump-shaped impulse responses for the real exchange rate can easily match the empirical persistence of the real exchange rate. I present a two-country sticky-price business cycle model that yields humpshaped responses for the real exchange rate in response to a number of different disturbances. This model can match the half-life of the real exchange rate as well as and the humped shape of its impulse response.
    Date: 2005–11
  26. By: Frank Portier; Luis A. Puch
    Abstract: Lucas [1987] has shown that in a representative agent framework, the potential welfare gain from stabilizing consumption around its mean is small. We provide an example and some insight for why Lucas' measure is an upper bound of the welfare cost of fluctuations in walrasian economies.
  27. By: François Ortalo-Magné; Andrea Prat
    Date: 2005–12–31
  28. By: Patrick Villieu (LEO - Laboratoire d'économie d'Orleans - - CNRS : FRE2783 - Université d'Orléans); Alexandru Minea (LEO - Laboratoire d'économie d'Orleans - - CNRS : FRE2783 - Université d'Orléans)
    Abstract: In this paper, we study maximizing long-run economic growth trade-off in monetary and fiscal policies in an endogenous growth model with transaction costs. We show that both monetary and fiscal policies are subject to threshold effects, a result that gives account of a number of recent empirical findings. Furthermore, the model shows that, to finance public expenditures, maximizing-growth government must choose relatively high seigniorage (respectively income taxation), if "tax evasion" and "financial repression" coefficients are high (respectively low). Thus, our model may explain why some governments resort to seigniorage and inflationary finance, and others rather resort to high tax-rate, as result of maximizing-growth strategies in different structural enviroments (notably concerning tax evasion and financial repression). In addition, the model allows examining how the optimal mix of government finance changes in response to different public debt contexts.
    Keywords: Endogenous growth ; threshold effects ; monetary policy ; fiscal policy ; public deficit ; policy mix ; tax evasion ; financial repression ; financial development
    Date: 2006–01–19
  29. By: Jean-Pascal Bénassy
    Abstract: The fiscal theory of the price level says that the price level can be made determinate if the government uses fiscal policies such that government liabilities explode unless the price in the first period is at the "right" level. The policy implications are disturbing, as they call for rather adventurous fiscal policies. We show that these disturbing policy implications are specific to the "Ricardian" models that have been used to develop the theory. By moving to "non Ricardian" models we see that price determinacy is consistent with reasonable fiscal policies.
    Date: 2005

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