New Economics Papers
on Dynamic General Equilibrium
Issue of 2006‒07‒09
eleven papers chosen by



  1. Consumption Over the Life Cycle: The Role of Annuities By Gary D. Hansen; Selahattin %u0130mrohoroglu
  2. Lumpy Investment in Dynamic General Equilibrium By Ruediger Bachmann; Ricardo J. Caballero; Eduardo M.R.A. Engel
  3. Targeting inflation and the fiscal balance : what is the optimal policy mix? By Marcela Meirelles Aurelio
  4. Productivity and U.S. macroeconomic performance: interpreting the past and predicting the future with a two-sector real business cycle model By Peter N. Ireland; Scott Schuh
  5. Inflation as a Redistribution Shock: Effects on Aggregates and Welfare By Matthias Doepke; Martin Schneider
  6. Can the U.S. monetary policy fall (again) in an expectation trap? By Roc Armenter; Martin Bodenstein
  7. Worldwide macroeconomic stability and monetary policy rules By James B. Bullard; Aarti Singh
  8. Home production By Yongsung Chang; Andreas Hornstein
  9. Efficient expropriation: sustainable fiscal policy in a small open economy By Mark Aguiar; Manuel Amador; Gita Gopinath
  10. Nontraded goods, market segmentation, and exchange rates. By Michael Dotsey; Margarida Duarte
  11. Assessing Structural VARs By Lawrence J. Christiano; Martin Eichenbaum; Robert Vigfusson

  1. By: Gary D. Hansen; Selahattin %u0130mrohoroglu
    Abstract: We explore the quantitative implications of uncertainty about the length of life and a lack of annuity markets for life cycle consumption in a general equilibrium overlapping generations model in which markets are otherwise complete. Empirical studies find that consumption tends to rise early in life, peak around age 45-55, and to decline after that. Our calibrated model exhibits life cycle consumption that is consistent with this pattern. This follows from the fact that, due to a lack of annuity markets, households discount the future more heavily as they age and their probability of survival falls. Once an unfunded social security system is introduced, the profile is still hump shaped, but the decline in consumption does not begin until after retirement in our base case. Adding a bequest motive causes this decline to begin at a younger age.
    JEL: E2 D1
    Date: 2006–06
    URL: http://d.repec.org/n?u=RePEc:nbr:nberwo:12341&r=dge
  2. By: Ruediger Bachmann; Ricardo J. Caballero; Eduardo M.R.A. Engel
    Abstract: Microeconomic lumpiness matters for macroeconomics. According to our DSGE model, it explains roughly 60% of the smoothing in the investment response to aggregate shocks. The remaining 40% is explained by general equilibrium forces. The central role played by micro frictions for aggregate dynamics results in important history dependence in business cycles. In particular, booms feed into themselves. The longer an expansion, the larger the response of investment to an additional positive shock. Conversely, a slowdown after a boom can lead to a long lasting investment slump, which is unresponsive to policy stimuli. Such dynamics are consistent with US investment patterns over the last decade. More broadly, over the 1960-2000 sample, the initial response of investment to a productivity shock with responses in the top quartile is 60% higher than the average response in the bottom quartile. Furthermore, the reduction in the relative importance of general equilibrium forces for aggregate investment dynamics also facilitates matching conventional RBC moments for consumption and employment.
    JEL: E10 E22 E30 E32 E62
    Date: 2006–06
    URL: http://d.repec.org/n?u=RePEc:nbr:nberwo:12336&r=dge
  3. By: Marcela Meirelles Aurelio
    Abstract: This paper identifies optimal policy rules in the presence of explicit targets for both the inflation rate and public debt. This issue is investigated in the context of a dynamic stochastic general equilibrium model that describes a small open economy with capital accumulation, distortionary taxation and nominal price rigidities. The model is solved using a second-order approximation to the equilibrium conditions. Optimal policy features a strong anti-inflation stance and strict fiscal discipline. Targeting a domestic inflation index - as opposed to CPI - improves welfare because it reduces the inefficiencies that stem from both price stickiness and income taxes.
    Keywords: Inflation (Finance) ; Prices ; Fiscal policy
    Date: 2006
    URL: http://d.repec.org/n?u=RePEc:fip:fedkrw:rwp06-07&r=dge
  4. By: Peter N. Ireland; Scott Schuh
    Abstract: A two-sector real business cycle model, estimated with postwar U.S. data, identifies shocks to the levels and growth rates of total factor productivity in distinct consumption- and investment-goods- producing technologies. This model attributes most of the productivity slowdown of the 1970s to the consumption-goods sector; it suggests that a slowdown in the investment-goods sector occurred later and was much less persistent. Against this broader backdrop, the model interprets the more recent episode of robust investment and investment-specific technological change during the 1990s largely as a catch-up in levels that is unlikely to persist or be repeated anytime soon.
    Keywords: Business cycles ; Productivity
    Date: 2006
    URL: http://d.repec.org/n?u=RePEc:fip:fedbwp:06-10&r=dge
  5. By: Matthias Doepke; Martin Schneider
    Abstract: Episodes of unanticipated inflation reduce the real value of nominal claims and thus redistribute wealth from lenders to borrowers. In this study, we consider redistribution as a channel for aggregate and welfare effects of inflation. We model an inflation episode as an unanticipated shock to the wealth distribution in a quantitative overlapping-generations model of the U.S. economy. While the redistribution shock is zero sum, households react asymmetrically, mostly because borrowers are younger on average than lenders. As a result, inflation generates a decrease in labor supply as well as an increase in savings. Even though inflation-induced redistribution has a persistent negative effect on output, it improves the weighted welfare of domestic households.
    JEL: D31 D58 E31 E50
    Date: 2006–06
    URL: http://d.repec.org/n?u=RePEc:nbr:nberwo:12319&r=dge
  6. By: Roc Armenter; Martin Bodenstein
    Abstract: We provide a tractable model to study monetary policy under discretion. We focus on Markov equilibria. For all parametrizations with an equilibrium inflation rate around 2%, there is a second equilibrium with an inflation rate just above 10%. Thus the model can simultaneously account for the low and high inflation episodes in the U.S. We carefully characterize the set of Markov equilibria along the parameter space and find our results to be robust.
    Keywords: Inflation (Finance) ; Econometric models ; Equilibrium (Economics) ; Monetary policy
    Date: 2006
    URL: http://d.repec.org/n?u=RePEc:fip:fedgif:860&r=dge
  7. By: James B. Bullard; Aarti Singh
    Abstract: We study the interaction of multiple large economies in dynamic stochastic general equilibrium. Each economy has a monetary policymaker that attempts to control the economy through the use of a linear nominal interest rate feedback rule. We show how the determinacy of worldwide equilibrium depends on the joint behavior of policymakers worldwide. We also show how indeterminacy exposes all economies to endogenous volatility, even ones where monetary policy may be judged appropriate from a closed economy perspective. We construct and discuss two quantitative cases. In the 1970s, worldwide equilibrium was characterized by a two-dimensional indeterminacy, despite U.S. adherence to a version of the Taylor principle. In the last 15 years, worldwide equilibrium was still characterized by a one-dimensional indeterminacy, leaving all economies exposed to endogenous volatility. Our analysis provides a rationale for a type of international policy coordination, and the gains to coordination in the sense of avoiding indeterminacy may be large.
    Keywords: Keynesian economics ; Monetary policy ; Inflation (Finance)
    Date: 2006
    URL: http://d.repec.org/n?u=RePEc:fip:fedlwp:2006-040&r=dge
  8. By: Yongsung Chang; Andreas Hornstein
    Abstract: Studying the incentives and constraints in the non-market sector — that is, home production — enhances our understanding of economic behavior in the market. In particular, it helps us to understand (1) small variations of labor supply over the life cycle, (2) large variations of employment relative to wages over the business cycle, and (3) large income differences across countries.
    Keywords: Labor supply
    Date: 2006
    URL: http://d.repec.org/n?u=RePEc:fip:fedrwp:06-04&r=dge
  9. By: Mark Aguiar; Manuel Amador; Gita Gopinath
    Abstract: We study a small open economy characterized by two empirically important frictions— incomplete financial markets and an inability of the government to commit to policy. We characterize the best sustainable fiscal policy and show that it can amplify and prolong shocks to output. In particular, even when the government is completely benevolent, the government’s credibility not to expropriate capital varies endogenously with the state of the economy and may be “scarcest” during recessions. This increased threat of expropriation depresses investment, prolonging downturns. It is the incompleteness of financial markets and the lack of commitment that generate investment cycles even in an environment where first-best capital stock is constant.
    Keywords: Fiscal policy
    Date: 2006
    URL: http://d.repec.org/n?u=RePEc:fip:fedbwp:06-9&r=dge
  10. By: Michael Dotsey; Margarida Duarte
    Abstract: Empirical evidence suggests that movements in international relative prices (such as the real exchange rate) are large and persistent. Nontraded goods, both in the form of final consumption goods and as an input into the production of final tradable goods, are an important aspect behind international relative price movements. In this paper we show that nontraded goods have important implications for exchange rate behavior, even though fluctuations in the relative price of nontraded goods account for a relatively small fraction of real exchange rate movements. In our quantitative study nontraded goods magnify the volatility of exchange rates when compared to the model without nontraded goods. Cross-country correlations and the correlation of exchange rates with other macro variables are closer in line with the data. In addition, contrary to a large literature, standard alternative assumptions about the currency in which firms price their goods are virtually inconsequential for the properties of aggregate variables in our model, other than the terms of trade.
    Keywords: Markets ; Foreign exchange rates
    Date: 2006
    URL: http://d.repec.org/n?u=RePEc:fip:fedpwp:06-9&r=dge
  11. By: Lawrence J. Christiano; Martin Eichenbaum; Robert Vigfusson
    Abstract: This paper analyzes the quality of VAR-based procedures for estimating the response of the economy to a shock. We focus on two key issues. First, do VAR-based confidence intervals accurately reflect the actual degree of sampling uncertainty associated with impulse response functions? Second, what is the size of bias relative to confidence intervals, and how do coverage rates of confidence intervals compare with their nominal size? We address these questions using data generated from a series of estimated dynamic, stochastic general equilibrium models. We organize most of our analysis around a particular question that has attracted a great deal of attention in the literature: How do hours worked respond to an identified shock? In all of our examples, as long as the variance in hours worked due to a given shock is above the remarkably low number of 1 percent, structural VARs perform well. This finding is true regardless of whether identification is based on short-run or long-run restrictions. Confidence intervals are wider in the case of long-run restrictions. Even so, long-run identified VARs can be useful for discriminating among competing economic models.
    JEL: C1
    Date: 2006–07
    URL: http://d.repec.org/n?u=RePEc:nbr:nberwo:12353&r=dge

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