nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2007‒10‒20
ten papers chosen by
Christian Zimmermann
University of Connecticut

  1. Computing Stochastic Dynamic Economic Models with a Large Number of State Variables: A Description and Application of a Smolyak-Collocation Method By Benjamin Malin; Dirk Krueger; Felix Kubler
  2. Optimal Unemployment Insurance in Labor Market Equilibrium when Workers can Self-Insure By Reichling, Felix
  3. House Prices, Real Estate Returns and the Business Cycle By Ivan Jaccard
  4. Unmeasured Investment and the Puzzling U.S. Boom in the 1990s By Ellen R. McGrattan; Edward C. Prescott
  5. News and Business Cycles in Open Economies By Jaimovich, Nir; Rebelo, Sérgio
  6. A Simple Business-Cycle Model with Shumpeterian Features By Costa, Luís F.; Dixon, Huw
  7. Economic Aging and Demographic Change By Dominik Grafenhofer; Christian Jaag; Christian Keuschnigg; Mirela Keuschnigg
  8. Openness, Technology Capital, and Development By Ellen McGrattan; Edward C. Prescott
  9. Asset Pricing, Habit Memory And The Labor By Ivan Jaccard
  10. The External Finance Premium and the Macroeconomy: US post-WWII Evidence By F. DE GRAEVE

  1. By: Benjamin Malin; Dirk Krueger; Felix Kubler
    Abstract: We describe a sparse grid collocation algorithm to compute recursive solutions of dynamic economies with a sizable number of state variables. We show how powerful this method may be in applications by computing the nonlinear recursive solution of an international real business cycle model with a substantial number of countries, complete insurance markets and frictions that impede frictionless international capital flows. In this economy the aggregate state vector includes the distribution of world capital across different countries as well as the exogenous country-specific technology shocks. We use the algorithm to efficiently solve models with 2, 4, and 6 countries (i.e., up to 12 continuous state variables).
    JEL: C68 C88 F41
    Date: 2007–10
  2. By: Reichling, Felix
    Abstract: I develop an equilibrium matching model in which workers have preferences over consumption and hours of work and are able to self-insure against unemployment risks by accumulating precautionary wealth. Wages and working hours are the outcomes of Nash bargaining between workers and firms. I focus on an unemployment insurance (UI) system with constant benefits of indefinite duration financed through a constant labor income tax. Low-wealth individuals work unusually long hours to quickly accumulate precautionary wealth. The Frisch elasticity of labor supply governs a worker’s utility cost of supplying labor and hence the cost of accumulating precautionary wealth. A lower elasticity implies a higher utility cost of adjusting hours. I take Frisch elasticities from recent research using household data and find that the optimal level of UI benefits is between 34 and 40 percent of average compensation. The potential welfare gains from moving from current 34 percent to the optimal policy are as large as 0.13 percent of lifetime consumption. The optimal replacement rate is decreasing in the Frisch elasticity of labor supply.
    Keywords: Unemployment insurance; Labor supply; Matching equilibrium; Self-insurance
    JEL: J22 H00 J65 E24
    Date: 2006–11–06
  3. By: Ivan Jaccard (Wharton School of Finance)
    Abstract: The main objective of this work is to develop a general equilibrium business cycle model linking financial and real estate markets to the macroeconomy. The ability of a production economy to account simultaneously for asset pricing, business cycle and real estate market facts is then evaluated by comparing the model predictions to the empirical facts. The observed high volatility of house prices, the equity premium and the difference between equity and real estate excess returns can be explained without giving rise to excessive risk-free rate variation.
    Keywords: house prices, real estate returns, equity premium, business cycles, production economies.
    JEL: E30 E22 G12
    Date: 2006–12
  4. By: Ellen R. McGrattan; Edward C. Prescott
    Abstract: The basic neoclassical growth model accounts well for the postwar cyclical behavior of the U.S. economy prior to the 1990s, provided that variations in population growth, depreciation rates, total factor productivity, and taxes are incorporated. For the 1990s, the model predicts a depressed economy, when in fact the U.S. economy boomed. We extend the base model by introducing intangible investment and non-neutral technology change with respect to producing intangible investment goods and find that the 1990s are not puzzling in light of this new theory. There is compelling micro and macro evidence for our extension, and the predictions of the theory are in conformity with U.S. national products, incomes, and capital gains. We use the theory to compare current accounting measures for labor productivity and investment with the corresponding measures for the model economy with intangible investment. Our findings show that standard accounting measures greatly understate the boom in productivity and investment.
    JEL: E24 E32 O47
    Date: 2007–10
  5. By: Jaimovich, Nir; Rebelo, Sérgio
    Abstract: It is well known that the neoclassical model does not generate comovement among macroeconomic aggregates in response to news about future total factor productivity. We show that this problem is generally more severe in open economy versions of the neoclassical model. We present an open economy model that generates comovement both in response to sudden stops and to news about future productivity and investment-specific technical change. We find that comovement is easier to generate in the presence of weak short-run wealth effects on the labour supply, adjustment costs to labour, and/or investment, and whenever the real interest rate faced by the economy rises with the level of net foreign debt.
    Keywords: comovement; news; open economy
    JEL: F4
    Date: 2007–10
  6. By: Costa, Luís F.; Dixon, Huw (Cardiff Business School)
    Abstract: We develop a dynamic general equilibrium model of imperfect competition where a sunk cost of creating a new product regulates the type of entry that dominates in the economy: new products or more competition in existing industries. Considering the process of product innovation is irreversible, introduces hysteresis in the business cycle. Expansionary shocks may lead the economy to a new 'prosperity plateau,' but contractionary shocks only affect the market power of mature industries.
    Keywords: Entry; Hysteresis; Mark-up
    JEL: E62 L13 L16
    Date: 2007–10
  7. By: Dominik Grafenhofer; Christian Jaag; Christian Keuschnigg; Mirela Keuschnigg
    Abstract: This paper presents a generalized model of overlapping generations with economic aging of households. Economic age is defined as a set of personal attributes such as earnings potential and tastes that are characteristic of a person's position in the life-cycle. We separate the concepts of economic age and time since birth in assuming only a small number of different states of age. Agents sharing the same economic characteristics are aggregated analytically to a low number of age groups. The model thus allows for a very parsimonious approximation of life-cycle differences in earnings, wealth and consumption. As an illustration, we quantitatively apply the model to study the impact of demographic change.
    Keywords: Overlapping Generations, Aging, Demographic Change, Life-cycle
    JEL: D58 D91 H55 J21
    Date: 2007–09
  8. By: Ellen McGrattan; Edward C. Prescott
    Abstract: In this paper, we extend the growth model to include firm-specific technology capital and use it to assess the gains from opening to foreign direct investment. A firm's technology capital is its unique know-how from investing in research and development, brands, and organization capital. What distinguishes technology capital from other forms of capital is the fact that a firm can use it simultaneously in multiple domestic and foreign locations. Foreign technology capital is exploited by permitting foreign direct investment by multinationals. In both steady-state and transitional analyses, the extended growth model predicts large gains to being open.
    JEL: F23 F41 O11 O32
    Date: 2007–10
  9. By: Ivan Jaccard (The Wahrton School)
    Abstract: This study shows that introducing habit memory into a business cycle model allows to simultaneously explain a series of asset pricing and business cycle puzzles. First, combining habit memory with indivisible labor allows the framework that is proposed to increase the volatility of hours worked while giving rise to endogenous wage stickiness. Second, the high equity premium and the low mean risk free rate can be reproduced without generating counterfactually large variations in the risk free rate. Finally, the mechanism under study allows to amplify the propagation of technology shocks.
    Keywords: Equity Premium Puzzle, Labor Market, Indivisible Labor, Habit Formation
    JEL: E10 E20 G12
    Date: 2007–07
  10. By: F. DE GRAEVE
    Abstract: The central variable of theories of financial frictions -the external finance premium- is unobservable. This paper distils the external finance premium from a DSGE model estimated on US macroeconomic data. Within the DSGE framework, movements in the premium can be given an interpretation in terms of shocks driving business cycles. A key result is that the estimate -based solely on non-financial macroeconomic data- picks up over 70% of the dynamics of lower grade corporate bond spreads. The paper also identifies a gain in fitting key macroeconomic aggregates by including financial frictions in the model and documents how shock transmission is affected.
    Keywords: external finance premium, financial frictions, DSGE, Bayesian estimation
    JEL: E4 E5 G32
    Date: 2007–09

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