nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2007‒11‒24
sixteen papers chosen by
Christian Zimmermann
University of Connecticut

  1. Examining the bond premium puzzle with a DSGE model By Glenn D. Rudebusch; Eric T. Swanson
  2. Habit Formation, Dynastic Altruism, and Population Dynamics By Andreas Schäfer; Simone Valente
  3. Lifetime aggregate labor supply with endogenous workweek length By Edward C. Prescott; Richard Rogerson; Johanna Wallenius
  4. Information processing with recursive utility: some intriguing results By Frode Brevik; Stefano d'Addona
  5. Lost in Transition: The Costs and Consequences of Sectoral Labour Adjustment By Stephen Tapp
  6. Equilibrium mortgage choice and housing tenure decisions with refinancing By Matthew Chambers; Carlos Garriga; Don Schlagenhauf
  7. Employment Protection, Firm Selection, and Growth By Markus Poschke
  8. Do institutions matter for economic fluctuations? Weak property rights in a business cycle model for Mexico By Konstantinos Angelopoulos; George Economides; Vangelis Vassilatos
  9. Estimating DSGE Models under Partial Information By Paul Levine; Joseph Pearlman; George Perendia
  10. The Dynamics of Sectoral Labour Adjustment By Stephen Tapp
  11. Forecasting the South African Economy: A DSGE-VAR Approach By Samrat Goswami; Rangan Gupta; Eric Scaling
  12. R&D Policy in Economies with Endogenous Growth and Non-Renewable Resources. By Betty Agnani; María-José Gutiérrez; Amaia Iza
  13. Counterfeiting as private money in mechanism design By Ricardo Cavalcanti; Ed Nosal
  14. Unemployment Insurance Savings Accounts and Collective Wage Determination By Laszlo Goerke
  15. Education and Training in a Model of Endogenous Growth with Creative Wear-and-Tear By Adriaan Van Zon; Roberto Antonietti
  16. Search by Committee By James Albrecht; Axel Anderson; Susan Vroman

  1. By: Glenn D. Rudebusch; Eric T. Swanson
    Abstract: The basic inability of standard theoretical models to generate a sufficiently large and variable nominal bond risk premium has been termed the "bond premium puzzle." We show that the term premium on long-term bonds in the canonical dynamic stochastic general equilibrium (DSGE) model used in macroeconomics is far too small and stable relative to the data. We find that introducing long-memory habits in consumption as well as labor market frictions can help fit the term premium, but only by seriously distorting the DSGE model's ability to fit other macroeconomic variables, such as the real wage; therefore, the bond premium puzzle remains.
    Keywords: Interest rates ; Econometric models
    Date: 2007
  2. By: Andreas Schäfer (University of Leipzig, Institute of Theoretical Economics / Macroeconomics, Leipzig, Germany); Simone Valente (ETH Zurich, Department of Management, Technology, and Economics)
    Abstract: We study the general equilibrium properties of two growth models with overlapping generations, habit formation and endogenous fertility. In the neoclassical model, habits modify the economy's growth rate and generate transitional dynamics in fertility; station- ary income per capita is associated with either increasing or decreasing population and output, depending on the strength of habits. In the AK specification, growing population and increasing consumption per capita require that the habit coefficient lie within definite boundaries; outside the critical interval, positive growth is associated with either declining consumption due to overcrowding, or extinction paths with declining population. In both frameworks, habits reduce fertility: the trade-off between second-period consumption and spending for bequests prompts agents to decrease fertility in order to make parental altru- ism less costly. This mechanism suggests that status-dependent preferences may explain part of the decline in fertility rates observed in most developed economies.
    Keywords: Economic Growth, Endogenous Fertility, Habit Formation, Intergenerational Altruism, Overlapping Generations.
    JEL: D91 J10 O11
    Date: 2007–11
  3. By: Edward C. Prescott; Richard Rogerson; Johanna Wallenius
    Abstract: This paper studies lifetime aggregate labor supply with endogenous workweek length. Such a theory is needed to evaluate various government policies. A key feature of our model is a nonlinear mapping from hours worked to labor services. This gives rise to an endogenous workweek that can differ across occupations. The theory determines what fraction of the lifetime an individual works, not when. We find that constraints on workweek length have different consequences for total hours than total labor services. Also, we find that policies designed to increase the length of the working life may not increase aggregate lifetime labor supply.
    Date: 2007
  4. By: Frode Brevik; Stefano d'Addona
    Abstract: We study information processing in a simple endowment economy where the mean consumption growth rate are governed by a hidden state variable and agents have recursive preferences. We show that for typical parameter values, there is a strong incentive to commit to ignoring future information on the state of the economy, but that such commitment raises time-inconsistency problems. We estimate the model on postwar US data and find that the representative consumer can achieve a utility gain equivalent to a 20% increase in lifetime consumption simply by not paying attention to the state of the economy.
    Keywords: Recursive preferences, Epstein-Zin preferences, Uncertainty aversion,Information processing, Time inconsistency
    JEL: D83 D84 E32
    Date: 2007–10
  5. By: Stephen Tapp (Queen's University)
    Abstract: This paper demonstrates that factors which impede labour market adjustments can have first-order impacts on aggregate output and social welfare. While several studies find that individual workers can face large and persistent sectoral reallocation costs, this paper shows that these costs are important at the aggregate level. I use a search and matching model to isolate and quantify two factors that contribute to the costly and time-consuming adjustment process: search frictions and an inability to transfer match-specific skills to new jobs. I apply the model to examine Canada's sectoral labour adjustment after a global increase in commodity prices and associated exchange rate appreciation. These developments reorganized production to the resource sector and away from manufacturing. The model quantitatively captures both the sectoral employment and wage effects and the response of unemployment to changes in unemployment benefits. The model estimates that the costs of adjustment are economically important, accounting for up to three percent of output during the transition. These costs arise mainly in the first three years after the shock and are due largely to non-transferable skills. Finally, the analysis reveals important policy implications. Because changes to unemployment benefits affect sectors differently, these changes impact the economy's sectoral composition and aggregate productivity.
    Keywords: Sectoral Labour Reallocation, Adjustment Costs, Search and Matching, Skills and Training, Unemployment
    JEL: E2 J6 J08 J21 J24 Q43
    Date: 2007–11
  6. By: Matthew Chambers; Carlos Garriga; Don Schlagenhauf
    Abstract: The last decade has brought about substantial mortgage innovation and increased refinancing. The objective of the paper is to understand the determinants and implications of mortgage choice in the context of general equilibrium model with incomplete markets. The equilibrium characterization allows us to study the impact of mortgage financing = decisions in the productive economy. We show the influence of different contract characteristics such as the downpayment requirement, repayment structure, and the amortization schedule for mortgage choice. We find that loan products that allow for low or no downpayment or an increasing repayment schedule increase the participation of young and lower income households. We find evidence that the volume of housing transactions increase when the payment profile is increasing and households have little housing equity. In contrast, we show that loans that allow for a rapid accumulation of home equity can still have positive participation effects without increasing the volatility of the housing market. The model predicts that the expansion of mortgage contracts and refinancing improves risk sharing opportunities for homeowners but the magnitude varies with each contract.
    Keywords: Mortgage loans ; Housing - Finance
    Date: 2007
  7. By: Markus Poschke (McGill University, EUI and IZA)
    Abstract: This paper analyzes the effect of firing costs on aggregate productivity growth. For this purpose, a model of endogenous growth through selection and imitation is developed. It is consistent with recent evidence on firm dynamics and on the importance of reallocation for productivity growth. In the model, growth is driven by selection among heterogeneous incumbent firms, and is sustained as entrants imitate the best incumbents. In this framework, firing costs not only induce misallocation of labor, but also affect growth by affecting firms’ exit decisions. Importantly, charging firing costs only to continuing firms raises growth by promoting selection. Also charging them to exiting firms is akin to an exit tax, hampers selection, and reduces growth - by 0.1 percentage points in a calibrated version of the model. With job turnover very similar in the two settings, this implies that the treatment of exiting firms matters for welfare and growth. In addition, the impact on growth rates is larger in sectors where firms face larger idiosyncratic shocks, as in services. This fits evidence that recent EU-U.S. growth rate differences are largest in these sectors and implies that firing costs can play a role here. A brief empirical analysis of the impact of firing costs on the size of exiting firms supports the model’s conclusions.
    Keywords: endogenous growth theory, firm dynamics, labor market regulation, firing costs, entry and exit, firm selection
    JEL: E24 J63 J65 L11 L16 O40
    Date: 2007–11
  8. By: Konstantinos Angelopoulos; George Economides; Vangelis Vassilatos
    Abstract: This paper shows that the dependence of the standard real business cycle (RBC) model on unobservable technology shocks can be reduced once we allow for weak property rights. This is motivated by the empirical observation that changes in institutions in emerging markets are related to the evolution of the main macroeconomic variables. We thus incorporate weak property rights in the baseline RBC model and use the ICRG dataset to obtain a proxy for the persistence and standard deviation of the degree of protection of property rights in Mexico. We find that this model does not need to rely on unobservable technology shocks, as innovations to the degree of protection of property rights only (i.e. without a technology shock) can predict the second moments of the main economic variables quite well.
    Keywords: Property rights, institutions, business cycles
    JEL: D7 E62 E32
    Date: 2007–09
  9. By: Paul Levine; Joseph Pearlman; George Perendia
    Abstract: Most DSGE models and methods make inappropriate asymmetric information assumptions. They assume that all economic agents have full access to measurement of all variables and past shocks, whereas the econometricians have no access to this. An alternative assumption is that there is symmetry, in that the information set available to both agents and econometricians is incomplete. The reality lies somewhere between the two, because agents are likely to be subject to idiosyncratic shocks which they can observe, but are unable to observe other agents’ idiosyncratic shocks, as well as being unable to observe certain economy-wide shocks; however such assumptions generally lead to models that have no closed-form solution. This research aims to compare the two alternatives - the asymmetric case,as commonly used in the literature, and the symmetric case, which uses the partial information solution of Pearlman et al. (1986) using standard EU datasets. We use Bayesian MCMC methods, with log-likelihoods accounting for partial information.The work then extends the data to allow for a greater variety of measurements, and evaluates the effect on estimates, along the lines of work by Boivin and Giannoni (2005).
    Keywords: partial information, DSGE models, Bayesian maximum likelihood.
    JEL: C11 C13 D58 D82
    Date: 2007–11
  10. By: Stephen Tapp (Queen's University)
    Abstract: This paper develops an equilibrium search and matching model to jointly study the aggregate, sectoral, and distributional impacts of labour adjustment. The model extends Pissarides (2000) to include multisector production and search and "innovation" from investments that can potentially improve a match's productivity. These extensions deliver two mechanisms for inter-sectoral and intra-sectoral labour reallocation after shocks. First, because workers search simultaneously in multiple sectors, changes in labour market conditions in one sector propagate to impact wages and hiring in the rest of the economy through a reservation wage effect. Second, a positive productivity shock causes firms to invest more resources in innovation. This innovation effect shifts production towards high-skill jobs and amplifies the impact of productivity shocks relative to the baseline model. I show that the model is useful for analyzing labour adjustments caused by a diverse set of factors including: technological change; persistent energy price and exchange rate shocks; and trade liberalization. Finally, because the transition dynamics between steady-states are tractable, the model can be readily applied to the data to study particular labour adjustment episodes.
    Keywords: Sectoral Labour Reallocation, Search and Matching, Wage Spillovers, Transition Dynamics
    JEL: E2 J6 J21
    Date: 2007–11
  11. By: Samrat Goswami (Department of Economics, University of Pretoria); Rangan Gupta (Department of Economics, University of Pretoria); Eric Scaling (Department of Economics, University of Pretoria)
    Abstract: This paper develops an estimable hybrid model that combines the theoretical rigor of a micro-founded DSGE model with the flexibility of an atheoretical VAR model. The model is estimated via maximum likelihood technique based on quarterly data on real Gross National Product (GNP), consumption, investment and hours worked, for the South African economy, over the period of 1970:1 to 2000:4. Based on a recursive estimation using the Kalman filter algorithm, the out-of-sample forecasts from the hybrid model are then compared with the forecasts generated from the Classical and Bayesian variants of the VAR for the period 2001:1-2005:4. The results indicate that, in general, the estimated hybrid DSGE model outperforms the Classical VAR, but not the Bayesian VARs in terms of out-of-sample forecasting performances.
    Keywords: DSGE Model, VAR and BVAR Model, New-Keynesian-Macroeconomic Model, Forecast Accuracy, DSGE Forecasts, VAR Forecasts, BVAR Forecasts.
    JEL: E17 E27 E32 E37 E47
    Date: 2007–07
  12. By: Betty Agnani (Universidad de Granada); María-José Gutiérrez (The University of the Basque Country); Amaia Iza (The University of the Basque Country)
    Abstract: The aim of this paper is to analyze how active R&D policies affect the growth rate of an economy with endogenous growth and non-renewable resources. We know from Scholz and Ziemens (1999) and Groth (2006) that in infinitely lived agents (ILA) economies, any active R&D policy increases the growth rate of the economy. To see if this result also appears in economies with finite lifetime agents, we developed an endogenous growth overlapping generations (OLG) economy à la Diamond which uses non-renewable resources as essential inputs in final good’s production. We show analytically that any R&D policy that reduces the use of natural resources implies a raise in the growth rate of the economy. Numerically we show that in economies with low intertemporal elasticity of substitution (IES), active R&D policies lead the economy to increase the depletion of non-renewable resources. Nevertheless, we find that active R&D policies always imply increases in the endogenous growth rate, in both scenarios. Furthermore, when the IES coefficient is lower (greater) than one, active R&D policies affect the growth rate of the economy in the ILA more (less) than in OLG economies.
    Keywords: Endogenous growth, R&D, non-renewable resources, overlapping generations.
    JEL: O13 O40 Q32
    Date: 2007–11–19
  13. By: Ricardo Cavalcanti; Ed Nosal
    Abstract: We describe counterfeiting activity as the issuance of private money, one which is difficult to monitor. Our approach, which amends the basic random-matching model of money in mechanism design, allows a tractable welfare analysis of currency competition. We show that it is not efficient to eliminate counterfeiting activity completely. We do not appeal to lottery devices, and we argue that this is consistent with imperfect monitoring.
    Keywords: Counterfeits and counterfeiting ; Money
    Date: 2007
  14. By: Laszlo Goerke (University of Tübingen, CESifo and IZA)
    Abstract: Unemployment Insurance Savings Accounts (UISAs) entitle workers to unemployment benefits at the expense of future pension payments. Therefore, such accounts make unemployment less attractive, intensify job search, and raise employment. In the present paper the wage and employment consequences of UISAs are investigated in a model of collective wage determination. In the basic set-up, UISAs induce a trade union to lower wages. This effect can also arise if (1) balanced-budget repercussions are taken into account, (2) individual job search is incorporated, and (3) wage-dependent pensions are allowed for. However, the requirements for negative wage effects to arise become stricter than in the base model. Thus, collective bargaining creates additional impediments for the positive employment consequences of UISAs.
    Keywords: employment, trade union, unemployment accounts, unemployment benefits, wages
    JEL: J38 J51 J65 J68
    Date: 2007–11
  15. By: Adriaan Van Zon (Maastricht University); Roberto Antonietti (Università di Padova)
    Abstract: How does the rate at which firms adopt new technologies affect the level of education and training of a country’s workforce? If technological change makes knowledge obsolete and tends to foster general rather than firm-specific skills, what would be the optimum level of education spending in front of a faster arrival of new technologies? This paper tries to answer these questions by developing an endogenous growth model with creative ’wear and tear’ in which general education enhances innovation through R&D and lowers adjustment costs to new technologies, while on-the-job training is necessary for firms to realise their profit potentials by implementing the new technologies and reap all the related future quasi-rents. The paper reproduces some stylized facts on the technology-training relationship and shows how the optimum amount of time devoted to education and job training is affected by the rate of technical change itself. In particular, we find that a faster arrival of innovations shifts the private knowledge portfolio towards general human capital. We also find that households tend to under invest in education, thus leading to lower growth rates than technically feasible, and higher training costs than absolutely necessary. This suggests that there is room for education policy reducing private education fees.
    Keywords: education, on-the-job training, R&D, schooling, technology, wear-and-tear
    JEL: I22 J24 O31 O33
    Date: 2007–11
  16. By: James Albrecht (Georgetown University and IZA); Axel Anderson (Georgetown University); Susan Vroman (Georgetown University and IZA)
    Abstract: We consider the problem of sequential search when the decision to stop searching is made by a committee. We show that a symmetric stationary equilibrium exists and is unique given that the distribution of rewards is log concave. Committee members set a lower acceptance threshold than do single-agent searchers. In addition, mean preserving spreads in the distribution of rewards may lower each member's continuation value - an impossibility in the single-agent setting. If committee members are very patient or very impatient, expected search duration is lower than it would be for a single agent, but, for intermediate levels of patience, this comparison may be reversed. Holding the fraction of votes required to stop fixed, expected search duration rises with committee size on patient committees but falls with committee size on impatient committees. Finally, we consider the effect of varying the number of votes required to stop, holding committee size constant. We show that the welfaremaximizing vote threshold increases in the rate of patience and that there is a finite bound on patience such that unanimity is welfare maximizing.
    Keywords: sequential search, voting
    JEL: D72 D83
    Date: 2007–11

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