nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2009‒12‒05
sixteen papers chosen by
Christian Zimmermann
University of Connecticut

  1. Risk premia in general equilibrium By Olaf Posch
  2. Financial (in)stability, supervision and liquidity injections: a dynamic general equilibrium approach By Gregory de Walque; Olivier Pierrard; Abdelaziz Rouabah
  3. Credit, Vacancies and Unemployment Fluctuations By Nicolas Petrosky-Nadeau
  4. Demography and Growth: A Unified Treatment of Overlapping Generations By Neil Bruce; Stephen J. Turnovsky
  5. Lending Relationships and Monetary Policy By Yunus Aksoy; Henrique S. Basso; Javier Coto-Martinez
  6. A two-sector OLG economy: economic growth and demographic behaviour By Fanti, Luciano; Gori, Luca
  7. Optimal Monetary Policy during Endogenous Housing-Market Boom-Bust Cycles By Hajime Tomura
  8. Aggregate Comovements, Anticipation, and Business Cycles. By David R.F. Love
  9. Altruism, Lifetime Uncertainty and Optimal Public Pension Contribution Rate By Yang, Zaigui
  10. Urban Public Pension, Replacement Rates and Population Growth Rate in China By Yang, Zaigui
  11. Inequality and Aggregate Savings in the Neoclassical Growth Model By Foellmi, Reto
  12. Accuracy of Deterministic Extended-Path Solution Methods for Dynamic Stochastic Optimization Problems in Macroeconomics By David R.F. Love
  13. Equilibrium sovereign default with endogenous exchange rate depreciation By Popov, Sergey V.; Wiczer, David G.
  14. Consumption Dynamics in General Equilibrium : A Characterisation when Markets are Incomplete By Beker, Pablo; Subir Chattopadhyay
  15. Invasive Weeds, Wildfire, and Rancher Decision Making in the Great Basin By Mimako Kobayashi; Kimberly Rollins
  16. Cross Sectional Facts for Macroeconomists By Krueger, Dirk; Perri, Fabrizio; Pistaferri, Luigi; Violante, Giovanni L

  1. By: Olaf Posch (Aarhus University, School of Economics and Management and CREATES)
    Abstract: This paper shows that non-linearities can generate time-varying and asymmetric risk premia over the business cycle. These (empirical) key features become relevant and asset market implications improve substantially when we allow for non-normalities in the form of rare disasters. We employ explicit solutions of dynamic stochastic general equilibrium models, including a novel solution with endogenous labor supply, to obtain closed-form expressions for the risk premium in production economies. We find that the curvature of the policy functions affects the risk premium through controlling the individual's effective risk aversion.
    Keywords: Risk premium, Continuous-time DSGE, Optimal stochastic control
    JEL: E21 G11 O41
    Date: 2009–11–01
  2. By: Gregory de Walque; Olivier Pierrard; Abdelaziz Rouabah
    Abstract: This paper develops a dynamic stochastic general equilibrium model with interactions between a heterogeneous banking sector and other private agents. We introduce endogenous default probabilities for both firms and banks, and allow for bank regulation and liquidity injection into the interbank market. Our aim is to understand the importance of supervisory and monetary authorities to restore financial stability. The model is calibrated against real data and used for simulations. We show that liquidity injections reduce financial instability but have ambiguous effects on output fluctuations. The model also confirms the partial equilibrium literature results on the procyclicality of Basel II.
    Keywords: DSGE, Banking sector, Default risk, Supervision, Money
    JEL: E13 E20 G21 G28
    Date: 2008–10
  3. By: Nicolas Petrosky-Nadeau
    Abstract: The propagation properties of the standard search and matching model of equilibrium unemployment are significantly altered when vacancy costs require some external financing on frictional credit markets. The latter induce variation in the shadow cost of external funds of the cycle that greatly increase the elasticity of vacancy postings to productivity through two distinct channels: (i) a cost channel - a lowered shadow cost during an upturn as credit constraints are relaxed increases the incentive to post vacancies; (ii) a wage channel - the improved bargaining position of firms afforded by the lowered cost of vacancies limits of the upward pressure of market tightness on wages. As a result, the model can match the observed volatility of unemployment, vacancies and labor market tightness. Moreover, the progressive easing of financing constraints to innovations generates persistence in the response of market tightness and vacancies, a robust feature of the data and shortcoming of the standard model.
    Date: 2009–11
  4. By: Neil Bruce; Stephen J. Turnovsky
    Abstract: We construct a unified overlapping-generations (OLG) framework of equilibrium growth that includes the Blanchard “perpetual youth” model, the Samuelson model, and the infinitely-lived representative agent growth model as limit specifications of a “realistic”, two-parameter survivorship function. We analyze how demographic conditions affect the equilibrium growth and savings rates in an economy by computing equilibrium rates under different specifications of the survivorship function. Differences in population growth rates, life-expectancies, retirement durations, and the degree of concavity of the survivorship function are found to have significant impacts on equilibrium growth rates. The observed effects are consistent with some cross-country correlations between demographic conditions and growth rates. We also identify a potential “Malthusian growth trap” in economies where life expectancy is short, fertility rates are high, and households work most of their lives—conditions often found in less developed economies.
    Date: 2009–04
  5. By: Yunus Aksoy; Henrique S. Basso; Javier Coto-Martinez (Department of Economics, Mathematics & Statistics, Birkbeck)
    Abstract: Financial intermediation and bank spreads are important elements in the analysis of business cycle transmission and monetary policy. We present a simple framework that introduces lending relationships, a relevant feature of financial intermediation that has been so far neglected in the monetary economics literature, into a dynamic stochastic general equilibrium model with staggered prices and cost channels. Our main findings are: (i) banking spreads move countercyclically generating amplified output responses, (ii) spread movements are important for monetary policy making even when a standard Taylor rule is employed (iii) modifying the policy rule to include a banking spread adjustment improves stabilization of shocks and increases welfare when compared to rules that only respond to output gap and inflation, and finally (iv) the presence of strong lending relationships in the banking sector can lead to indeterminacy of equilibrium forcing the central bank to react to spread movements.
    Date: 2009–10
  6. By: Fanti, Luciano; Gori, Luca
    Abstract: We analyse an overlapping generations economy with two sectors of production: a capital-intensive commodity sector and a labour-intensive services sector. First, we consider an economy with exogenous population and study the effects of a change in the individual preference for old-aged services that causes a reallocation of labour between sectors on per capita income. Then, we compare the results with the standard Diamond (1965) style one-sector economy. Second, we endogenise fertility founding that a reallocation of labour in favour of the services sector causes an additional beneficial effect on per capita income with respect to the model with exogenous population. Third, we further introduce endogenous lifetime through public health investments, showing that multiple regimes of development may exist. In this context, the a rise in the preference for old-aged services may help escaping from poverty.
    Keywords: Fertility; Life expectancy; OLG model; Public health expenditure; Services market
    JEL: O41 I18
    Date: 2009–11–26
  7. By: Hajime Tomura
    Abstract: This paper uses a small-open economy model for the Canadian economy to examine the optimal Taylor-type monetary policy rule that stabilizes output and inflation in an environment where endogenous boom-bust cycles in house prices can occur. The model shows that boom-bust cycles in house prices emerge when credit-constrained mortgage borrowers expect that future house prices will rise and this expectation is neither shared by savers nor realized ex-post. These boom-bust cycles replicate the stylized features of housing-market boom-bust cycles in industrialized countries. In an environment where mortgage borrowers are occasionally over-optimistic, the central bank should be less responsive to inflation, more responsive to output, and slower to adjust the nominal policy interest rate. This optimal monetary policy rule dampens endogenous boom-bust cycles in house prices, but prolongs inflation target horizons due to weak policy reactions to inflation fluctuations after fundamental shocks.
    Keywords: Credit and credit aggregates; Financial stability; Inflation targets
    JEL: E44 E52
    Date: 2009
  8. By: David R.F. Love (Department of Economics, Brock University)
    Abstract: This paper shows that negative comovements between major macroeconomic variables at business-cycle frequencies are commonly observed, but that standard Real Business Cycle (RBC) theory fails to predict this feature of the data. We show that allowing for ``anticipation effects'' in response to ``news shocks'' enables standard RBC models to predict both the observed patterns of negative comovement and overall positive correlations. Anticipation also improves magnification of shocks in the model without harming predictions for the other second moments central to RBC studies. Anticipation effects improve on standard RBC frameworks by offering an empirically plausible explanation for the nontrivial fraction of time that aggregate variables are observed to comove negatively.
    Keywords: Comovements, Anticipation, News, Real Business Cycles, Equilibrium Dynamics
    JEL: E10 E30 E37
    Date: 2009–11
  9. By: Yang, Zaigui
    Abstract: Assuming that individuals are altruistic, this paper employs an overlapping generations model with lifetime uncertainty to study the partially funded public pension in China. By comparing the market economy equilibrium with the social optimum allocation, we find the optimal firm contribution rate. Our simulation results show that this rate increases when the life expectancy rises, while decreases when the population growth rate falls. It decreases in the joint case of risen life expectancy and fallen population growth rate because it is much more sensitive to the latter than to the former. The result has some policy implications.
    Keywords: altruism; lifetime uncertainty; pension contribution rat
    JEL: H55
    Date: 2009–05
  10. By: Yang, Zaigui
    Abstract: This paper uses an overlapping generations model to investigate the urban public pension in China. It examines the effects of the replacement rates and population growth rate on the capital-labor ratio, pension benefits, consumption and utility, and finds the optimal replacement rate. It is shown that raising the individual account benefit replacement rate only induces the increase in the individual account benefits. Raising the social pool benefit replacement rate induces the increase in the social pool benefits and retirement-period consumption, while the decrease in the capital-labor ratio, individual account benefits, working-period consumption and utility. The fall in the population growth rate leads to the increase in the capital-labor ratio, social pool benefits, individual account benefits, working-period consumption and utility, and leads to a decrease in the retirement-period consumption. The optimal social pool benefit replacement rate depends on the individual discount factor, social discount factor, capital share of income and population growth rate, and it decreases in the case of falling population growth rates. It will do more good than harm to raise the individual account benefit replacement rate, reduce the social pool benefit replacement rate and strictly implement China's population policy.
    Keywords: Urban public pension; Replacement rate; Population growth rate
    JEL: H55
    Date: 2009–10
  11. By: Foellmi, Reto
    Abstract: Within the context of the neoclassical growth model I investigate the implications of (initial) endowment inequality when the rich have a higher marginal savings rate than the poor. More unequal societies grow faster in the transition process, and therefore exhibit a higher speed of convergence. Furthermore, there is divergence in consumption and lifetime wealth if the rich exhibit a higher intertemporal elasticity of substitution. Unlike the Solow-Stiglitz model, the steady state is always unique although the consumption function is concave.
    Keywords: concave consumption function; growth; income distribution; Marginal propensity to consume
    JEL: D30 O10 O40
    Date: 2009–11
  12. By: David R.F. Love (Department of Economics, Brock University)
    Abstract: The deterministic extended-path method for solving dynamic stochastic optimization problems approximates conditional expectations instead of approximating a model's complex non-linear dynamics. We show that this straightforward approach provides similar accuracy to the best results reported for alternative methods, and gives uniform performance across the entire state space. Our implementation requires roughly 4 fold more computer time than Galerkin projection, but the method has offsetting simplicity and generality that make it an attractive choice.
    Keywords: Dynamic stochastic equilibrium, computational methods, non-linear solutions
    JEL: E10 E30 E37
    Date: 2009–11
  13. By: Popov, Sergey V.; Wiczer, David G.
    Abstract: Sovereign default is often associated with disturbances in a country’s trade relations. Often the defaulter’s currency depreciates while trade volume falls drastically. This paper develops a model to incorporate real depreciation along with sovereign bankruptcy. The exchange rate is determined in equilibrium as the relative price of imports. We demonstrate that a default episode can imply up to a 30% real depreciation. This matches the depreciations observed in crisis events for developing countries. We argue that much of the exchange rate movement is explained by market clearing adjustments to trade disruptions in the aftermath of default.
    Keywords: Endogenous default; endogenous exchange rate; trade balance.
    JEL: F34 F11 F17
    Date: 2009–11–24
  14. By: Beker, Pablo (University of Warwick); Subir Chattopadhyay (University of York)
    Abstract: We introduce a methodology for analysing infinite horizon economies with two agents, one good, and incomplete markets. We provide an example in which an agent’s equilibrium consumption is zero eventually with probability one even if she has correct beliefs and is marginally more patient. We then prove the following general result: if markets are e?ectively incomplete forever then on any equilibrium path on which some agent’s consumption is bounded away from zero eventually, the other agent’s consumption is zero eventually–so either some agent vanishes, in that she consumes zero eventually, or the consumption of both agents is arbitrarily close to zero infinitely often. Later we show that (a) for most economies in which individual endowments are finite state time homogeneous Markov processes, the consumption of an agent who has a uniformly positive endowment cannot converge to zero and (b) the possibility that an agent vanishes is a robust outcome since for a wide class of economies with incomplete markets, there are equilibria in which an agent’s consumption is zero eventually with probability one even though she has correct beliefs as in the example. In sharp contrast to the results in the case studied by Sandroni (2000) and Blume and Easley (2006) where markets are complete, our results show that when markets are incomplete not only can the more patient agent (or the one with more accurate beliefs) be eliminated but there are situations in which neither agent is eliminated. JEL Codes: D52 ; D61
    Date: 2009
  15. By: Mimako Kobayashi (Department of Resource Economics, University of Nevada, Reno); Kimberly Rollins (Department of Resource Economics, University of Nevada, Reno)
    Abstract: A numerical dynamic model is developed to characterize the decision problem of a rancher operating on rangelands in northern Nevada that are affected by invasive annual grasses and wildfire. The model incorporates decisions about herd size management of a cow-calf operation and fuels treatment to reduce the size of rangeland wildfires. Currently, high transactions costs to obtain permits to implement land treatments on federally-owned rangeland appear to limit rancher involvement. The results of the model suggest that, even if the transactions are removed, ranch income motives alone are likely insufficient for private ranchers to adopt preventative land treatments. The current treatment cost ($20 per acre at the minimum) appears to be prohibitively expensive relative to the benefits derived from the treatments under the low-productivity, semi-arid rangeland conditions.
    Keywords: Rangeland management; Stochastic dynamic programming; Ranching; Wildfire; Invasive grasses; Rangeland ecosystem benefits; Cow-calf operation
    JEL: Q12 Q24 Q34 Q57 C61
    Date: 2009–11
  16. By: Krueger, Dirk; Perri, Fabrizio; Pistaferri, Luigi; Violante, Giovanni L
    Abstract: This paper provides an introduction to the special issue of the Review of Economic Dynamics on "Cross Sectional Facts for Macroeconomists''. The issue documents, for nine countries, the level and the evolution, over time and over the life cycle, of several dimensions of economic inequality, including wages, labor earnings, income, consumption, and wealth. After describing the motivation and the common methodology underlying this empirical project, we discuss selected results, with an emphasis on cross-country comparisons. Most, but not all, countries experienced substantial increases in wages and earnings inequality, over the last three decades. While the trend in the skill premium differed widely across countries, the experience premium rose and the gender premium fell virtually everywhere. At a higher frequency, earnings inequality appears to be strongly counter-cyclical. In all countries, government redistribution through taxes and transfers reduced the level, the trend and the cyclical fluctuations in income inequality. The rise in income inequality was stronger at the bottom of the distribution. Consumption inequality increased less than disposable income inequality, and tracked the latter much more closely at the top than at the bottom of the distribution. Measuring the age-profile of inequality is challenging because of the interplay of time and cohort effects.
    Keywords: consumption; income; long-run trends in inequality; wages; wealth
    JEL: D31 D91 E21
    Date: 2009–11

This nep-dge issue is ©2009 by Christian Zimmermann. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
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