nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2010‒08‒14
twenty papers chosen by
Christian Zimmermann
University of Connecticut

  1. Endogenous Growth in an OLG Model with a Fixed Factor By Lionel Artige
  2. Monetary policy and the cyclicality of risk By Christopher Gust; David Lopez-Salido
  3. Endogenous Growth and Parental Funding of Education in an OLG Model with a Fixed Factor By Lionel Artige
  4. Taxation in the Two-Sector Neoclassical Growth Model with Sector-Specific Externalities and Endogenous Labor Supply By Amano, Daisuke; Itaya, Jun-ichi
  5. Government Purchases Over the Business Cycle: the Role of Economic and Political Inequality By Ruediger Bachmann; Jinhui Bai
  6. The EAGLE. A model for policy analysis of macroeconomic interdependence in the euro area By Sandra Gomes; Pascal Jacquinot; Massimiliano Pisani
  7. Inventories in Dynamic General Equilibrium By Katsuyuki Shibayama
  8. Financial Frictions and Total Factor Productivity: Accounting for the Real Effects of Financial Crises By Sangeeta Pratap; Carlos Urrutia
  9. Inferring labor income risk from economic choices: an indirect inference approach By Fatih Guvenen; Anthony Smith
  10. Financing development: the role of information costs By Jeremy Greenwood; Juan M. Sánchez; Cheng Wang
  11. Interpreting investment-specific technology shocks By Luca Guerrieri; Dale Henderson; Jinill Kim
  12. Optimal Default and Liquidation with Tangible Assets and Debt Renegotiation By Goto, Makoto; Kijima, Masaaki; Suzuki, Teruyoshi
  13. Human capital values and returns: bounds implied by earnings and asset returns data By Mark Huggett; Greg Kaplan
  14. Why are developing countries so slow in adopting new technologies ? the aggregate and complementary impact of micro distortions By Bergoeing, Raphael; Loayza, Norman V.; Piguillem, Facundo
  15. Oil price shocks and U.S. economic activity: an international perspective By Nathan S. Balke; Stephen P.A. Brown; Mine K. Yücel
  17. Inventories in Dynamic General Equilibrium By Mark Dray; A.P. Thirlwall
  18. Human Capital Values and Returns:Bounds Implied By Earnings and Asset Returns Data By Mark Huggett and Greg Kaplan
  19. The IT revolution and the unsecured credit market By Juan M. Sánchez
  20. Quantifying the impact of financial development on economic development By Jeremy Greenwood; Juan M. Sánchez; Cheng Wang

  1. By: Lionel Artige
    Abstract: This paper examines the conditions for endogenous growth in an overlapping generations (OLG) model with two sectors of production when the returns to scale may be non constant and provides the technological conditions for the highest in- come growth rate.
    Date: 2010
  2. By: Christopher Gust; David Lopez-Salido
    Abstract: We use a DSGE model that generates endogenous movements in risk premia to examine the positive and normative implications of alternative monetary policy rules. As emphasized by the microfinance literature, variation in risk arises because households face fixed costs of transferring cash across financial accounts, implying that some households rebalance their portfolios infrequently. We show that the model can account for the mean returns on equity and the risk-free rate, and in line with empirical evidence generates a decline in the equity premium following an unanticipated easing of monetary policy. An important result that emerges from our analysis is that countercyclical monetary policy generates higher average welfare than constant money growth or zero inflation policies.
    Date: 2010
  3. By: Lionel Artige
    Abstract: This paper examines the stationary state income level and income growth in an overlapping generations (OLG) model in which production uses three inputs: physical capital, human capital and land. The accumulation of human capital relies on parental funding of education and the past aggregate human capital stock. Four cases exhibiting various possible specifications of returns to scale in output and human capital technologies are studied and compared.
    Date: 2010
  4. By: Amano, Daisuke; Itaya, Jun-ichi
    Abstract: This paper examines the long-run impacts of selective (sector-specific) commodity, payroll and profit taxes in a two-sector endogenous growth model with sector-specific production externalities, in which one sector produces consumption goods and the other produces investment goods. The novelty of the model is that it allows not only for endogenous labor supply (which may lead to indeterminacy) but also for the intersectional allocation of labor. We analytically show that the long-run effects of these selective taxes are closely related to the possible emergence of the indeterminacy of equilibria, which may reverse the standard results of the growth effects of distortionary taxes.
    Keywords: Selective tax, Two-sector model, Endogenous growth, Production externalities, Indeterminacy, Endogenous labor supply,
    JEL: H22 J22 O41
    Date: 2010–06
  5. By: Ruediger Bachmann; Jinhui Bai
    Abstract: This paper explores the implications of economic and political inequality for the business cycle comovement of government purchases. We set up and compute a heterogeneous-agent neoclassical growth model, where households value government purchases which are financed by income taxes. A key feature of the model is a wealth bias in the political aggregation process. When calibrated to U.S. wealth inequality and exposed to aggregate productivity shocks, such a model is able to generate milder procyclicality of government purchases than models with no political wealth bias. The degree of wealth bias that matches the observed mild procyclicality of government purchases in the data, is consistent with cross-sectional data on political participation.
    JEL: E30 E32 E60 E62 H30
    Date: 2010–08
  6. By: Sandra Gomes (Bank of Portugal); Pascal Jacquinot (European Central Bank); Massimiliano Pisani (Bank of Italy)
    Abstract: Building on the New Area Wide Model, we develop a 4-region macroeconomic model of the euro area and the world economy. The model (EAGLE, Euro Area and GLobal Economy model) is microfounded and designed for conducting quantitative policy analysis of macroeconomic interdependence across regions belonging to the euro area and between euro area regions and the world economy. Simulation analysis shows the transmission mechanism of region-specific or common shocks, originating in the euro area and abroad.
    Keywords: Open-economy macroeconomics, DSGE models, econometric models, policy analysis
    JEL: C53 E32 E52 F47
    Date: 2010–07
  7. By: Katsuyuki Shibayama
    Abstract: This article investigates a dynamic general equilibrium model with a stockout constraint, which means that no seller can sell more than the inventories that she has. The model successfully explains two inventory facts; (i) inventory investment is procyclical, and (ii) production is more volatile than sales. The key intuition is that, since inventories and demand are complements in generating sales, the optimal level of inventories is increasing in expected demand. Thus, when demand is expected to be strong, firms increase their production not only to meet their demand but also to accumulate inventories. Also, our model shows that the inventory to sales ratio is persistent and countercyclical, while the (endogenous) markup is countercyclical. These are because a high interest rate in booms discourages firms to hold inventories.
    Keywords: Public-private partnerships; Social Marginal Cost Pricing; Incentives; Contracts; EU Transport Policy
    JEL: L14 L33 L51 L91 R48
    Date: 2010–04
  8. By: Sangeeta Pratap (Hunter College); Carlos Urrutia (Instituto Tecnologico Autonomo de Mexico)
    Abstract: The financial crises or “sudden stops” of the last decade in emerging economies were accompanied by a large fall in total factor productivity. In this paper we explore the role of financial frictions in exacerbating the misallocation of resources and explaining this drop in TFP. We build a dynamic two-sector model of a small open economy with a cash in advance constraint where firms have to finance a part of their purchase of intermediate goods prior to production. The model is calibrated to the Mexican economy before the 1995 crisis and subject to an unexpected shock to interest rates. The financial friction can generate an endogenous fall in TFP of about 3.5 percent and can explain 74 percent of the observed fall in GDP per worker. Adding a cost of adjusting labor between the two sectors and sectoral specificity of capital also generates the sectoral patterns of output and resource use observed in the data after the sudden stop. The results highlight the interaction between interest rates and allocative inefficiencies as an explanation of the real effects of the financial crisis.
    Keywords: Financial frictions, labor market turbulence, adjustment costs, sudden stops, total factor productivity, output fluctuations
    JEL: D14 D43 D91
    Date: 2010
  9. By: Fatih Guvenen; Anthony Smith
    Abstract: This paper uses the information contained in the joint dynamics of households’ labor earnings and consumption-choice decisions to quantify the nature and amount of income risk that households face. We accomplish this task by estimating a structural consumption-savings model using data from the Panel Study of Income Dynamics and the Consumer Expenditure Survey. Specifically, we estimate the persistence of labor income shocks, the extent of systematic differences in income growth rates, the fraction of these systematic differences that households know when they begin their working lives, and the amount of measurement error in the data. Although data on labor earnings alone can shed light on some of these dimensions, to assess what households know about their income processes requires using the information contained in their economic choices (here, consumption-savings decisions). To estimate the consumption-savings model, we use indirect inference, a simulation method that puts virtually no restrictions on the structural model and allows the estimation of income processes from economic decisions with general specifications of utility, frequently binding borrowing constraints, and missing observations. The main substantive findings are that income shocks are not very persistent, systematic differences in income growth rates are large, and individuals have substantial amounts of information about their future income prospects. Consequently, the amount of uninsurable lifetime income risk that households perceive is substantially smaller than what is typically assumed in calibrated macroeconomic models with incomplete markets.
    Date: 2010
  10. By: Jeremy Greenwood; Juan M. Sánchez; Cheng Wang
    Abstract: To address how technological progress in financial intermediation affects the economy, a costly state verification framework is embedded into the standard growth model. The framework has two novel ingredients. First, firms differ in the risk/return combinations that they offer. Second, the efficacy of monitoring depends upon the amount of resources invested in the activity. A financial theory of firm size results. Undeserving firms are over financed, deserving ones under funded. Technological advance in intermediation leads to more capital accumulation and a redirection of funds away from unproductive firms toward productive ones. With continued progress, the economy approaches its first-best equilibrium.
    Keywords: Economic development ; Intermediation (Finance)
    Date: 2010
  11. By: Luca Guerrieri; Dale Henderson; Jinill Kim
    Abstract: Investment-specific technology (IST) shocks are often interpreted as multi-factor productivity (MFP) shocks in a separate investment-producing sector. However, this interpretation is strictly valid only when some stringent conditions are satisfied. Some of these conditions are at odds with the data. Using a two-sector model whose calibration is based on the U.S. Input-Output Tables, we consider the implications of relaxing several of these conditions. In particular, we show how the effects of IST shocks in a one-sector model differ from those of MFP shocks to an investment-producing sector of a two-sector model. Importantly, with a menu of shocks drawn from recent empirical studies, MFP shocks induce a positive short-run correlation between consumption and investment consistent with U.S. data, while IST shocks do not.
    Date: 2010
  12. By: Goto, Makoto; Kijima, Masaaki; Suzuki, Teruyoshi
    Abstract: This paper proposes a new pricing model for corporate securities issued by a levered firm with the possibility of debt renegotiation. We take the structural approach that the firm's earnings follow a geometric Brownian motion with stochastic collaterals. While equity holders can default the firm for their own benefits when the earnings become insufficient to go on the firm, they may want to liquidate it by repaying the face value of debt to debt holders in order to get enough residuals, when the value of collaterals becomes sufficiently high. Unlike the existing theoretical models, the bivariate structure enables us to distinguish strategic default, liquidity default and the ordinary liquidation. It is shown that liquidity default and liquidation possibly occur without entering debt renegotiation, which makes the contribution of strategic debt service to credit spreads lower than that obtained in the previous models, irrespective of the equity holders' bargaining power. Our model resolves the inconsistency reported in recent empirical studies.
    Keywords: Structural model, Debt renegotiation, Strategic debt service, Credit spread, Liquidity default, Strategic default, Liquidation, M&A,
    JEL: D81 G32 G33 G35
    Date: 2010–05
  13. By: Mark Huggett; Greg Kaplan
    Abstract: We provide theory for calculating bounds on both the value of an individual’s human capital and the return on an individual’s human capital, given knowledge of the process governing earnings and financial asset returns. We calculate bounds using U.S. data on male earnings and financial asset returns. The large idiosyncratic component of earnings risk implies that bounds on values and returns are quite loose. However, when aggregate shocks are the only source of earnings risk, both bounds are tight.
    Date: 2010
  14. By: Bergoeing, Raphael; Loayza, Norman V.; Piguillem, Facundo
    Abstract: This paper explores how developmental and regulatory impediments to resource reallocation limit the ability of developing countries to adopt new technologies. An efficient economy innovates quickly; but when the economy is unable to redeploy resources away from inefficient uses, technological adoption becomes sluggish and growth is reduced. The authors build a model of heterogeneous firms and idiosyncratic shocks, where aggregate long-run growth occurs through the adoption of new technologies, which in turn requires firm destruction and rebirth. After calibrating the model to leading and developing economies, the authors analyze its dynamics in order to clarify the mechanism based on firm renewal. The analysis uses the steady-state characteristics of the model to provide an explanation for long-run output gaps between the United States and a large sample of developing countries. For the median less-developed country in the sample, the model accounts for more than 50 percent of the income gap with respect to the United States, with 60 percent of the simulated gap being explained by developmental and regulatory barriers taken individually, and 40 percent by their interaction. Thus, the benefits from market reforms are largely diminished if developmental and regulatory distortions to firm dynamics are not jointly addressed.
    Keywords: Economic Theory&Research,Emerging Markets,E-Business,Technology Industry,Political Economy
    Date: 2010–08–01
  15. By: Nathan S. Balke; Stephen P.A. Brown; Mine K. Yücel
    Abstract: Oil price shocks are thought to have played a prominent role in U.S. economic activity. In this paper, we employ Bayesian methods with a dynamic stochastic general equilibrium model of world economic activity to identify the various sources of oil price shocks and economic fluctuation and to assess their effects on U.S. economic activity. We find that changes in oil prices are best understood as endogenous. Oil price shocks in the 1970s and early 1980s and the 2000s reflect differing mixes of shifts in oil supply and demand, and differing sources of oil price shocks have differing effects on economic activity. We also find that U.S. output fluctuations owe mostly to domestic shocks, with productivity shocks contributing to weakness in the 1970s and 1980s and strength in the 2000s.
    Keywords: Petroleum products - Prices ; Petroleum industry and trade ; Economic conditions - United States ; Business cycles
    Date: 2010
  16. By: Zuzana Brixiova
    Abstract: In Africa’s least developed countries (LDCs), escape from poverty and convergence to living standards of more advanced economies depends critically on structural transformation and the emergence of productive entrepreneurship that would accelerate growth and job creation. So far, however, subsistence agriculture has been the main source of employment in these countries, while a dynamic private sector in industry or high value-added services has remained elusive. Utilizing the flow approach to labor markets, this paper complements the empirical literature and numerous surveys on small and medium enterprise (SME) constraints and develops a theoretical framework that examines the main obstacles to entrepreneurship in Africa’s LDCs. The paper posits that given the persistent frictions in product and labor markets as well as skill shortages that characterize these economies, development of productive entrepreneurship cannot be left to markets alone. The policy analysis suggests that the state has an important role to play. Well-targeted government interventions including training of potential entrepreneurs and workers can help establish more modern and highly productive SME clusters that Africa’s LDCs need.
    Keywords: Entrepreneurship, institutions and policies, Africa, LDCs, search model
    JEL: L26 O1 J64 J68
    Date: 2010–06–01
  17. By: Mark Dray; A.P. Thirlwall
    Abstract: The paper questions the assumption in all of mainstream growth theory that the Harrod natural rate of growth is exogenously determined and independent of the pressure of demand in an economy. First a simple statistical technique is presented for estimating the natural rate of growth, and then it is shown how it is possible to test for its endogeneity. The model is applied to ten Asian countries, and the results support the conclusions from previous studies of OECD and Latin American countries that the natural rate of growth is elastic to the actual rate of growth working through induced labour supply and productivity growth. Demand matters for economic growth.
    Keywords: Demand-led growth; endogenous labour supply and productivity growth; Asia
    JEL: O4 O5
    Date: 2010–08
  18. By: Mark Huggett and Greg Kaplan (Department of Economics, Georgetown University)
    Abstract: We provide theory for calculating bounds on both the value of an individual’s human capital and the return on an individual’s human capital, given knowledge of the process governing earnings and financial asset returns. We calculate bounds using U.S. data on male earnings and financial asset returns. The large idiosyncratic component of earnings risk implies that bounds on values and returns are quite loose. However, when aggregate shocks are the only source of earnings risk, both bounds are tight. Classification-JEL Codes: J24, G12
    Keywords: Value of Human Capital, Return on Human Capital, Asset Pricing
    Date: 2010–07–10
  19. By: Juan M. Sánchez
    Abstract: Consumer bankruptcies rose sharply over the last 20 years in the U.S. economy. During the same period, there was impressive technological progress in the information sector (the IT revolution). At the same time, pricing of unsecured debt changed dramatically. The dispersion of interest rates rose substantially. More importantly, interest rates varied systematically with the borrowers' characteristics in 2004 but not in 1983. This suggests that changes in the information that lenders use to price debt may be behind changes in the unsecured credit market. A model of unsecured borrowing with asymmetric information is developed to analyze this hypothesis. The effect of changes in the cost of information on borrowing and bankruptcy is explained with the help of a two-period version of the model. A calibrated model is used to study the implications of the IT revolution further. Quantitative exercises show that information costs have a significant effect on the bankruptcy rate. Additionally, a drop in information costs generates other changes (e.g. the projection of the borrowers' characteristics on interest rates) similar to what has occurred over the last 20 years.
    Keywords: Information technology ; Consumer credit
    Date: 2010
  20. By: Jeremy Greenwood; Juan M. Sánchez; Cheng Wang
    Abstract: How important is financial development for economic development? A costly state verification model of financial intermediation is presented to address this question. The model is calibrated to match facts about the U.S. economy, such as intermediation spreads and the firm-size distribution for the years 1974 and 2004. It is then used to study the international data, using cross-country interest-rate spreads and per-capita GDP. The analysis suggests a country like Uganda could increase its output by 140 to 180 percent if it could adopt the world?s best practice in the financial sector. Still, this amounts to only 34 to 40 percent of the gap between Uganda?s potential and actual output.
    Keywords: Economic development ; Intermediation (Finance)
    Date: 2010

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