nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2010‒12‒11
eighteen papers chosen by
Christian Zimmermann
University of Connecticut

  1. Nominal Rigidities and News-Driven Business Cycles in a Medium-Scale DSGE Economy By NUTAHARA Kengo
  2. Interest rate effects of demographic changes in a New-Keynesian life-cycle framework By Engin Kara; Leopold von Thadden
  3. Estimating Nonlinear DSGE Models by the Simulated Method of Moments By Francisco J. Ruge-Murcia
  4. Monetary Policy in the presence of Informal Labour Markets By Paul Castillo; Carlos Montoro
  5. Confronting Model Misspecification in Macroeconomics By DANIEL F. WAGGONER; TAO ZHA
  6. Family Job Search, Wage Bargaining, and Optimal Unemployment Insurance By Ek, Susanne; Holmlund, Bertil
  7. Fiscal Policy and Economic Stability:Does PIGS stand for Procyclicality In Government. By Peter Claeys; Alessandro Maravalle
  8. Is History a Blessing or a Curse? International Borrowing without Commitment, Leapfrogging and Growth Reversals By Raouf BOUCEKKINE; Patrick A. PINTUS
  9. Factor Analysis of a Large DSGE Model By Alexei Onatski; Francisco J. Ruge-Murcia
  10. Deep habits and the macroeconomic effects of government debt By Aloui, Rym
  11. Various Tax Policy Alternatives to Delay Retirement: Some Computations and Implications By Emin Gahramanov; Xueli Tang
  12. A Reappraisal of the Allocation Puzzle through the Portfolio Approach By Benhima Kenza
  13. A Simple Model of the Relationship Between Productivity, Saving and the Current Account By Jean-Marc Fournier; Isabell Koske
  14. Two-Tier Labor Markets in the Great Recession: France vs. Spain By Bentolila, Samuel; Cahuc, Pierre; Dolado, Juan José; Le Barbanchon, Thomas
  15. Economic Development and the Family Structure: from the Pater Familias to the Nuclear Family By Luca PENSIEROSO; Alessandro SOMMACAL
  16. Optimal sequential sampling rules for the economic evaluation of health technologies By Paolo Pertile; Martin Forster; Davide La Torre
  17. Rational Expectations and the Puzzling No-E¤ect of the Minimum Wage By Pinoli, Sara
  18. Structural development accounting By Gino Gancia; Andreas Müller; Fabrizio Zilibotti

  1. By: NUTAHARA Kengo
    Abstract: A news-driven business cycle is a positive comovement of consumption, output, labor, and investment from the news about the future. It is well-known that the standard real business cycle model cannot generate it. In this paper, we show that nominal rigidities, especially sticky prices, can cause it in an estimated medium-scale DSGE economy. We also find that sticky wages cannot cause it in our economy.
    Date: 2010–12
  2. By: Engin Kara (Economics Department, University of Bristol, 8 Woodland Road, BS8 1TN, Bristol.); Leopold von Thadden (European Central Bank, Kaiserstrasse 29, D-60311 Frankfurt am Main, Germany.)
    Abstract: This paper develops a small-scale DSGE model which embeds a demographic structure within a monetary policy framework. We extend the tractable, though non-monetary overlapping-generations model of Gertler (1999) and present a small synthesis model which combines the set-up of Gertler with a New-Keynesian structure, implying that the short-run dynamics related to monetary policy are similar to the paradigm summarized in Woodford (2003). In sum, the model offers a New-Keynesian platform which can be used to investigate in a closed economy set-up the response of macroeconomic variables to demographic shocks, similar to technology, government spending or monetary policy shocks. Empirically, we use a calibrated version of the model to discuss a number of macroeconomic scenarios for the euro area with a horizon of around 20 years. The main finding is that demographic changes, while contributing slowly over time to a decline in the equilibrium interest rate, are not visible enough within the time horizon relevant for monetary policy-making to require monetary policy reactions. JEL Classification: D58, E21, E50, E63.
    Keywords: Demographic change, Monetary policy, DSGE modelling.
    Date: 2010–12
  3. By: Francisco J. Ruge-Murcia (Department of Economics, University of Montréal; The Rimini Centre for Economic Analysis (RCEA))
    Abstract: This paper studies the application of the simulated method of moments (SMM) for the estimation of nonlinear dynamic stochastic general equilibrium (DSGE) models. Monte Carlo analysis is employed to examine the small-sample properties of SMM in specifications with different curvature. Results show that SMM is computationally efficient and delivers accurate estimates, even when the simulated series are relatively short. However, asymptotic standard errors tend to overstate the actual variability of the estimates and, consequently, statistical inference is conservative. A simple strategy to incorporate priors in a method of moments context is proposed. An empirical application to the macroeconomic effects of rare events indicates that negatively skewed productivity shocks induce agents to accumulate additional capital and can endogenously generate asymmetric business cycles.
    Keywords: Monte-Carlo analysis; priors; perturbation methods, rare events, skewness
    JEL: C15 C11 E2
    Date: 2010–01
  4. By: Paul Castillo (Banco Central de Reserva del Perú); Carlos Montoro (Banco Central de Reserva del Perú and Bank for International Settlements)
    Abstract: In this paper we analyse the effects of informal labour markets on the dynamics of inflation and on the transmission of aggregate demand and supply shocks. In doing so, we incorporate the informal sector in a modified New Keynesian model with labour market frictions as in the Diamond-Mortensen-Pissarides model. Our main results show that the informal economy generates a "buffer" effect that diminishes the pressure of demand shocks on aggregate wages and inflation. Finding that is consistent with the empirical literature on the e¤ects of informal labour markets in business cycle fluctuations. This result implies that in economies with large informal labour markets the interest rate channel of monetary policy is relatively weaker. Furthermore, the model produces cyclical flows from informal to formal employment consistent with the data.
    Keywords: Monetary Policy, New Keynesian Model, Informal Economy, Labour Market Frictions.
    JEL: E32 E50 J64 O17
    Date: 2010–09
    Abstract: We confront model misspecification in macroeconomics by proposing an analytic framework for merging multiple models. This framework allows us to 1) address uncertainty about models and parameters simultaneously and 2) trace out the historical periods in which one model dominates other models. We apply the framework to a richly parameterized DSGE model and a corresponding BVAR model. The merged model, fitting the data better than both individual models, substantially alters economic inferences about the DSGE parameters and about the implied impulse responses.
    Date: 2010–11
  6. By: Ek, Susanne (Uppsala Center for Labor Studies); Holmlund, Bertil (Uppsala Center for Labor Studies)
    Abstract: In this paper we develop an equilibrium search and matching model where two-person families as well as singles participate in the labor market. We show that equilibrium entails wage dispersion among equally productive risk-averse workers. Marital status as well as spousal labor market status matters for wage outcomes. In general, employed members of two-person families receive higher wages than employed singles. The model is applied to a welfare analysis of alternative unemployment insurance systems, while recognizing the role of spousal employment as a partial substitute for public insurance. The optimal system involves benefit differentiation based on marital status as well as spousal labor market status
    Keywords: Job search; wage bargaining; wage differentials; unemployment; unemployment insurance
    JEL: J31 J64 J65
    Date: 2010–04–08
  7. By: Peter Claeys (Universitat de Barcelona,); Alessandro Maravalle (University of the Basque Country,)
    Abstract: The Financial Crisis has hit particularly hard countries like Ireland or Spain. Procyclical fiscal policy has contributed to a boom-bust cycle that undermined fiscal positions and deepened current account deficits during the boom. We set up an RBC model of a small open economy, following Mendoza (1991), and introduce the effect of fiscal policy decisions that change over the cycle. We calibrate the model on data for Ireland, and simulate the effect of different spending policies in response to supply shocks. Procyclical fiscal policy distorts intertemporal allocation decisions. Temporary spending boosts in booms spur investment, and hence the need for external finance, and so generates very volatile cycles in investment and the current account. This economic instability is also harmful for the steady state level of output. Our model is able to replicate the relation between the degree of cyclicality of fiscal policy, and the volatility of consumption, investment and the current account observed in OECD countries.
    Keywords: RBC, current account, small open economy, fiscal rule, spending
    JEL: E32 E62 F41 H62
    Date: 2010–12–02
  8. By: Raouf BOUCEKKINE (Universite Catholique de Louvain and IRES-CORE, Universite de la Mediterranee and GREQAM); Patrick A. PINTUS (Universite de la Mediterranee and GREQAM-IDEP, Institut Universitaire de France)
    Abstract: We develop a simple open-economy AK model with collateral constraints that accounts for growth-reversal episodes, during which countries face abrupt changes in their growth rate that lead to either growth miracles or growth disasters. Absent commitment to investment by the borrowing country, imperfect contract enforcement leads to an informational lag such that the debt contracted upon today depends upon the past stock of capital. The no-commitment delay originates a history effect by which the richer a country has been in the past, the more it can borrow today. For (arbitrarily) small deviations from perfect contract enforcement, the history effect offsets the growth benefits from international borrowing and dampens growth, and it leads to leapfrogging in long-run levels. When large enough, the history effect originates growth reversals and we connect the latter to leapfrogging. Finally, we argue that the model accords with the reported evidence on growth disasters and growth accelerations. We also provide examples showing that leapfrogging and growth reversals may coexist, so that currently poor but fastgrowing countries experiencing sharp growth reversals may end up, in the long-run, significantly richer than currently rich but declining countries.
    Keywords: Growth Reversals, Leapfrogging, International Borrowing, Open Economies
    JEL: F34 F43 O40
    Date: 2010–11–02
  9. By: Alexei Onatski (Faculty of Economics, University of Cambridge); Francisco J. Ruge-Murcia (Department of Economics, University of Montréal; The Rimini Centre for Economic Analysis (RCEA))
    Abstract: We study the workings of the factor analysis of high-dimensional data using arti…cial series generated from a large, multi-sector dynamic stochastic general equilibrium (DSGE) model. The objective is to use the DSGE model as a laboratory that allow us to shed some light on the practical bene…ts and limitations of using factor analysis techniques on economic data. We explain in what sense the arti…cial data can be thought of having a factor structure, study the theoretical and fi…nite sample properties of the principal components estimates of the factor space, investigate the substantive reason(s) for the good performance of diffusion index forecasts, and assess the quality of the factor analysis of highly dissagregated data. In all our exercises, we explain the precise relationship between the factors and the basic macroeconomic shocks postulated by the model.
    Keywords: Multisector economies, principal components, forecasting, pervasiveness, FAVAR
    JEL: C3 C5 E3
    Date: 2010–01
  10. By: Aloui, Rym
    Abstract: In this paper, we study the effects of government debt on macroeconomic aggregates in a non-Ricardian framework. We develop a micro-founded framework which combines time-varying markups, endogenous labor supply and overlapping generations based on infinitely-lived families. The main contribution of this paper is to provide a new transmission mechanism of public debt through the countercyclical markup movements induced by external deep habits. We analyze the effects of debt-financed tax cuts. We show that the interest rate rises, entailing higher markups, which imply a fall in employment and consumption. It is particularily noteworthy that, even without capital, a crowding out effect of government debt is obtained in the long run. However, the short-run expansionary effect of debt-financed tax cuts, which would eventually be expected in a non-Ricardian framework, fails to occur. This is due to our flexible-price framework. On the other hand, we show that incorporating sticky prices in our model causes debt-financed tax cuts to have a short-run expansionary effect while preserving the long-run contractionary effect. --
    Keywords: Wealth Effects,Fiscal Policy,Public Debt Shock,Deep Habits,Overlapping Generations,Monopolistic Competition
    JEL: E63 E52
    Date: 2010
  11. By: Emin Gahramanov; Xueli Tang
    Abstract: Demographic challenges have been threatening the fiscal sustainability of pension systems across most of the developed world. A popular policy response to pension financing difficulties is the encouragement (or enforcement) of later retirement, as well the legislation of higher payroll taxes over time. In this paper we analyze how various tax policy experiments, including changes in the Social Security payroll tax, affect people’s desire to leave the workforce and the state of the economy. For this purpose we build a general-equilibrium life-cycle model with rational and myopic consumers, facing a mortality risk. Agents leave accidental bequests and are heterogeneous in their age-dependent work productivity. We incorporate productive government expenditures, categorize people into the rich and poor, and endogenize people’s retirement decision. We find that although some reasonable fiscal reforms are unlikely to abruptly delay people’s planned retirement dates, there exists a number of alternative fiscal arrangements which are welfare and output enhancing, consumption-smoothing, and more or less distributionally neutral. This alone suggests that the welfare losses due to the pension crisis can potentially be counter-balanced by various fiscal reforms. Increasing the payroll tax is the most distortive among all the existing tax policy reforms. Increasing bequest and capital tax rates by reasonable magnitudes have the least impact on output, implying that the combination of higher capital and bequest taxes with a lower social security payroll tax can be used to generate extra revenues to cope with the pension crisis. The highest combined welfare gain, positive to all agents, can be achieved by increasing the consumption tax, but this tax also tends to encourage retirement.
    Date: 2010–12–05
  12. By: Benhima Kenza
    Abstract: Paradoxically, high-investment and high-growth developing countries tend to experience capital outflows. This paper shows that this allocation puzzle can be explained simply by introducing uninsurable idiosyncratic investment risk in the neoclassical growth model. Using a sample of 67 countries between 1980 and 2003, we show that the model predicts accurately the allocation of capital flows in this sample. This is because the model accounts for two main facts: (i) TFP growth is positively correlated with capital outflows in a sample including creditor countries; (ii) the long-run level of capital per efficient unit of labor is positively correlated with capital outflows.
    Keywords: capital flows; global imbalances; investment risk
    JEL: F36 F41 F43
    Date: 2010–05
  13. By: Jean-Marc Fournier; Isabell Koske
    Abstract: This paper uses a simple dynamic stochastic general equilibrium model to explore the qualitative impact of productivity shocks on current account positions via their impact on the saving behaviour of households. The analysis shows that the direction of the impact is ambiguous from a theoretical point of view. This impact depends in particular on consumer’s willingness to shift consumption over time relative to their willingness to shift consumption between different types of goods, on whether they believe the shock to be temporary or permanent, and on the sector in which the shock occurs.<P>Un modèle simple reliant la productivité, l'épargne et la balance courante<BR>Cet article explore l’effet qualitatif de chocs de productivité sur la balance courante, via leur impact sur le comportement d’épargne des ménages, avec un modèle d’équilibre général stochastique simple. Cette analyse montre que le sens de l’effet est théoriquement ambigu. Cet effet dépend de la propension des consommateurs à modifier le niveau de leur consommation au cours du temps comparée à leur propension à modifier leur panier de biens, de la croyance par les agents que le choc est permanent ou temporaire, ou encore du secteur dans lequel le choc se produit.
    Keywords: productivity, current account adjustment, saving, productivité, épargne, ajustement de la balance courante
    JEL: E21 F32 O40
    Date: 2010–11–23
  14. By: Bentolila, Samuel (CEMFI, Madrid); Cahuc, Pierre (Ecole Polytechnique, Paris); Dolado, Juan José (Universidad Carlos III de Madrid); Le Barbanchon, Thomas (Ecole Polytechnique, Paris)
    Abstract: This paper analyzes the strikingly different response of unemployment to the Great Recession in France and Spain. Their labor market institutions are similar and their unemployment rates just before the crisis were both around 8%. Yet, in France, unemployment rate has increased by 2 percentage points, whereas in Spain it has shot up to 19% by the end of 2009. We assess what part of this differential is due to the larger gap between the dismissal costs of permanent and temporary contracts and the less restrictive rules regarding the use of the latter contracts in Spain. Using a calibrated search and matching model, we estimate that about 45% of the surge in Spanish unemployment could have been avoided had Spain adopted French employment protection legislation before the crisis started.
    Keywords: temporary contracts, unemployment, Great Recession
    JEL: H29 J23 J38 J41 J64
    Date: 2010–11
  15. By: Luca PENSIEROSO (UNIVERSITE CATHOLIQUE DE LOUVAIN, Institut de Recherches Economiques et Sociales (IRES) and FNRS); Alessandro SOMMACAL (Department of Economics, University of Verona; Econpubblica, Bocconi University)
    Abstract: We provide a theory that is able to account for the observed comovement between the shift in intergenerational living arrangements from coresidence to non-coresidence and economic development. Our theory is consistent with the diminution in the status of the elderly documented by some sociologists. The results from our analysis show that, when technical progress is fast enough, the economy experiences a shift from stagnation to growth, there is a transition from coresidence to non-coresidence, and the social status of the elderly tends to deteriorate.
    Keywords: Unified Growth Theory, Intergenerational Living Arrangements, Bargaining Power, Family Economics
    JEL: O40 O11 O33 J10
    Date: 2010–11–05
  16. By: Paolo Pertile; Martin Forster; Davide La Torre
    Abstract: Referring to the literature on optimal stopping under sequential sampling developed by Chernoff and collaborators, we solve a dynamic model of the economic evaluation of a new health technology, deriving optimal rules for technology adoption, research abandonment and continuation as functions of sample size. The model extends the existing literature to the case where an adoption decision can be deferred and involves a degree of irreversibility. We explore the model's applicability in a case study of the economic evaluation of Drug Eluting Stents (DES), deriving dynamic adoption and abandonment thresholds which are a function of the model's economic parameters. A key result is that referring to a single cost-effectiveness threshold may be sub-optimal.
    Keywords: Cost-effectiveness analysis, Sequential sampling, Dynamic programming
    JEL: I10 D92 C61
    Date: 2010–12
  17. By: Pinoli, Sara (Uppsala Center for Labor Studies)
    Abstract: This paper argues that expectations are an important element that need to be in- cluded into the analysis of the e¤ects of the minimum wage on employment. We show in a standard matching model that the observed employment e¤ect is higher the lower is the likelihood associated with the minimum wage variation. On the other side, there is a signi…cant anticipation e¤ect, ignored in the literature. This property is able to explain the controversial results found in the empirical studies. When the policy is anticipated, the e¤ect at the time of the actual variation is small and potentially hard to identify. The model is tested on Spanish data, taking advantage of the unexpected change in the minimum wage following the election of Zapatero in 2004.
    Keywords: Minimum wage; Expectations; Heterogeneous matches
    JEL: D21 J23 J38
    Date: 2010–06–30
  18. By: Gino Gancia; Andreas Müller; Fabrizio Zilibotti
    Abstract: In this paper, we construct and estimate a unified model combining three of the main sources of cross-country income disparities: differences in factor endowments, barriers to technology adoption and the inappropriateness of frontier technologies to local conditions. The key components of our framework are different types of workers (skilled and unskilled labor), distortions to capital accumulation, directed technical change, costly adoption and spillovers from the world technology frontier. Despite its parsimonious parametrization, our empirical model provides a good fit of GDP data for up to 90 countries in 1970 and 2000. We use the model to assess the relative importance of alternative factors affecting the world income distribution and to perform counterfactual experiments. Our results suggests that removing barriers to technology adoption would increase output of the average OECD economy relative to the US frontier from 68.3% to 92.5%. The average non-OECD country would instead increase from 17.4% to 53.8%. Slashing barriers would also lead to higher skill premia in all countries. We also study how globalization can shape income disparities. In the absence of global IPR protection, we find that trade in goods amplifies income disparities, induces skill-biased technology adoption and increases skill premia in the majority of countries. These results are reverted if trade liberalization is coupled with international protection of IPR.
    Keywords: Directed Technology Adoption, Development Accounting, Distance to Frontier, Inappropriate Technologies, Skill-biased Technical Change, Productivity, TFP differences.
    JEL: F43 O11 O31 O33 O38 O41 O43 O47
    Date: 2010–07

This nep-dge issue is ©2010 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.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.