nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2011‒02‒05
thirty papers chosen by
Christian Zimmermann
University of Connecticut

  1. Instability and indeterminacy in a simple search and matching model By Krause, Michael; Lubik, Thomas
  2. Redistributive Taxation, Incentives, and the Intertemporal Evolution of Human Capital By Christian Ferreda; Matías Tapia
  3. Efficient Firm Dynamics in a Frictional Labor Market By Kaas, Leo; Kircher, Philipp
  4. Endogenous Separation, Wage Rigidity and the Dynamics of Unemployment By Daniel Tortorice
  5. Evaluating DSGE model forecasts of comovements By Edward Herbst; Frank Schorfheide
  6. MUSE: Monetary Union and Slovak Economy model By Matus Senaj; Milan Vyskrabka; Juraj Zeman
  7. Why don't people pay attention? Endogenous Sticky Information in a DSGE Model By Lena Dräger
  8. The Joint Labor Supply Decision of Married Couples and the Social Security Pension System By Shinichi Nishiyama
  9. Liquidity in frictional asset markets By Guillaume Rocheteau; Pierre-Olivier Weill
  10. Health and Wealth in a Life Cycle Model By John Karl Scholz; Ananth Seshadri
  11. The Interaction between Monetary and Fiscal Policies in Turkey: An Estimated New Keynesian DSGE Model By Cem Cebi
  13. Directed technological change with costly investment and complementarities, and the skill premium By Elena Sochirca; Óscar Afonso; Pedro Mazeda Gil
  14. Asymmetric shocks in a currency union with monetary and fiscal handcuffs? By Christopher J. Erceg; Jesper Lindé
  15. Solving the multi-country real business cycle model using ergodic set methods By Kenneth Judd; Lilia Maliar; Serguei Maliar
  17. Interest Rate Rules, Endogenous Cycles, and Chaotic Dynamics in Open Economies By Marco Airaudo; Luis-Felipe Zanna
  18. Is Private Leverage Excessive? By Nikolov, Kalin
  19. Natural Disasters in a Two-Sector Model of Endogenous Growth By Horii, Ryo; Ikefuji, Masako
  20. Global banking and international business cycles By Robert Kollmann; Zeno Enders; Gernot J. Mueller
  21. Can we prevent boom-bust cycles during euro area accession? By Michał Brzoza-Brzezina; Pascal Jacquinot; Marcin Kolasa
  22. Learning About Inflation Measures for Interest Rate Rules By Marco Airaudo; Luis-Felipe Zanna
  23. Marginal abatement cost curves and the budgetary impact of CO2 taxation in Portugal By Alfredo Marvão Pereira; Rui M. Pereira
  24. On the coexistence of money and higher-return assets and its social role By Guillaume Rocheteau
  25. Notes on Agents' Behavioral Rules Under Adaptive Learning and Studies of Monetary Policy By Seppo Honkapohja; Kaushik Mitra; George W. Evans
  26. The cost of inflation: a mechanism design approach By Guillaume Rocheteau
  27. Investment in Financial Literacy and Saving Decisions By Tullio Jappelli; Mario Padula
  28. The home bias in equities and distribution costs By Harms, Philipp; Hoffmann, Mathias; Ortseifer, Christina
  29. The Effects of Medicaid and Medicare Reforms on the Elderly’s Savings and Medical Expenditures By Mariacristina De Nardi; Eric French; John Bailey Jones
  30. On the environmental, economic and budgetary impacts of fossil fuel prices: A dynamic general equilibrium analysis of the Portuguese case By Alfredo Marvão Pereira; Rui M. Pereira

  1. By: Krause, Michael; Lubik, Thomas
    Abstract: We demonstrate the possibility of indeterminacy and non-existence of equilibrium dynamics in a standard business cycle model with search and matching frictions in the labor market. Our results arise for empirically plausible parametrizations and do not rely upon a mechanism such as increasing returns. --
    Keywords: search and matching,indeterminacy,match elasticity
    JEL: E24 E32 J64
    Date: 2010
  2. By: Christian Ferreda; Matías Tapia
    Abstract: This paper contributes to the literature on redistributive taxation and human capital dynamics by explicitly analyzing the role of incentives in the education market where human capital is produced. We introduce an explicit education market with heterogeneous private schools in a dynamic stochastic general equilibrium model with overlapping generations and human capital accumulation. We use the model to simulate the effects of taxation on growth, intergenerational mobility, inequality, and welfare. Equalization in education expenditures reduces incentives for differentiation in the education market, with the distribution of education investments shifting towards the least productive schools. This has significant consequences on equilibrium outcomes, and highlights the importance of incorporating the role of intermediation when analyzing redistribution policies.
    Keywords: Human capital, school market, redistributive taxation, inequality, efficiency.
    JEL: E24 H21 I21
    Date: 2010
  3. By: Kaas, Leo (University of Konstanz); Kircher, Philipp (London School of Economics)
    Abstract: The introduction of firm size into labor search models raises the question how wages are set when average and marginal product differ. We develop and analyze an alternative to the existing bargaining framework: Firms compete for labor by publicly posting long- term contracts. In such a competitive search setting, firms achieve faster growth not only by posting more vacancies, but also by offering higher lifetime wages that attract more workers which allows to fill vacancies with higher probability, consistent with empirical regularities. The model also captures several other observations about firm size, job flows, and pay. In contrast to bargaining models, efficiency obtains on all margins of job creation and destruction, both with idiosyncratic and aggregate shocks. The planner solution allows a tractable characterization which is useful for computational applications.
    Keywords: labor market search, multi-worker firms, job creation and job destruction
    JEL: E24 J64 L11
    Date: 2011–01
  4. By: Daniel Tortorice (Department of Economics, Brandeis University)
    Abstract: This paper shows that the Mortensen-Pissarides (MP) model requires endogenous separation to explain the volatility of unemployment. I estimate a version of the MP model with wage rigidity and permanent shocks to match productivity. The model generates sufficient volatility in unemployment, vacancies, job-finding and job-separation despite relatively low worker outside options. I then re-estimate the model while restricting the separation rate to be constant and show that, even though the estimation procedure finds the best fitting model, the model predicts too little variance in unemployment and too much variance in the job-finding rate. Based on this result I conclude that models of unemployment fluctuations need endogenous separation rates to explain unemployment fluctuations.
    Keywords: Unemployment, Search Models, Business Cycles
    JEL: J64 E24 E32
    Date: 2010–09
  5. By: Edward Herbst; Frank Schorfheide
    Abstract: This paper develops and applies tools to assess multivariate aspects of Bayesian Dynamic Stochastic General Equilibrium (DSGE) model forecasts and their ability to predict comovements among key macroeconomic variables. The authors construct posterior predictive checks to evaluate the calibration of conditional and unconditional density forecasts, in addition to checks for root-mean-squared errors and event probabilities associated with these forecasts. The checks are implemented on a three-equation DSGE model as well as the Smets and Wouters (2007) model using real-time data. They find that the additional features incorporated into the Smets-Wouters model do not lead to a uniform improvement in the quality of density forecasts and prediction of comovements of output, inflation, and interest rates.
    Keywords: Econometric models ; Forecasting
    Date: 2011
  6. By: Matus Senaj (National Bank of Slovakia, Research Departmen); Milan Vyskrabka (National Bank of Slovakia, Monetary Policy Department); Juraj Zeman (National Bank of Slovakia, Research Department)
    Abstract: In this paper, the Bayesian method together with the calibration approach is used to parameterise the DSGE model. We present a medium-scale two-country model. Parameters controlling the steady state of the model are calibrated in order to match the ratios of a few selected variables to their empirical counterparts. The remaining parameters are estimated via Bayesian method. Since Slovakia has been a euro area member country for only two years, the model allows switching from an autonomous monetary policy regime to a monetary union regime. This feature enables us to parameterise the model in the case of independent monetary policy and consequently to simulate the impacts of various structural shocks on the Slovak economy as a part of the monetary union. At the end of the paper, we present the impulse-response functions of the model to selected structural shocks.
    Keywords: two-country model, Bayesian methods
    JEL: C11 C51
    Date: 2010–12
  7. By: Lena Dräger (University of Hamburg and ETH Zurich)
    Abstract: Building on the models of sticky information, we endogenize the probability of obtaining new information by introducing a switching mechanism allowing agents to choose between costly rational expectations and costless expectations under sticky information. Thereby, the share of agents with rational expectations becomes endogenous and time-varying. While central results of sticky information models are retained, we find that the share of rational expectations is positively correlated with the variance of the variable forecasted, providing a link to models of near-rationality. Output expectations in our model are generally more rational than inflation expectations, but the share of rational inflation expectations increases with a rising variance of the interest rate. With regard to optimal monetary policy, we find that the Taylor principle provides a necessary and sufficient condition for determinacy of the model. However, output and inflation stability are optimized if the central bank does not react too strongly to inflation, but rather also targets the output gap with a relatively large coefficient in the Taylor rule.
    Keywords: Endogenous sticky information, heterogeneous expectations, DSGE models.
    JEL: E31 E52 E61
    Date: 2010–12
  8. By: Shinichi Nishiyama (Georgia State University)
    Abstract: The current U.S. Social Security program redistributes resources from high wage workers to low wage workers and from two-earner couples to one-earner couples. The present paper extends a standard general-equilibrium overlapping-generations model with uninsurable wage shocks to analyze the effect of spousal and survivors benefits on the labor supply of married couples. The heterogeneous-agent model calibrated to the 2009 U.S. economy predicts that removing spousal and survivors benefits would increase female market work hours by 4.3-4.9% and total output by 1.1-1.5% in the long run, depending on the government financing assumption. If the increased tax revenue due to higher economic activity after the policy change was redistributed in a lumpsum manner, a phased-in cohort-by-cohort removal of these benefits would make all current and future age cohorts on average better off.
    Date: 2010–09
  9. By: Guillaume Rocheteau; Pierre-Olivier Weill
    Abstract: On November 14-15, 2008, the Federal Reserve Bank of Cleveland hosted a conference on “Liquidity in Frictional Asset Markets.” In this paper we review the literature on asset markets with trading frictions in both finance and monetary theory using a simple search-theoretic model, and we discuss the papers presented at the conference in the context of this literature. We will show the diversity of topics covered in this literature, e.g., the dynamics of housing and credit markets, the functioning of payment systems, optimal monetary policy and the cost of inflation, the role of banks, the effect of informational frictions on asset trading.
    Keywords: Liquidity (Economics)
    Date: 2011
  10. By: John Karl Scholz (University of Wisconsin-Madison); Ananth Seshadri (University of Wisconsin-Madison)
    Abstract: This paper presents a preliminary model of health investments over the life cycle. Health affects both longevity and provides flow utility. We analyze the interplay between consumption choices and investments in health by solving each household’s dynamic optimization problem to obtain predictions on health investments and consumption choices over the lifecycle. Our preliminary model does a good job of matching the distribution of medical expenses across households in the sample. We illustrate the scope of future model applications by examining the effects of a stylized Medicare program on patterns of wealth and mortality.
    Date: 2010–09
  11. By: Cem Cebi
    Date: 2011
  12. By: Javier Díaz-Giménez (IESE Business School); Josep Pijoan-Mas (CEMFI, Centro de Estudios Monetarios y Financieros)
    Abstract: In this article we quantify the aggregate, distributional and welfare consequences of investment expensing and progressivity in flat-tax reforms of the United Sates economy. We find that investment expensing as in the Hall and Rabushka type of reform brings about sizable output gains and non-trivial increase in after-tax income inequality. But we also find that it results in large aggregate welfare gains in steady-state. Two additional flat-tax reforms with full investment expensing and varying degrees of progressivity reveal that the distributional role of the tax-exemption in the labor income tax is limited. But we also find that the progressivity of the reforms matters for welfare: economies with more progressive consumption-based flat-taxes are good for the very poor and are ultimately preferred by a Benthamite social planner because they allow households to do more consumption and leisure smoothing. Our findings suggest that moving towards a progressive consumption-based flat tax scheme could achieve the goals of raising government income, stimulating the economy and providing a safety net for the households that have been hit the hardest by the recession.
    Keywords: Flat-tax reforms, progressivity, efficiency, inequality.
    JEL: D31 E62 H23
    Date: 2011–01
  13. By: Elena Sochirca (Faculdade de Economia, Universidade do Porto); Óscar Afonso (CEF.UP, OBEGEF, Faculdade de Economia, Universidade do Porto); Pedro Mazeda Gil (CEFUP, Faculdade de Economia do Porto, Portugal)
    Abstract: We develop an extended directed technological change model with R&D driven growth to analyze the growth rate, technological-knowledge bias, skill premium and industrial structure, assuming: (i) complementarities between intermediate goods in production, and (ii) internal costly investment. We find that complementarities directly affect equilibrium technological-knowledge bias, both elements influence equilibrium growth rate and neither affects skill premium and industrial structure. We also find that equilibrium skill premium is independent of relative labour endowments, being determined solely by workers' productivities, suggesting that the persisting increase in wage inequality observed in several developed countries over the last decades may have been due to increases in productivity advantages of skilled workers favoured by technological development.
    Keywords: technological-knowledge bias, skill premium, complementarities, costly investment, vertical and horizontal R&D
    JEL: J31 O31 O33 O41
    Date: 2011–01
  14. By: Christopher J. Erceg; Jesper Lindé
    Abstract: This paper investigates the impact of the asymmetric shocks within a currency union in a framework that takes account of the zero bound constraint on policy rates, and also allows for constraints on fiscal policy. In this environment, we document that the usual optimal currency argument showing that the effects of shocks are mitigated to the extent that they are common across member states can be reversed. Countries can be worse off when their neighbors experience similar shocks, including policy-driven reductions in government spending.
    Date: 2010
  15. By: Kenneth Judd (Hoover Institution); Lilia Maliar (Universidad de Alicante); Serguei Maliar (Universidad de Alicante)
    Abstract: We use the stochastic simulation algorithm, described in Judd, Maliar and Maliar (2009), and the cluster-grid algorithm, developed in Judd, Maliar and Maliar (2010a), to solve a collection of multi-country real business cycle models. The following ingredients help us reduce the cost in high-dimensional problems: an endogenous grid enclosing the ergodic set, linear approximation methods, fixed-point iteration and efficient integration methods, such as non-product monomial rules and Monte Carlo integration combined with regression. We show that high accuracy in intratemporal choice is crucial for the overall accuracy of solutions and offer two approaches, precomputation and iteration-on-allocation, that can solve for intratemporal choice both accurately and quickly. We also implement a hybrid solution algorithm that combines the perturbation and accurate intratemporal-choice methods
    Keywords: heterogeneous agents, numerical methods, stochastic simulation, parameterized expectations algorithm, projection, perturbation.
    JEL: C63
    Date: 2011–01
  16. By: Manuel García-Santana (CEMFI, Centro de Estudios Monetarios y Financieros); Josep Pijoan-Mas (CEMFI, Centro de Estudios Monetarios y Financieros)
    Abstract: In this paper we quantify the effects of the Small Scale Reservation Laws in India on the aggregate productivity, aggregate output and welfare of the Indian economy. To this end, we extend the span-of-control model by Lucas (1978) into a multi-sector setting and embed it into the neo-classical growth model. Our main theoretical contribution is to model the occupational choice within this framework. We fully calibrate our model to data from India for the early 2000’s. We find that lifting the Small Scale Reservation Laws would increase output per worker by 3.2 percent, capital per worker by 7.1 percent and aggregate TFP by 0.8 percent. Within manufacturing, output per worker would increase by 9.8 percent, capital per worker by 12.5 percent and TFP by 3.6 percent. Average firm size in manufacturing would raise from 19 to 69 employees. These are large numbers given that the size of the restricted sector is only 12 percent of manufacturing value added and 3 percent of total GDP. However, this conspicuous type of size-dependent policy cannot account for the large gap in manufacturing TFP existing between the US and India.
    Keywords: Firm size, TFP differences, occupational choice, multisector growth models.
    JEL: O41 O47 E23 L11 L26 J24
    Date: 2010–12
  17. By: Marco Airaudo; Luis-Felipe Zanna
    Abstract: In this paper we present an extensive analysis of the consequences for global equilibrium determinacy in flexible-price open economies of implementing active interest rate rules, i.e., monetary rules where the nominal interest rate responds more than proportionally to changes in inflation. We show that conditions under which these rules generate aggregate instability by inducing liquidity traps, endogenous cycles, and chaotic dynamics depend on particular characteristics of open economies, including the degree of trade openness and the degree of exchange rate pass-through into import prices. For instance, in our model, we find that a rule that responds to expected future inflation is more prone to induce endogenous cyclical and chaotic dynamics the more open the economy and the higher the degree of exchange rate pass-through.
    Keywords: Small Open Economy; Interest Rate Rules; Taylor Rules; Multiple Equilibria; Chaos; Endogenous Fluctuations
    JEL: E32 E52 F41
    Date: 2010
  18. By: Nikolov, Kalin
    Abstract: I examine whether a benevolent government can improve on the free market allocation by setting capital requirements for private borrowers in a stochastic model with collateral constraints. Previous theoretical studies have found that when asset prices enter into bor- rowing constraints, pecuniary externalities between atomistic agents can make the laissez faire equilibrium constrained ine¢ cient. For reasonable parameter values, I find that, quan- titatively, the answer is 'no', private and government leverage choices coincide. Limiting private leverage by imposing capital requirements has the beneficial e¤ect of dampening the effects of the collateral amplification mechanism. This reduces fire sales in recessions and limits the negative externality that individual asset sales have on other credit constrained borrowers. However, we find that capital requirements are a blunt tool. They tax the activities of highly productive entrepreneurs and reduce the amount they produce in equilibrium. This reduces total factor productivity and steady state consumption. In the end, society faces a choice between high but unstable consumption in the free borrowing world and low but stable consumption in the regulated world. The government chooses the former.
    Keywords: Collateral constraints; Capital Requirements
    JEL: E21
    Date: 2010–06
  19. By: Horii, Ryo (Tohoku University and Yale University); Ikefuji, Masako (Osaka University)
    Abstract: Using an endogenous growth model with physical and human capital accumulation, this paper considers the sustainability of economic growth when the use of a polluting input (e.g., fossil fuels) the risk of capital destruction through natural disasters. We .nd that growth is sustainable only if the tax rate on the polluting input increases over time. The long-term rate of economic growth follows an inverted V-shaped curve relative to the growth rate of the environmental tax, and it is maximized by the least aggressive tax policy from among those that asymptotically eliminate the use of polluting inputs. Moreover, welfare is maximized under an even milder environmental tax policy, especially when the pollutants accumulate gradually.
    JEL: H23 O41 Q54
    Date: 2010–11
  20. By: Robert Kollmann; Zeno Enders; Gernot J. Mueller
    Abstract: This paper incorporates a global bank into a two-country business-cycle model. The bank collects deposits from households and makes loans to entrepreneurs, in both countries. It has to finance a fraction of loans using equity. We investigate how such a bank capital requirement affects the international transmission of productivity and loan default shocks. Three findings emerge. First, the bank's capital requirement has little effect on the international transmission of productivity shocks. Second, the contribution of loan default shocks to business cycle fluctuations is negligible under normal economic conditions. Third, an exceptionally large loan loss originating in one country induces a sizeable and simultaneous decline in economic activity in both countries. This is particularly noteworthy, as the 2007–09 global financial crisis was characterized by large credit losses in the US and a simultaneous sharp output reduction in the U.S. and the euro Area. Our results thus suggest that global banks may have played an important role in the international transmission of the crisis.
    Keywords: Equity ; Bank capital ; Productivity ; Default (Finance) ; Loans
    Date: 2011
  21. By: Michał Brzoza-Brzezina (National Bank of Poland, Economic Institute); Pascal Jacquinot (European Central Bank); Marcin Kolasa (National Bank of Poland, Economic Institute; Warsaw School of Economics)
    Abstract: Euro-area accession caused boom-bust cycles in several catching-up economies. Declining interest rates and easier financing conditions fuelled spending and worsened the current account balance. Over time inflation deteriorated external competitiveness and lowered domestic demand, turning the boom into a bust. We ask whether such a scenario can be avoided using macroeconomic tools that are available in the period of joining a monetary union: central parity revaluation, fiscal tightening or increased taxation. While all these policies can be used to cool down the output boom, exchange rate revaluation seems the most attractive option. It simultaneously trims the expansion of output and domestic demand, reduces the cost pressure and ranks first in terms of welfare.
    Keywords: boom-bust cycles, euro area accession, dynamic general equilibrium models
    JEL: E52 E58 E63
    Date: 2011
  22. By: Marco Airaudo; Luis-Felipe Zanna
    Abstract: Empirical evidence suggests that goods are highly heterogeneous with respect to the degree of price rigidity. We develop a DSGE model featuring heterogeneous nominal rigidities across two sectors to study the equilibrium determinacy and stability under adaptive learning for interest rate rules that respond to inflation measures differing in their degree of price stickiness. We find that rules responding to headline inflation measures that assign a positive weight to the inflation of the sector with low price stickiness are more prone to generate macroeconomic instability than rules that respond exclusively to the inflation of the sector with high price stickiness. By this we mean that they are more prone to induce non-learnable fundamental-driven equilibria, learnable self-fulfilling expectations equilibria, and equilibria where fluctuations are unbounded. We discuss how our results depend on the elasticity of substitution across goods, the degree of heterogeneity in price rigidity, as well as on the timing of the rule.
    Keywords: Learning; Expectational Stability; Interest Rate Rules; Multiple Equilibria; Determinacy; Multiple Sectors
    JEL: C62 D83 E32 E52
    Date: 2010
  23. By: Alfredo Marvão Pereira (Department of Economics, The College of William and Mary); Rui M. Pereira (Department of Economics, University of the Algarve, Faro, Portugal)
    Abstract: The objective of this paper is to study CO2 taxation in its dual role as a climate and a fiscal policy instrument. It develops marginal abatement cost curves for CO2 emissions associated with CO2 taxation using a dynamic general equilibrium model of the Portuguese economy which highlights the mechanisms of endogenous growth and includes a detailed modeling of the public sector. It also considers a pair of complementary cost curves corresponding to the impact of CO2 taxes on GDP and on the public budget. Simulation results show that a tax of 17.00 Euros per tCO2 has the technical capacity to limit emissions growth to 62.6 Mt CO2 in 2020, consistent with the existing climate policy target for Portugal. In turn, changes in tax revenues together with reductions in public spending, lead to a decline of 2.7% in the public debt. These desirable outcomes, however, come at the cost of a 0.7% reduction in GDP relative to steady state baseline levels. In general, we find that stricter emission targets imply greater equilibrium CO2 tax levels and larger GDP losses, although these are accompanied by greater reductions in public debt. Finally, the paper highlights the importance of public spending behavior when projecting the net impact of CO2 taxes on public revenue and the public account and in the designing of policies to promote fiscal consolidation.
    Keywords: Marginal Abatement Costs, Economic Effects, Budgetary Effects, Carbon Taxation, Dynamic General Equilibrium, Portugal.
    JEL: Q41 Q43 Q54 Q58 C68 D58 H20 H50 H60
    Date: 2011–01–23
  24. By: Guillaume Rocheteau
    Abstract: This paper adopts mechanism design to tackle the central issue in monetary theory, namely, the coexistence of money and higher-return assets. I describe an economy with pairwise meetings, where fiat money and risk-free capital compete as means of payment. Whenever fiat money has an essential role, any constrained-efficient allocation is such that capital commands a higher rate of return than fiat money.
    Keywords: Monetary theory
    Date: 2011
  25. By: Seppo Honkapohja; Kaushik Mitra; George W. Evans
    Abstract: These notes try to clarify some discussions on the formulation of individual intertemporal behavior under adaptive learning in representative agent models. First, we discuss two suggested approaches and related issues in the context of a simple consumption-saving model. Second, we show that the analysis of learning in the NewKeynesian monetary policy model based on "Euler equations" provides a consistent and valid approach.
    Keywords: Euler equation, NewKeynesian, Adaptive learning
    JEL: E4 E5 E6 E52 E58
    Date: 2011–01
  26. By: Guillaume Rocheteau
    Abstract: I apply mechanism design to quantify the cost of inflation that can be attributed to monetary frictions alone. In an environment with pairwise meetings, the money demand that is consistent with a constrained-efficient allocation takes the form of a continuous correspondence that can fit the data over the period 1900-2006. For such parameterizations, the cost of moderate inflation is zero. This result is robust to different assumptions regarding the observability of money holdings, the introduction of match-specific heterogeneity, and endogeneous participation decisions.
    Keywords: Inflation (Finance) - Mathematical models ; Demand for money ; Monetary theory
    Date: 2011
  27. By: Tullio Jappelli (University of Naples Federico II, CSEF and CEPR); Mario Padula (University “Ca’ Foscari” of Venice and CSEF)
    Abstract: We present an intertemporal consumption model of consumer investment in financial literacy. Consumers benefit from such investment because their stock of financial literacy allows them to increase the returns on their wealth. Since literacy depreciates over time and has a cost in terms of current consumption, the model determines an optimal investment in literacy. The model shows that financial literacy and wealth are determined jointly, and are positively correlated over the life cycle. Empirically, the model leads to an instrumental variables approach, in which the initial stock of financial literacy (as measured by math performance in school) is used as an instrument for the current stock of literacy. Using microeconomic and aggregate data, we find a strong effect of financial literacy on wealth accumulation and national saving, and also show that ordinary least squares estimates underestate the impact of financial literacy on saving.
    Keywords: Financial Literacy, Cognitive Abilities, Human Capital, Saving.
    JEL: E2 D8 G1 J24
    Date: 2011–01–28
  28. By: Harms, Philipp; Hoffmann, Mathias; Ortseifer, Christina
    Abstract: We show that including distribution costs into a general equilibrium model of international portfolio choice contributes to explaining the 'home bias' in international equity investment. Our model is able to replicate observed investment positions for a wide range of parameter values, even if agents have an incentive to hedge labor income risk by purchasing foreign equity. This is because the existence of a retail sector affects both the correlation of domestic returns with the domestic price level and the correlation between financial and nonfinancial income. --
    Keywords: International Financial Market Integration,International Risk Sharing,Home Bias
    JEL: F41 G11 G15
    Date: 2010
  29. By: Mariacristina De Nardi (Federal Reserve Bank of Chicago and NBER); Eric French (Federal Reserve Bank of Chicago); John Bailey Jones (University at Albany, SUNY)
    Abstract: We study a model in which retired single people optimally choose consumption, medical spending and saving while facing uncertainty about their health, lifespan and medical needs. This uncertainty is partially offset by insurance provided by the government and private institutions. We first show how well the model matches important features of the data and we analyze the degree of insurance provided by current programs. We then analyze the effects of some reforms, meant to capture changes in Medicaid and Medicare, on savings and medical expenditures.
    Date: 2010–10
  30. By: Alfredo Marvão Pereira (Department of Economics, The College of William and Mary); Rui M. Pereira (Department of Economics, University of the Algarve)
    Abstract: This paper examines the environmental, economic and budgetary impacts of fuel prices using a dynamic general equilibrium model of the Portuguese economy which highlights the mechanisms of endogenous growth and includes a detailed modeling of the public sector. The fuel price scenarios are based on forecasts by the DOE-US, the IEA-OECD and IHS Global Insight Inc., and represent a wide range of projections for absolute and relative fossil fuel prices. The dramatic differences in relative prices lead to substantially different environmental impacts. Our results suggest that higher fuel prices in the DOE-US scenario would lead to a reduction in emissions that account for 10.2% of the implicit emissions deficit for EU 2020 emissions targets, while relative price changes, led by lower prices for coal, result in a 19.2% increase for the IEA-OECD scenario. Under the IHS scenario, declining fuel prices would increase the emissions deficit by 95.9%. In terms of the long term economic impact, our results suggest a 2.2% drop in GDP in the DOE-US scenario and of 1.9% in the IEA-OECD scenario and an increase of 1.4% in the IHS scenario, which reflect the absolute change in energy costs. As to the budgetary impact, higher fuel prices lead to lower tax revenues, which, coupled with a reduction in public spending translates to lower public deficits. In addition, and from a methodological perspective, our results highlight the importance of endogenous growth mechanisms. A scenario of higher fuel prices would, under exogenous economic growth assumptions, result in larger baseline emissions growth scenarios, substantially smaller economic effects, and rather different budgetary effects. Finally, and from a policy perspective, our results highlight the impact of fossil fuel prices in defining the level of policy intervention required for compliance with international and domestic climate change legislation. As a corollary, we argue that it is critical for both international comparisons and international policy negotiations to define baseline emission targets in function of steady state economic projections under stable price assumptions.
    Keywords: Fuel Prices, Endogenous Growth, Budgetary Consolidation, Climate Policy, Dynamic
    JEL: Q40 Q43 Q54 C68 D58 H50 H68
    Date: 2011–01–23

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