nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2012‒06‒25
38 papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Welfare Implications and Equilibrium Indeterminacy in a Two-sector Growth Model with Consumption Externalities By Been-Lon Chen; Yu-Shan Hsu; Kazuo Mino
  2. Social Security Reform with Impure Intergenerational Altruism By Fang Yang
  3. Optimal Fiscal Devaluation By Langot, François; Patureau, Lise; Sopraseuth, Thepthida
  4. Optimal Capital Income Taxation with Means-tested Benefits By Cagri Seda Kumru; John Piggott
  5. Competitive Equilibrium in an Overlapping Generations Model with Production Loans By Dihai Wang; Gaowang Wang; Heng-fu Zou
  6. Pollution, Mortality and Optimal Environmental Policy By Aditya Goenka; Saqib Jafarey; William Pouliot
  7. Taxation and Redistribution of Residual Income Inequality By Mikhail Golosov; Pricila Maziero; Guido Menzio
  8. Collateral Requirements: Macroeconomic Fluctuations and Macro-Prudential Policy By Caterina Mendicino
  9. Directed Search and Job Rotation By Fei Li; Can Tian
  10. The Effects of Public Spending Externalities By Valerio Ercolani; João Valle e Azevedo
  11. Child Benefit and Fiscal Burden in the Endogenous Fertility Setting By Ryo Ishida; Kazumasa Oguro; Junichiro Takahata
  12. The dynamics of catch-up and skill and technology upgrading in China By Funke, Michael; Chen, Xi
  13. Labour Market Frictions, Monetary Policy and Durable Goods By Federico Di Pace; Matthias S. Hertweck
  14. Inflation Dynamics in the Presence of Informal Labour Markets By Paul Castillo; Carlos Montoro
  15. Social security and growth in an agin economy : the case of actuarial fairness By Gilles Le Garrec
  16. Lifetime Earning and Heterogeneity in Retirement Wealth: the Role of Bequests, Minimum Consumption, and Social Security By Fang Yang
  17. Progressive Tax Changes to Private Pensions in a Life-Cycle Framework By George Kudrna; Alan Woodland
  18. A Computable OLG Model for Gender and Growth Policy Analysis By Pierre-Richard Agénor
  19. Universal banking, competition and risk in a macro model By Damjanovic, Tatiana; Damjanovic, Vladislav; Nolan, Charles
  20. Frictions and the Joint Behavior of Hiring and Investment By Yashiv, Eran
  21. Reference Dependence and Labor-Market Fluctuations By Eliaz, Kfir; Spiegler, Rani
  22. Macroeconomic and Welfare Effects of the 2010 Changes to Mandatory Superannuation By George Kudrna; Alan Woodland
  23. Health and the Intergenerational Persistence of Inequality and Child Labour By Jayanta Sarkar; Dipanwita Sarkar
  24. The Formal Sector Wage Premium and Firm Size for Self-employed Workers By Bargain, Olivier; El Badaoui, Eliane; Kwenda, Prudence; Strobl, Eric; Walsh, Frank
  25. Safety Traps By Kenza Benhima; Baptiste Massenot
  26. Riskiness Choice and Endogenous Productivity Dispersion over the Business Cycle By Can Tian
  27. Conformism and Structural Change By Takeo Hori; Masako Ikefuji; Kazuo Mino
  28. Dynamic Education Signaling with Dropout By Francesc Dilme; Fei Li
  29. Coût de mobilité endogène et flexibilité du marché du travail By Bouzahzah, Mohamed; Saber, Brahim
  30. Fiscal Policy and Learning By Mitra, Kaushik; Evans, George W.; Honkapohja, Seppo
  31. A Numerical Evaluation on a Sustainable Size of Primary Deficit in Japan By Real Arai; Junji Ueda
  32. Life Cycle Effects of Health Risk By Elena Capatina
  33. Optimal taxation and the skill premium By Angelopoulos, Konstantinos; Malley, James; Philippopoulos, Apostolis
  34. The Role of Mining in an Australian Business Cycle Model By Veroude, Alexandra
  35. Expectation Formation and Monetary DSGE Models: Beyond the Rational Expectations Paradigm By Fabio Milani; Ashish Rajbhandari
  36. Modelling Forestry in Dynamic General Equilibrium By Lennox, J.A.; Turner, J.A.; Daigneault, A.; Jhunjhnuwala, K.
  37. Bank leverage cycles By Galo Nuño; Carlos Thomas
  38. Debt dilution and seniority in a model of defaultable sovereign debt By Satyajit Chatterjee; Burcu Eyigungor

  1. By: Been-Lon Chen (Academia Sinica); Yu-Shan Hsu (National Chung Cheng University); Kazuo Mino (Kyoto University)
    Abstract: One-sector neoclassical growth models reveal that consumption externalities lead to inefficient allocation in a steady state and indeterminate equilibrium toward the steady state only if there is a labor-leisure tradeoff. This paper shows that in a two-sector neoclassical growth model, even without a labor-leisure tradeoff, consumption spillovers easily lead to inefficient allocation in a steady state and indeterminate equilibrium toward the steady state. Consumption spillovers that yield over-accumulation of capital in an otherwise identical one-sector model may lead to under-accumulation of capital in two-sector models depending on relative capital intensities and relative degrees of externalities. Moreover, a two-sector model economy with consumption externalities is less stabilized than an otherwise identical one-sector model economy with consumption externalities.
    Keywords: two-sector model; consumption externalities; efficiency; indeterminacy
    JEL: E21 E32 O41
    Date: 2012–06
  2. By: Fang Yang
    Abstract: This paper studies the long-run aggregate and welfare effect of eliminating Social Security in a quantitative dynamic general equilibrium life-cycle model where parents and their chidren are linked by voluntary and accidental bequests. Social Security in this model with impure altruism has a smaller effect on capital accumulation than in a pure life-cycle model, a bigger effect than in a model with two-sided altruism. The welfare gain of eliminating Social Security system under impure altruism is smaller than that in a pure life-cycle model, and bigger than that in a model with two-sided altruism.
    Date: 2012
  3. By: Langot, François (University of Le Mans); Patureau, Lise (University of Lille 1); Sopraseuth, Thepthida (GAINS, Université du Maine)
    Abstract: We study fiscal devaluation in a small-open economy with labor market search frictions. Our analysis shows the key role of both dimensions in shaping the optimal tax scheme. By reducing labor market distortions, the tax reform is welfare-improving. Yet, as it makes imports more expensive, fiscal devaluation lowers the agents' purchasing power, which is welfare-reducing. These contrasting effects give rise to an optimal tax scheme. Besides, transition matters. If the economy is better off in the long run, the required transitional saving effort increases the cost of the reform, thereby calling for a moderate magnitude of fiscal devaluation.
    Keywords: fiscal devaluation, consumption tax, payroll tax, labor market search, small open economy, Dynamic General Equilibrium model
    JEL: E27 E62 H21 J38
    Date: 2012–06
  4. By: Cagri Seda Kumru (Research School of Economics, The Australian National University and ARC Centre of Excellence in Population Ageing Research, Australian School of Business, University of New South Wales); John Piggott (ARC Centre of Excellence in Population Ageing Research, Australian School of Business, University of New South Wales)
    Abstract: This paper studies the interaction between capital income taxation and a means tested age pension in the context of an overlapping generations model, calibrated to the UK economy. Recent literature has suggested a rehabilitation of capital income taxation (Conesa et al. (2009)), predicated on the idea that capital is a complement with retirement leisure. This leads naturally to the conjecture that a publicly funded age pension contingent upon holdings of capital or capital income may have a similar effect. We formalize this using a stochastic OLG model with multiple individuals differentiated by labour productivity and pension entitlement. Our preliminary findings suggest that a means tested pension has effects similar to capital income taxation in a life-cycle context.
    Keywords: Dynamic general equilibrium, taxation, welfare
    JEL: E21 E62 H55
    Date: 2012–05
  5. By: Dihai Wang (Fudan University); Gaowang Wang (Central University of Finance and Economics); Heng-fu Zou (Central University of Finance and Economics)
    Abstract: The paper shows that there do exist two kinds of steady state equilibria in the overlapping generations models with consumption and production loans, similar to the pure exchagne economies examined by Gale (1973). Furthermore, the local stability properties of these two (kinds of) steady states are also investigated.
    Keywords: Multiple steady state paths, Overlapping generations, Production loans
    JEL: E21 O41
    Date: 2012
  6. By: Aditya Goenka; Saqib Jafarey; William Pouliot
    Abstract: We study an overlapping generations economy in which environmental degradation results from economic activity and affects agents' uncertain lifetimes. Life expectancy depends positively on economic activity and negatively on the stock of pollution. This can make the growth-survival relationship convex over some region and lead to two non-trivial steady states, with one is a poverty trap. Uniform abatement taxes can cause the poverty trap to widen while increasing incomes at the high steady state. We also show that the optimal second-best abatement tax is non-homogeneous and increasing in the capital stock, and exhibits a variety of dynamic possibilities: non-existence of a steady state equilibrium, multiplicity of steady state equilibria and optimal policy cycles around some steady states.
    Keywords: Overlapping generations model, poverty traps; non-convexities; multiple steady states; pollution; optimal environmental policy; optimal abatement tax
    JEL: O11 O13 O23 O44
    Date: 2012–05
  7. By: Mikhail Golosov (Department of Economics, Princeton University and NBER); Pricila Maziero (Department of Finance, Wharton School, University of Pennsylvania); Guido Menzio (Department of Economics, University of Pennsylvania)
    Abstract: This paper studies the optimal redistribution of income inequality caused by the presence of search and matching frictions in the labor market. We study this problem in the context of a directed search model of the labor market populated by homogenous workers and heterogeneous firms. The optimal redistribution can be attained using a positive unemployment benefit and an increasing and regressive labor income tax. The positive unemployment benefit serves the purpose of lowering the search risk faced by workers. The increasing and regressive labor tax serves the purpose of aligning the cost to the firm of attracting an additional applicant with the value of an application to society.
    Keywords: Unemployment benefit, Income tax, Search frictions, Mechanism design
    JEL: H21 J64 J65
    Date: 2012–06–06
  8. By: Caterina Mendicino
    Abstract: What are the macroeconomic implications of higher leveraged borrowing? To address this question, we develop a business cycle model with credit frictions in which firms reallocate capital among themselves through the credit market. We find that looser collateral requirements moderate the sensitivity of investment and output to changes in productivity but sharpen the response to shocks originated in the credit market. This result poses a challenge to the design of a macro-prudential policy framework that aims to mitigate pro-cyclicality in the financial market and improve macroeconomic stability. We document that, contrary to discretionary lower caps on loan-to-value ratios, time-varying caps that counter-cyclically respond to indicators of financial imbalances are successful in smoothing credit-cycles without increasing the sensitivity of the economy to real shocks. Further, countercyclical loan-to-value ratios also dampen macroeconomic volatility without reducing the size of the economy.  
    JEL: E21 E22 E44 G20
    Date: 2012
  9. By: Fei Li (Department of Economics, University of Pennsylvania); Can Tian (Department of Economics, University of Pennsylvania)
    Abstract: We consider the impact of job rotation in a directed search model in which firm sizes are endogenously determined and match quality is initially unknown. A large firm benefits from the opportunity of rotating workers so as to partially overcome loss of mismatch. As a result, in the unique symmetric equilibrium, large firms have higher labor productivity and lower separation rates. In contrast to the standard directed search model with multi-vacancy firms, this model can generate a positive correlation between firm size and wage without introducing any ex ante productivity differences or imposing any non-concave production function assumption.
    Keywords: Directed Search, Job Rotation, Firm Size and Wage, Firm Size and Labor Productivity
    JEL: L11 J31 J64
    Date: 2012–06–03
  10. By: Valerio Ercolani; João Valle e Azevedo
    Abstract: We take to the data an RBC model with two salient features. First, we allow government consumption to directly affect the marginal utility of consumption. Second, we allow public capital to affect the productivity of private factors. On the one hand, private and government consumption are estimated to be substitute goods. As a consequence, the estimated response of private consumption to a government consumption shock is negative, as in models with separable government consumption, but such response is much stronger. Further, substitutability makes labor supply to react less, so the estimated output multiplier is lower than in models with separabilities, peaking - on impact - at 0.39. On the other hand, non-defense public investment enhances mildly or negligibly, depending on the specification, the productivity of private factors. In those specifications where non-defense public investment is found to be productive, a non-defense investment shock generates the following estimated responses (after several quarters): a positive reaction for private consumption, Tobin’s q, private investment and real wages. Unlike models with unproductive government investment, the estimated output multiplier builds up over time, starting well below one on impact, then reaching 0.93 after three years and 1.44 after six.
    JEL: E32 E62
    Date: 2012
  11. By: Ryo Ishida (Policy Research Institute, the Ministry of Finance, Japan); Kazumasa Oguro (Institute of Economic Research, Hitotsubashi University); Junichiro Takahata (JICA Research Institute)
    Abstract: This paper analyzes the possibility of improving the efficiency of child benefit programs in an overlapping generations economy that has endogenous fertility and large government debt levels. We derive the conditions for this improvement using Representative-Consumer and Children-for-Representative-Consumers efficiency criteria in the endogenous fertility setting, as proposed by Michel and Wigniolle (2007). We find that the result crucially depends on the relative amount of accumulated government debt in the economy. When the elasticity of interest rates to child benefit is close to zero and there exists a huge amount of accumulated debt in the economy, financing child benefit programs by issuing debt and using lump-sum tax leads to RC-improvements. This finding is likely to hold in the economies of developed countries that have low fertility rates. We finally provide the implications of these findings on the real economy.
    Keywords: Endogenous fertility, Pareto-efficiency, child benefit, fiscal burden
    JEL: D9 J13 D61
    Date: 2012–01
  12. By: Funke, Michael (BOFIT); Chen, Xi (BOFIT)
    Abstract: This paper accounts for China’s economic growth since 1980 in a unified endogenous growth model in which a sequencing of physical capital accumulation, human capital accumulation and innovation drives the rise in China’s aggregate income. The first stage is characterized by physical capital accumulation. The second stage includes both physical and human capital accumulation, and in the final stage innovation is added to the mix. Model calibrations indicate that the growth model can generate a trajectory that accords well with the different stages of development in China.
    Keywords: China; economic growth; transitional dynamics
    JEL: D90 O31 O33 O41
    Date: 2012–06–18
  13. By: Federico Di Pace (Department of Economics, University of Warwick, United Kingdom); Matthias S. Hertweck (Department of Economics, University of Konstanz, Germany)
    Abstract: The standard two-sector monetary business cycle model suffers from an important deficiency. Since durable good prices are more flexible than non-durable good prices, optimising households build up the stock of durable goods at low cost after a monetary contraction. Consequently, sectoral outputs move in opposite directions. This paper finds that labour market frictions help to understand the so-called sectoral “comovement puzzle”. Our benchmark model with staggered Right-to-Manage wage bargaining closely matches the empirical elasticities of output, employment and hours per worker across sectors. The model with Nash bargaining, in contrast, predicts that firms adjust employment exclusively along the extensive margin.
    Keywords: durable production, labour markeet frictions, sectoral comovement, monetary policy
    JEL: E21 E23 E31 E52
    Date: 2012–06–06
  14. By: Paul Castillo; Carlos Montoro
    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 inflation. This finding is consistent with the empirical literature on the effects of informal labour markets in business cycle fluctuations. This result implies that, in economies with large informal labour markets, changes in interest rates are more effective in stimulating real output and there is less impact on inflation. 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
    Date: 2012–02
  15. By: Gilles Le Garrec (Observatoire Francais des Conjonctures Economiques)
    Abstract: In many European countries, due to population aging, the switch from conventional unfunded public pension systems to notional systems character- ized by individual accounts is in debate. In this article, we develop an OLG model in which endogenous growth is based on an accumulation of knowledge driven by the proportion of skilled workers and the time they have spent to be trained. In such a framework, we show that conventional pension systems, contrary to notional systems, can enhance economic growth by linking bene- ?ts only to partial earnings history. Thus, considering economic growth, the optimal adjustment to aging could consist in increasing the size of existing retirement systems rather than switching to notional systems.
    Keywords: social security,intertemporal choice, human capital
    JEL: H55 D91 E24
    Date: 2012–05
  16. By: Fang Yang
    Abstract: The data show large dispersion in household's wealth holding at retirement. In addition, the empirical correlation between household lifetime earnings and retirement wealth is much lower in the data than in many quantitative models. This paper quantifies and analyzes the implications of a life cycle model with intergenerational links (in the form of voluntary bequest motives and intergenerational transmission of ability) that also explicitly allows for defined benefit pensions, history-dependent social security, and a government-provided minimum consumption floor. The key finding is that this model goes a long way toward matching the observed wealth differences at retirement and their correlation with lifetime incomes.
    Date: 2012
  17. By: George Kudrna (ARC Centre of Excellence in Population Ageing Research, Australian School of Business, University of New South Wales); Alan Woodland (School of Economics and ARC Centre of Excellence in Population Ageing Research, Australian School of Business, University of New South Wales)
    Abstract: Tax concessions are a common feature of private pension pillars around the world. Most countries exempt pension fund earnings from any taxation but tax either benefits (EET regime) or contributions (TEE regime) progressively as regular private income. By contrast, Australia's superannuation taxation features concessional flat tax rates on contributions and fund earnings, with benefits being generally tax free. Concerned with the vertical equity of the current superannuation tax concessions, this paper provides a quantitative analysis of hypothetical replacements of the existing superannuation tax treatment with the EET and TEE regimes commonly found in other countries. Using a general equilibrium OLG model calibrated for Australia, we find that these hypothetical tax reforms to superannuation improve the vertical equity in the short, medium and long run, as indicated by larger relative welfare gains and income improvements experienced by lower income households.
    Keywords: Compulsory saving, pension and tax reforms, dynamic OLG model
    JEL: H55 E21 C68
    Date: 2012–01
  18. By: Pierre-Richard Agénor
    Abstract: This paper develops a computable Overlapping Generations (OLG) model for gender and growth policy analysis. The model accounts for human and physical capital accumulation (both public and private), intra- and inter-generational health persistence, fertility choices, and women's time allocation between market work, child rearing, and home production. Bargaining between spouses and gender bias, in the form of discrimination in the work place and mothers' time allocation between daughters and sons, are also accounted for. The model is calibrated for a low-income country and various experiments are conducted, including improved access to infrastructure, an increase in subsidies to child care, and a reduction in gender bias. By focusing on steady-state effects, based on an explicit analytical characterization of the long-run equilibrium, the model provides a practical tool that may help to integrate more systematically interactions between structural policies, gender, and growth.
    Date: 2012
  19. By: Damjanovic, Tatiana; Damjanovic, Vladislav; Nolan, Charles
    Abstract: A stylized macroeconomic model is developed with an indebted, heterogeneous Investment Banking Sector funded by borrowing from a retail banking sector. The government guarantees retail deposits. Investment banks choose how risky their activities should be. We compared the benefits of separated vs. universal banking modelled as a vertical integration of the retail and investment banks. The incidence of banking default is considered under different constellations of shocks and degrees of competitiveness. The benefits of universal banking rise in the volatility of idiosyncratic shocks to trading strategies and are positive even for very bad common shocks, even though government bailouts, which are costly, are larger compared to the case of separated banking entities. The welfare assessment of the structure of banks may depend crucially on the kinds of shock hitting the economy as well as on the efficiency of government intervention.
    Keywords: Risk in DSGE models, investment banking, financial intermediation, separating commercial and investment banking, competition and risk, moral hazard in banking, prudential regulation, systematic vs. idiosyncratic risks.,
    Date: 2012
  20. By: Yashiv, Eran (Tel Aviv University)
    Abstract: The decisions of firms on investment and hiring play a crucial role in business cycle fluctuations. This paper explores their dynamic behavior in the presence of frictions. It does so within a unified framework, stressing their mutual dependence and placing the emphasis on their joint, forward-looking behavior. Using estimation of aggregate, private sector U.S. data, it shows that the model with frictions is able to fit the data. A key element is the interaction of hiring and investment costs. It is significant and negatively signed, implying complementarity between investment and hiring. There is a substantial role for aggregate labor market conditions in hiring costs, whereby the latter are lower in "good times." The fit of the investment part of the model is poor if hiring is left out completely or is introduced without the interaction between the two. The results capture the not so-well known fact whereby there is negative co-movement of gross investment and gross hiring, the former being pro-cyclical while the latter is counter-cyclical. This is so as they follow the cyclical behavior of their respective present values. The relevant intertemporal considerations are highlighted. An asset-pricing type empirical analysis of the estimation results indicates that the hiring rate depends mostly on future labor profitability while the investment rate depends mostly on future returns.
    Keywords: gross investment, gross hiring, frictions, business cycles, present values of hiring and investment, forward-looking behavior, production-based asset pricing, complementarities, labor market conditions
    JEL: E24 J23 J63 J64
    Date: 2012–06
  21. By: Eliaz, Kfir; Spiegler, Rani
    Abstract: We incorporate reference-dependent preferences into a search-and-matching model of the labor market, in which firms have all the bargaining power and productivity follows an AR(1) process. Motivated by Akerlof (1982) and Bewley (1999), we assume that existing workers are willing to exert unobserved,
    Keywords: Negative-Reciprocity; Reference-Dependence; Search and Matching; Shimer Puzzle; Social Preferences; Wage Rigidity
    JEL: C72 D03 E24 E32 J64
    Date: 2012–05
  22. By: George Kudrna (ARC Centre of Excellence in Population Ageing Research, Australian School of Business, University of New South Wales); Alan Woodland (School of Economics and ARC Centre of Excellence in Population Ageing Research, Australian School of Business, University of New South Wales)
    Abstract: In this paper we investigate the macroeconomic and welfare effects of the major changes of the mandatory superannuation reform proposed in the 2010-11 Australian federal budget. These changes include gradual increases in the mandatory employer contributions from 9 to 12 percent of gross earnings and a policy that effectively removes the concessional 15 percent tax on mandatory contributions for workers with annual taxable income of up to $37,000. Using a computable overlapping generations model that incorporates main aspects of mandatory superannuation, the means tested age pension and progressive personal income taxation, we find significantly larger superannuation asset accumulations as a result of the reform, which generate increases in domestic total assets and household saving. The reform improves self-funding in retirement, with government expenditures on the age pension falling by almost 4.6 percent in the long run. The reform also has positive impacts on households' long run welfare, with higher income households solely benefiting from the increased superannuation contributions while lower income households from the contribution tax removal. The aggregate efficiency calculations indicate that the superannuation reform improves efficiency, generating a gain of almost 0.8 percent or $11,753 in initial resources for each future generation.
    Keywords: Compulsory saving; pension reform; dynamic OLG model
    JEL: H55 E21 C68
    Date: 2012–01
  23. By: Jayanta Sarkar (QUT); Dipanwita Sarkar (QUT)
    Abstract: The paper develops a theory of intergenerational persistence of child labour. Using an overlapping generations model with heterogeneous agents, we highlight the interaction between human capital inequality, health and child labour. The intergenerational evolution of human capital distribution is shown to generate multiple equilibria, leading to child-labour traps and polarisation of human capital. The results suggest that public provision of education can lead to perfect equality in the long run, but a ceteris paribus ban on child labour is likely to exacerbate both health and schooling outcomes for the poor.
    Keywords: Child labour, Health, Human capital, Inequality, Multiple equilibria, Polarisation
    JEL: I1 J2 O1
    Date: 2012–06–07
  24. By: Bargain, Olivier (University of Aix-Marseille II); El Badaoui, Eliane (University Paris Ouest-Nanterre); Kwenda, Prudence (University College Dublin); Strobl, Eric (Ecole Polytechnique, Paris); Walsh, Frank (University College Dublin)
    Abstract: We develop a model where formal sector firms pay tax and informal ones do not, but informal firms risk incurring the penalty associated with non-compliance. Workers may enter self-employment or search for jobs as employees. Workers with higher managerial skills will run larger firms while workers with lower will manage smaller firms and will be in self-employment only when they cannot find a salary job. For these workers self-employment is a secondary/informal form of employment. The Burdett and Mortensen (1998) equilibrium search model turns out to be a special case that we amend by incorporating taxes and a penalty for non-payment of taxes. Our model is also consistent with some of the empirical literature in that the informal wage penalty does appear to be limited to low wage/skill workers while firm size is an important determinant of the employee formal sector premium. We test theoretical predictions using empirical evidence from Mexico and find that firm size wage effects for employees and self-employed workers are broadly consistent with the model.
    Keywords: informality, self-employment, Burdett and Mortensen model
    JEL: J31 O17
    Date: 2012–05
  25. By: Kenza Benhima; Baptiste Massenot
    Abstract: Fear of risk provides a rationale for protracted economic downturns. We develop a real business cycle model where investors with decreasing relative risk aversion choose between a risky and a safe technology that exhibit decreasing returns. Because of a feedback effect from the interest rate to risk aversion, two equilibria can emerge: a standard equilibrium and a "safe" one in which investors invest in safer assets. We refer to the dynamics of this second equilibrium as a safety trap because it is self-reinforcing as investors accumulate more wealth and show it to be consistent with Japan's lost decade.
    Keywords: decreasing relative risk aversion; reference consumption; business cycles; Japan's lost decade
    JEL: E22 E32
    Date: 2012–05
  26. By: Can Tian (Department of Economics, University of Pennsylvania)
    Abstract: Cross-sectional productivity dispersion is countercyclical, at the plant level and at the firm level. I incorporate a firm’s project choice decision into a firm dynamics model with business cycle features to explain this empirical .finding both qualitatively and quantitatively. In particular, all projects available have the same expected flow return and differ from one another only in the riskiness level. The endogenous option of exiting the market and limited funding for new investment jointly play an important role in motivating firms’ risk-taking behavior. The model predicts that relatively small firms are more likely to take risk and that the cross-sectional productivity dispersion, measured as the variance/standard deviation of firm-level profitability, is larger in recessions.
    Keywords: Countercyclical Productivity Dispersion, Business Cycles, Firm Dynamics
    JEL: E32 L11 L25
    Date: 2012–06–09
  27. By: Takeo Hori (Aoyamagakuin University); Masako Ikefuji (University of Southern Denmark); Kazuo Mino (Kyoto University)
    Abstract: We study structural change in a simple, two-sector endogenous growth model and show that the presence of commodity-specific consumption externalities can be a source of structural change. When the degrees of consumption externalities are different between different goods, the two sectors grow at different rates, whereas the aggregate economy exhibits balanced growth in the sense that capital stock and expenditure grow at the same constant rate. Under the more restrictive condition such that the degrees of consumption externalities are the same, structural change does not occur. We also show that the dependence of the benchmark consumption levels on the past consumption is crucial for the divergent patterns of structural change across countries.
    Keywords: Structural change, Consumption externalities, Two-sector growth model, Kaldor facts
    JEL: E21 E30 O10 O41
    Date: 2012–06
  28. By: Francesc Dilme (Department of Economics, University of Pennsylvania); Fei Li (Department of Economics, University of Pennsylvania)
    Abstract: We present a dynamic signaling model where wasteful education takes place over several periods of time. Workers pay an education cost per unit of time and cannot commit to a fixed education length. Workers face an exogenous dropout risk before graduation. Since low-productivity workers' cost is high, pooling with early dropouts helps them to avoid a high education cost. In equilibrium, low-productivity workers choose to endogenously drop out over time, so the productivity of workers in college increases along the education process. We find that (1) wasteful education signals exist even when job offers are privately made and the length of the period is small, (2) the maximum education length is decreasing in the prior about a worker being highly productive, and (3) the joint dynamics of returns to education and the dropout rate are characterized, which is consistent with previous empirical evidence.
    Keywords: Dynamic Education Signaling, Dropout
    JEL: D83 J31
    Date: 2012–06–03
  29. By: Bouzahzah, Mohamed; Saber, Brahim
    Abstract: The article examines the impact of labor mobility cost subsidy on levels of emigrations between two identical countries. The analysis is led in an OLG model with two countries. The analysis is conducted as part of an overlapping generations model with two countries. Individuals bear the cost of endogenous mobility. It depends on the number of fellow citizens of the candidate to emigration they are already present in the host country. Each individual is different by a degree of attachment to his country, the less attached are the most prescribed. We show that a grant of part of the cost of mobility in the early starters can initiate the process of emigration and reduce these costs. Other people decide to emigrate even though they are not subsidized and have a degree of attachment to their country more important than the first emigrants. The study of welfare shows that this is positive in the send country when the cost of migration is weak and it is similarly in the host country when the rate of migration is weak.
    Keywords: Labor mobility; endogenous mobility cost; overlapping generations
    JEL: F22 H22 D60
    Date: 2012–06–07
  30. By: Mitra, Kaushik; Evans, George W.; Honkapohja, Seppo
    Abstract: Using the standard real business cycle model with lump-sum taxes, we analyze the impact of fiscal policy when agents form expectations using adaptive learning rather than rational expectations (RE). The output multipliers for government purchases are significantly higher under learning, and fall within empirical bounds reported in the literature (in sharp contrast to the implausibly low values under RE). Effectiveness of fiscal policy is demonstrated during times of economic stress like the recent Great Recession. Finally it is shown how learning can lead to dynamics empirically documented during episodes of 'fiscal consolidations.'
    Keywords: Government Purchases, Expectations, Output Multiplier, Fiscal Consolidation, Taxation.,
    Date: 2012
  31. By: Real Arai (Graduate School of Social Sciences, Hiroshima University); Junji Ueda (Policy Research Institute, Ministry of Finance Japan)
    Abstract: We investigate how large a size of primary deficit to GDP ratio the Japan’s government can sustain. For this investigation, we construct an overlapping generations model, in which multi-generational households live and the government maintains a constant ratio of primary deficit to GDP. We numerically show that the primary deficit cannot be sustained unless the rate of economic growth is unrealistically high, which is more than five percent according to our settings. Our result implies that Japan’s government needs to achieve a positive primary balance in the long-run in order to avoid the divergence of the public debt to GDP ratio.
    Keywords: fiscal sustainability, public debt, primary deficit, economic growth
    JEL: E62 H62 H63 H68
    Date: 2012–06
  32. By: Elena Capatina (ARC Centre of Excellence in Population Ageing Research, Australian School of Business, University of New South Wales)
    Abstract: This paper studies four channels through which health affects individuals: (1) productivity, (2) medical expenditures, (3) available time and (4) survival probabilities, and assesses their roles in determining labor supply, asset accumulation and welfare. Using a life-cycle model calibrated to the U.S. for different education groups, I evaluate the relative importance of each channel and quantify the interactions between them. First, all four channels are important for the macroeconomic variables studied, but the productivity and time endowment channels are the most dominant. I also show that due to significant interactions between channels, they need to be studied within a unified framework over the entire life-cycle. Second, health has larger effects for the non-college than college educated, explaining 35% and 31% of the differences in labor supply and degree of reliance on government transfers across groups, respectively. Health risk accounts for 9% of disposable income inequality for the non-college educated, leading to larger fractions of precautionary savings for this group despite the presence of a consumption floor.
    Keywords: Health, Life Cycle Models, Precautionary Saving, Welfare
    JEL: D91 E21 I14 I31
    Date: 2012–05
  33. By: Angelopoulos, Konstantinos; Malley, James; Philippopoulos, Apostolis
    Abstract: The stylized facts suggest a negative relationship between tax progressivity and the skill premium from the early 1960s until the early 1990s, and a positive one thereafter. They also generally imply rising tax progressivity, except for the 1980s. In this paper, we ask whether optimal tax policy is consistent with these observations, taking into account the demographic and technological factors that have also affected the skill premium. To this end, we construct a dynamic general equilibrium model in which the skill premium and the progressivity of the tax system are endogenously determined, with the latter being optimally chosen by a benevolent government. We find that optimal policy delivers both a progressive tax system and model predictions which are generally consistent, except for the 1980s, with the stylized facts relating to the skill premium and progressivity. To capture the patterns in the data over the 1980s requires that we adopt a government policy which is biased towards the interests of skilled agents. Thus, in addition to demographic and technological factors, changes in the preferences of policy-makers appear to be a potentially important factor in determining the evolution of the observed skill premium.
    Keywords: skill premium, optimal tax policy, government preferences,
    Date: 2012
  34. By: Veroude, Alexandra
    Abstract: The purpose of this paper is to evaluate a business cycle model that includes a mining sector, with the cyclical variations of the Australian Economy. Large quantities of mineral deposits are found in Australia and there exists high demand for these minerals from developing nations. This results in the mining sector contributing to a high proportion of GDP. Sur- prisingly, the inclusion of a mining sector has not previously been studied in a business cycle model. Australia is a small open economy however, due to a lack of prior literature then, as a rst attempt, we assume an economy without a foreign sector. The model built upon a neoclassical growth model, and results were simulated from solving this model via the Blanchard-Kahn method. The statistics generated show that some vari- ables are capable to closely model some of the elements of the Australian economy. However, other variables display standard deviations and con- temporaneous correlations, which are substantially dierent to the actual data. This is implying that the inclusion of the basic mining mechanism alone does not provide the perfect representation of the Australian econ- omy. As the importance of mining is growing in Australia, research should be undertaken to evaluate the impact of the mining sector in economic models.
    Keywords: Resource /Energy Economics and Policy,
    Date: 2012–02–05
  35. By: Fabio Milani (Department of Economics, University of California-Irvine); Ashish Rajbhandari (Department of Economics, University of California-Irvine)
    Abstract: Empirical work in macroeconomics almost universally relies on the hypothesis of rational expectations. This paper departs from the literature by considering a variety of alternative expectations formation models. We study the econometric properties of a popular New Keynesian monetary DSGE model under different expectational assumptions: the benchmark case of rational expectations, rational expectations extended to allow for `news' about future shocks, near-rational expectations and learning, and observed subjective expectations from surveys. The results show that the econometric evaluation of the model is extremely sensitive to how expectations are modeled. The posterior distributions for the structural parameters significantly shift when the assumption of rational expectations is modified. Estimates of the structural disturbances under different expectation processes are often dissimilar. The modeling of expectations has important effects on the ability of the model to fit macroeconomic time series. The model achieves its worse fit under rational expectations. The introduction of news improves fit. The best-fitting specifications, however, are those that assume learning. Expectations also have large effects on forecasting. Survey expectations, news, and learning all work to improve the model's one-step-ahead forecasting accuracy. Rational expectations, however, dominate over longer horizons, such as one-year ahead or beyond.
    Keywords: Expectation formation; Rational expectations; News shocks; Adaptive learning; Survey expectations; Econometric evaluation of DSGE models; Forecasting
    JEL: C52 D84 E32 E37 E50
    Date: 2012–06
  36. By: Lennox, J.A.; Turner, J.A.; Daigneault, A.; Jhunjhnuwala, K.
    Abstract: Adequately representing dynamic characteristics of land use change and forestry in computable general equilibrium models is challenging but essential if modellers are to provide credible assessments of policies that directly or indirectly influence these phenomena. In this paper, we show how a dynamic representation of planted or naturally regenerating forests may be integrated within a neoclassical, intertemporal general equilibrium model. We demonstrate the application of such a model to assess the impacts of including forestry within a hypothetical emissions trading scheme in the US, showing the resulting changes in land use and increases in the optimal rotation length.
    Keywords: Intertemporal general equilibrium, optimal forest management, forest carbon credits, Resource /Energy Economics and Policy,
    Date: 2012–08–12
  37. By: Galo Nuño (Banco de España); Carlos Thomas (Banco de España)
    Abstract: We study the cyclical fl uctuations of leverage and assets of fi nancial intermediaries and GDP in the United States. Leverage and assets are several times more volatile than GDP, and experience larger fl uctuations for unregulated (‘shadow’) intermediaries than for regulated ones. While the leverage of regulated intermediaries is rather acyclical with respect to their assets and to GDP, the leverage of unregulated intermediaries is strongly procyclical in relation to their assets, and mildly procyclical in relation to GDP. We then build a general equilibrium model with both regulated and unregulated fi nancial intermediaries. The latter borrow from investors in the form of short-term collateralized risky debt, and are subject to endogenous leverage constraints. We fi nd that volatility shocks are key to generating fl uctuations and comovements similar to those found in the data. Also, in a scenario with lower cross-sectional volatility, output is higher on average but more volatile, due to higher leverage of unregulated banks.
    Keywords: fi nancial intermediaries, short-term collateralized debt, limited liability, call option, put option, moral hazard, leverage
    JEL: E20 G10 G21
    Date: 2012–06
  38. By: Satyajit Chatterjee; Burcu Eyigungor
    Abstract: An important source of inefficiency in long-term debt contracts is the debt dilution problem, wherein a borrower ignores the adverse impact of new borrowing on the market value of outstanding debt and, therefore, borrows too much and defaults too frequently. A commonly proposed remedy to the debt dilution problem is seniority of debt, wherein creditors who lent first are given priority in any bankruptcy or restructuring proceedings. The goal of this paper is to incorporate seniority in a quantitatively realistic, infinite horizon model of sovereign debt and default and examine, both theoretically and quantitatively, the extent to which seniority can mitigate the debt dilution problem.
    Keywords: Debt ; Default (Finance)
    Date: 2012

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