nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2013‒03‒30
eight papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Labor Market Search and Schooling Investment By Christopher Flinn; Joseph Mullins
  2. Health Insurance, Annuities, and Public Policy By Kai Zhao
  3. The Market for OTC Derivatives By Andrew G. Atkeson; Andrea L. Eisfeldt; Pierre-Olivier Weill
  4. Saving Rate Dynamics in the Neoclassical Growth Model – Hyperbolic Discounting and Observational Equivalence By Farzin, Y. Hossein; Wendner, Ronald
  5. Barriers to Firm Growth in Open Economies By Facundo Piguillem; Loris Rubini
  6. Bounded Interest Rate Feedback Rules in Continuous-Time By d'Albis, Hippolyte; Augeraud-Véron, Emmanuelle; Hupkes, Hermen Jan
  7. Expected Regime Change: Transition Toward Nominal Exchange Rate Stability By Frantisek Brazdik
  8. Deep or aggregate habit formation? Evidence from a new-Keynesian business cycle model By Givens, Gregory

  1. By: Christopher Flinn; Joseph Mullins
    Abstract: We generalize the standard search, matching, and bargaining framework to allow individuals to acquire productivity-enhancing schooling prior to labor market entry. As is wellknown, search frictions and weakness in bargaining position contribute to under-investment from an efficiency perspective. In order to evaluate the sensitivity of schooling investments to “hold up,” the model is estimated using Current Population Survey data. We focus on the impact of bargaining power on schooling investment, and find that the effects are large in the partial equilibrium version of the model. However, large increases in bargaining power in the general equilibrium version of the model choke off firm vacancy creation and actually reduce the level of schooling investment.
    Keywords: Labor market search; schooling choice; hold-up; Nash bargaining.
    JEL: J24 J3 J64
    Date: 2013
  2. By: Kai Zhao (University of Western Ontario)
    Abstract: This paper studies the effects of health shocks on the demand for health insurance and annuities, precautionary saving, and the welfare implications of public policies in a simple life-cycle model. I show that when the health shock simultaneously increases health expenses and reduces longevity, the following results can be obtained via closed-form solutions. First, utility-maximizing agents would neither fully insure their uncertain health expenses nor fully annuitize their wealth, even in the absence of market frictions and bequest motives. Second, the effect of uncertain health expenses on precautionary saving may be smaller than what has been found in previous studies. Under certain conditions, uncertain health expenses may even reduce precautionary saving. Third, mandatory health insurance (e.g. public health insurance) tends to benefit the poor more, while mandatory annuitization (e.g. public pension) is more likely to favor the rich. A simple numerical application of the model to the US long term care (LTC) insurance market suggests that the simultaneous effect of health shock on health expenses and longevity is a quantitatively important reason why agents (especially the rich) do not purchase more private LTC insurance.
    Keywords: Saving; Annuities; Health Insurance; Social Security; Medicare
    Date: 2013
  3. By: Andrew G. Atkeson; Andrea L. Eisfeldt; Pierre-Olivier Weill
    Abstract: We develop a model of equilibrium entry, trade, and price formation in over-the- counter (OTC) markets. Banks trade derivatives to share an aggregate risk subject to two trading frictions: they must pay a fixed entry cost, and they must limit the size of the positions taken by their traders because of risk-management concerns. Although all banks in our model are endowed with access to the same trading technology, some large banks endogenously arise as “dealers,” trading mainly to provide intermediation services, while medium sized banks endogenously participate as “customers” mainly to share risks. We use the model to address positive questions regarding the growth in OTC markets as trading frictions decline, and normative questions of how regulation of entry impacts welfare.
    JEL: D83 G0
    Date: 2013–03
  4. By: Farzin, Y. Hossein; Wendner, Ronald
    Abstract: The standard neoclassical growth model with Cobb-Douglas production predicts a monotonically declining saving rate, when reasonably calibrated. Ample empirical evidence, however, shows that the transition path of a country’s saving rate exhibits a rising or non- monotonic pattern. In important cases, hyperbolic discounting, which is empirically strongly supported, implies transitional dynamics of the saving rate that accords well with empirical evidence. This holds true even in a growth model with Cobb-Douglas production technology. We also identify those cases in which hyperbolic discounting is observationally equivalent to exponential discounting. In those cases, hyperbolic discounting does not affect the saving rate dynamics. Numerical simulations employing a generalized class of hyperbolic discounting functions that we term regular discounting functions support the results.
    Keywords: Saving rate, non-monotonic transition path, hyperbolic discounting, regular discounting, commitment, short planning horizon, neoclassical growth model
    JEL: D91 E21 O40
    Date: 2013–03–25
  5. By: Facundo Piguillem (EIEF); Loris Rubini (UC3M)
    Abstract: The international trade literature finds strong links between firm growth and export decisions. In spite of this, the literature analyzing cross-country differences in firm growth commonly abstracts from trade. We develop a tractable, dynamic model to understand the consequences of this abstraction. We find that the closed economy (i) under-estimates domestic (firm) growth barriers, potentially modifying the rankings across countries; and (ii) over-predicts the effects of counterfactuals. To asses the quantitative relevance of these findings, we calibrate the model to a set of European countries. The model successfully captures differences in value added per worker, accounting for between 54 and 87% of the differences across countries. We find that a closed economy alters the ranking of countries according to the size of these barriers and over-predicts the effects of counterfactuals on welfare by between 31 and 64% relative to the open economy. Thus, trade is essential for measuring barriers to firm growth and their counterfactuals in open economies.
    Date: 2013
  6. By: d'Albis, Hippolyte; Augeraud-Véron, Emmanuelle; Hupkes, Hermen Jan
    Abstract: This paper analyses the dynamic consequences of interest rate feedback rules in a flexible-price model where money enters the utility function. Two alternative rules are considered based on past or predicted inflation rates. The main feature is to consider inflation rates that are selected over a bounded time horizon. We prove that if the Central Bank’s forecast horizon is not too long, an active and forward-looking monetary policy is not destabilizing: the equilibrium trajectory is unique and monotonic. This is an advantage with respect to active and backward-looking policies that are shown to lead to a unique but fluctuating dynamic.
    Keywords: Interest Rate Rules, Indeterminacy, Functionnal Equations
    JEL: E31 E43 E52
    Date: 2013–03–07
  7. By: Frantisek Brazdik
    Abstract: This work presents an extension of a small open economy DSGE model allowing the transition toward a monetary policy regime aimed at exchange rate stability to be described. The model is estimated using the Bayesian technique to fit the properties of the Czech economy. In the scenarios assessed, the monetary authority announces and changes its policy so that it is focused solely on stabilizing the nominal exchange rate after a specific transition period is over. Four representative forms of monetary policy are followed to evaluate their properties over the announced transition period. Welfare loss functions assessing macroeconomic stability are defined, allowing the implications of the transition period regime choice for macroeconomic stability to be assessed. As these experiments show, exchange rate stabilization over the transition period does not deliver the lowest welfare loss. Under the assumptions taken, the strict inflation-targeting regime is identified as the best-performing regime for short transition periods. However, it can be concluded that for longer transition periods the monetary policy regime should respond to changes in the exchange rate.
    Keywords: monetary policy change, new Keynesian models, small open economy.
    JEL: E17 E31 E52 E58 E61 F02 F41
    Date: 2013–03
  8. By: Givens, Gregory
    Abstract: Habit formation is a fixture of contemporary new-Keynesian models. The vast majority assume that agents form habits strictly over consumption of an aggregate good, leaving open the question of whether it might be preferable to have them form habits over differentiated products instead–an arrangement known as deep habits. I answer this question by estimating a model that nests both habit concepts as special cases. Estimates reveal that the data favor a specification in which consumption habits are stronger at the product level than at the aggregate level. A mix of significance tests and simulation results indicate that including deep habits greatly improves model fit, most notably with regard to inflation dynamics.
    Keywords: Deep Habits, Nominal Rigidities, Inflation Persistence
    JEL: E31 E32
    Date: 2013–02–25

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