nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2013‒06‒16
sixteen papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Business Cycle Effects of Credit Shocks in a DSGE Model with Firm Defaults By M. Hashem Pesaran; TengTeng Xu
  2. Monetary Policy Response to Foreign Aid in an Estimated DSGE Model of Malawi By Chance Mwabutwa, Manoel Bittencourt and Nicola Viegi
  3. Financing human capital development via government debt: a small country case using overlapping generations framework By Stauvermann, Peter Josef; Kumar , Ronald
  4. Tractable latent state filtering for non-linear DSGE models using a second-order approximation By Robert Kollmann
  5. Normative Fiscal Policy and Growth: Some Quantitative Implications for the Chilean Economy By Emilio Espino; Martin Gonzalez Rozada
  6. Learning Leverage Shocks and the Great Recession By Patrick A. Pintus; Jacek Suda
  7. Spatial Equilibrium with Unemployment and Wage Bargaining: Theory and Estimation By Paul Beaudry; David A. Green; Benjamin M. Sand
  8. Buy, Keep or Sell: Theory and Evidence from Patent Resales By Ufuk Akcigit; Murat Alp Celik; Jeremy Greenwood
  9. Saving Rate Dynamics in the Neoclassical Growth Model – Hyperbolic Discounting and Observational Equivalence By Y. Hossein Farzin; Ronald Wendner
  10. Monetary policy, the tax code, and the real effects of energy shocks By William T. Gavin; Benjamin D. Keen; Finn E. Kydland
  11. Job matching within and across firms By Elena Pastorino
  12. Analysing the Effects of Fiscal Policy Shocks in the South African Economy By Charl Jooste, Guangling (Dave) Liu and Ruthira Naraidoo
  13. A general equilibrium evaluation of tax policies in Spain during the Great Recession By María Teresa Álvarez Martínez; José Clemente Polo Andrés
  14. Spatial dynamics and convergence: The spatial AK model By Raouf Boucekkine; Carmen Camacho; Giorgio Fabbri
  15. To love or to pay: Savings and health care in older age. By Loretti I. Dobrescu
  16. Are Sunspots Learnable? An Experimental Investigation in a Simple General-Equilibrium Model By Jasmina Arifovic; George Evans; Olena Kostyshyna

  1. By: M. Hashem Pesaran; TengTeng Xu
    Abstract: This paper proposes a theoretical framework to analyze the relationship between credit shocks, firm defaults and volatility, and to study the impact of credit shocks on business cycle dynamics. Firms are identical ex ante but differ ex post due to different realizations of firm-specific technology shocks, possibly leading to default by some firms. The paper advances a new modelling approach for the analysis of firm defaults and financial intermediation that takes account of the financial implications of such defaults for both households and banks. Results from a calibrated version of the model suggest that, in the steady state, a firm’s default probability rises with its leverage ratio and the level of uncertainty in the economy. A positive credit shock, defined as a rise in the loan-to-deposit ratio, increases output, consumption, hours and productivity, and reduces the spread between loan and deposit rates. The effects of the credit shock tend to be highly persistent, even without price rigidities and habit persistence in consumption behavior.
    Keywords: Business fluctuations and cycles; Credit and credit aggregates; Economic models; Financial Institutions
    JEL: E32 E44 G21
    Date: 2013
  2. By: Chance Mwabutwa, Manoel Bittencourt and Nicola Viegi
    Abstract: This paper estimates a Bayesian Dynamic Stochastic General Equilibrium (DSGE) model of Malawi and uses it to account for short-run monetary policy response to aid inflows between 1980 and 2010. In particular, the paper evaluates the existence of a “Dutch Disease†following an increase in foreign aid and examines the Reserve Bank of Malawi (RBM) reaction to aid inflows under different monetary policy rules. The paper finds strong evidence of “Taylor rule†like response of monetary policy to aid inflows. It also shows that a ‘Dutch Disease’ did not exist in Malawi because aid inflows were found to be associated with currency depreciation and not the expected real currency appreciation. There is also evidence of a low impact of a positive aid shock on currency depreciation and inflation when RBM engages in targeting monetary aggregates than when the authorities use the Taylor rule and incomplete sterilisation.
    Keywords: Taylor rule, DSGE model, Rule-of-Thumb, Spending, Absorption, Foreign exchange Rate
    JEL: C11 C13 E52 E62 F31 F35
    Date: 2013
  3. By: Stauvermann, Peter Josef; Kumar , Ronald
    Abstract: Using an over-lapping generations (OLG) model, we show how small open economies can enhance their growth through educational subsidies financed via government debt. In our model, we endogenize human capital and fertility without the strong assumptions of altruism or positive spill over effects from human capital accumulation. We show that subsidizing education through government debt leads to a Pareto improvement of all generations. Even if a country is a net borrower in the international capital market, we show that this subsidy-policy can help, under certain conditions, to improve its net borrowing position. Especially, our analysis can be applied to less developed countries, which are locked in a low development trap. A further desirable outcome of our analysis is that fertility rates decline for the small and less developed countries.
    Keywords: fertility; human capital; education subsidy; government debt.
    JEL: E60 H63 O41
    Date: 2013–04
  4. By: Robert Kollmann
    Abstract: This paper develops a novel approach for estimating latent state variables of Dynamic Stochastic General Equilibrium (DSGE) models that are solved using a second-order accurate approximation. I apply the Kalman filter to a state-space representation of the second-order solution based on the ‘pruning’ scheme of Kim, Kim, Schaumburg and Sims (2008). By contrast to particle filters, no stochastic simulations are needed for the filter here--the present method is thus much faster. In Monte Carlo experiments, the filter here generates more accurate estimates of latent state variables than the standard particle filter. The present filter is also more accurate than a conventional Kalman filter that treats the linearized model as the true data generating process. Due to its high speed, the filter presented here is suited for the estimation of model parameters; a quasi-maximum likelihood procedure can be used for that purpose.
    Keywords: Simulation modeling ; Forecasting
    Date: 2013
  5. By: Emilio Espino; Martin Gonzalez Rozada
    Abstract: This paper explores the qualitative and quantitative implications of optimal tax- ation in a developing economy when economic growth is endogenously determined. We di¤erentiate this class of economies from a developed economy in two aspects: 1. the informal sector is quantitatively signi…cant and, 2. tax-collecting technologies are more rudimentary. We characterize competitive equilibrium allocations and Ramsey allocations in the context of a small open economy in which the interest rate is endoge- nously determined, some workers can be hired in the informal market and imperfect tax-collecting technology can be heterogeneous across types of taxes. We calibrate the parameters of our model to the Chilean economy. Overall, our results suggest that capital should still be taxed but considerably less than actual taxes (that is, 10.78% versus 18.5%). Labor should be subsidized (to stimulate accumulation of human capital) while consumption taxes should be increased by 50% approximately (from 19% to 28%). As expected, the better collecting technologies, the higher the corresponding taxes. In this context, the resulting growth rate increases only slightly along the balanced growth path.
    Keywords: Optimal fiscal policy, economic growth, inefficient tax collecting technology
    JEL: E61 E62 H21
    Date: 2013–06
  6. By: Patrick A. Pintus (AMSE - Aix-Marseille School of Economics - Aix-Marseille Univ. - Centre national de la recherche scientifique (CNRS) - École des Hautes Études en Sciences Sociales [EHESS] - Ecole Centrale Marseille (ECM)); Jacek Suda (Banque de france - Banque de France)
    Abstract: This paper develops a simple business-cycle model in which financial shocks have large macroeconomic effects when private agents are gradually learning their economic environment. When agents update their beliefs about the unobserved process driving financial shocks to the leverage ratio, the responses of output and other aggregates under adaptive learning are significantly larger than under rational expectations. In our benchmark case calibrated using US data on leverage, debt-to-GDP and land value-to-GDP ratios for 1996Q1-2008Q4, learning amplifies leverage shocks by a factor of about three, relative to rational expectations. When fed with the actual leverage innovations, the learning model predicts the correct magnitude for the Great Recession, while its rational expectations counterpart predicts a counter-factual expansion. In addition, we show that procyclical leverage reinforces the impact of learning and, accordingly, that macro-prudential policies enforcing countercyclical leverage dampen the effects of leverage shocks. Finally, we illustrate how learning with a misspecified model that ignores real/financial linkages also contributes to magnify financial shocks.
    Keywords: borrowing constraints; collateral; leverage; learning; financial shocks; recession
    Date: 2013–06
  7. By: Paul Beaudry; David A. Green; Benjamin M. Sand
    Abstract: In this paper, we present a spatial equilibrium model where search frictions hinder the immediate reallocation of workers both within and across local labour markets. Because of the frictions, firms and workers find themselves in bilateral monopoly positions when determining wages. Although workers are not at each instant perfectly mobile across cities, in the baseline model we assume that workers flows are sufficient to equate expected utility across markets. We use the model to explore the joint determination of wages, unemployment, house prices and city size (or migration). A key role of the model is to clarify conditions under which this type of spatial equilibrium setup can be estimated. We then use U.S. data over the period 1970-2007 to explore the fit of model and it quantitative properties of the model. Our main goal is to highlight forces that influence spatial equilibria at 10 year intervals.
    JEL: J01 J2 J3 J6
    Date: 2013–06
  8. By: Ufuk Akcigit (University of Pennsylvania); Murat Alp Celik (University of Pennsylvania); Jeremy Greenwood (University of Pennsylvania)
    Abstract: An endogenous growth model is developed where each period firms invest in researching and developing new ideas. An idea increases a firm's productivity. By how much depends on how central the idea is to a firm's activity. Ideas can be bought and sold on a market for patents. A firm can sell an idea that is not relevant to its business or buy one if it fails to innovate. The developed model is matched up with stylized facts about the market for patents in the U.S. The analysis attempts to gauge how efficiency in the patent market affects growth
    Keywords: Growth, Ideas, Innovation, Misallocation, Patents, Patent Agents, Research and Development, Search frictions
    JEL: O31 O41
    Date: 2013–06
  9. By: Y. Hossein Farzin (Department of Agricultural and Resource Economics, UC Davis, U.S.A, Oxford Centre for the Analysis of Resource Rich Economies (OxCarre), Department of Economics, University of Oxford, UK); Ronald Wendner (Department of Economics, University of Graz, Austria)
    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 the cases where 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: 2013–05
  10. By: William T. Gavin; Benjamin D. Keen; Finn E. Kydland
    Abstract: This paper develops a monetary model with taxes to account for the apparently asymmetric and time-varying effects of energy shocks on output and hours worked in post-World War II U.S. data. In our model, the real effects of an energy shock are amplified when the monetary authority responds to that shock by changing its inflation objective. Specifically, higher inflation raises households’ nominal capital gains taxes since those taxes are not indexed to inflation. The increase in taxes behaves as a negative wealth effect and generates an immediate decline in output, investment, and hours worked. The large drop in investment then causes a gradual but very persistent decline in the capital stock. That protracted decline in the capital stock is associated with an extended period of low productivity growth and high inflation. Those real effects from the increase in nominal capital gains taxes are magnified by the tax on nominal interest income, which is also not indexed to inflation. A prolonged period of higher inflation and lower productivity growth following a negative energy shock is consistent with the stagflation of the 1970s. The negative effects, however, subsided greatly after 1980 because the Volcker disinflation policy prevented the Fed from accommodating negative energy shocks with higher inflation.
    Keywords: Business cycles ; Fiscal policy
    Date: 2013
  11. By: Elena Pastorino
    Abstract: In order to analyze careers both within and across firms, this paper proposes a matching model of the labor market that extends existing models of job assignment and learning about workers’ abilities. The model accounts for worker mobility across jobs and firms, for varying degrees of generality of ability, and for the possibility that firms affect the information they acquire about workers through job assignment. I characterize equilibrium assignment and wages, and show how, depending on how abilities and jobs are distributed across firms, equilibrium gives rise to widely varying patterns of job mobility within firms and turnover across firms, even if matching would be perfectly assortative in the absence of uncertainty. The implied job and wage dynamics display features that are consistent with a broad set of empirical findings on careers in firms and the labor market. In particular, workers can experience gradual promotions and wage increases following successful performance but few or no demotions when employed by the same firm. The model also produces turnover across firms and occupations after both successful and unsuccessful experiences, leading to wage increases or decreases following a firm or occupation change. Overall, the results in this paper provide a unified framework in which to interpret the dynamics of jobs and wages in firms and the labor market.
    Keywords: Labor market
    Date: 2013
  12. By: Charl Jooste, Guangling (Dave) Liu and Ruthira Naraidoo
    Abstract: This paper is the first one to analyse the effect of aggregate government spending and taxes on output for South Africa using three types of a calibrated DSGE model and more data driven models such as a structural vector error correction model (SVECM) and a time-varying parameter VAR (TVP-VAR) to capture possible asymmetries and time variation of fiscal impulses. The impulse responses indicate first, that increases in government expenditure have a positive impact, albeit (at times) less than unity, on GDP in the short run; second, over the long run, the impact of government expenditure on GDP is insignificant; and third, increases in taxes decreases GDP over the short run, while having negligible effects over longer horizons.
    Keywords: Rule-of-thumb consumers, Fiscal multiplier, Government spending, TVP-VAR, SVECM
    JEL: C54 D58 E32 E62 H31
    Date: 2013
  13. By: María Teresa Álvarez Martínez (Rutgers, The State University of New Jersey); José Clemente Polo Andrés (Universidad Autónoma de Barcelona)
    Abstract: The main goal of the paper is to assess the effects of several permanent tax rate hikes implemented by the Spanish Government in 2009 and 2010 to counteract the rapid increase of the public deficit and debt registered in 2009 and 2010. It uses a numerical general equilibrium model calibrated to a social accounting matrix elaborated by the authors for the year 2000. The effects of increases in excise, value added and personal income taxes are simulated separately and jointly. The results indicate that the extra revenues obtained from each tax figure are lower than ex-ante calculations estimated by the Government. Moreover, the reductions in the public deficit accomplished are considerably smaller due to general equilibrium effects, such as lower production levels, greater unemployment rates and higher prices and transfers paid by the Government. The joint results indicate the enormous difficulties the Government faces to close the deficit gap by raising taxes.
    Keywords: Computable General Equilibrium Models, Tax Reforms, Public Deficit
    JEL: C68 H20 H30
    Date: 2013–04
  14. By: Raouf Boucekkine (Aix-Marseille University (Aix-Marseille School of Economics) and Université catholique de Louvain (IRES and CORE)); Carmen Camacho (CNRS, Université Paris 1-Panthéon Sorbonne and IRES, Université catholique de Louvain); Giorgio Fabbri (EPEE, Université d’Evry-Val-d’Essonne (TEPP, FR-CNRS 3126))
    Abstract: We study the optimal dynamics of an AK economy where population is uniformly distributed along the unit circle. Locations only differ in initial capital endowments. Spatio-temporal capital dynamics are described by a parabolic partial differential equation. The application of the maxi- mum principle leads to necessary but non-sufficient first-order conditions. Thanks to the linearity of the production technology and the special spatial setting considered, the value-function of the problem is found explicitly, and the (unique) optimal control is identified in feedback form. De- spite constant returns to capital, we prove that the spatio-temporal dynamics, induced by the willingness of the planner to give the same (detrended) consumption over space and time, lead to convergence in the level of capital across locations in the long-run.
    Keywords: Economic Growth, Spatial Dynamics, Optimal Control, Partial-Differential Equations
    JEL: C60 O11 R11 R12 R13
    Date: 2013
  15. By: Loretti I. Dobrescu (University of New South Wales)
    Abstract: This paper develops a dynamic structural life-cycle model to study how heterogeneous health and medical spending shocks a¤ect the savings behavior of the elderly. Individuals are allowed to respond to health shocks in two ways: they can directly pay for their health care expenses (self-insure) or they can rely on health insurance contracts. There are two possible insurance options, one through formal contracts and another through informal care provided by family. Formal contracts may be a¤ected by asymmetric information problems, whereas informal insurance depends on social ties (cohesion) and on bequeathable wealth. I estimate the model on SHARE data using simulated method of moments for four levels of wealth in a sample of single retired Europeans. Counterfactual experiments show that health, medical spending and health insurance are indeed the main drivers of the slow wealth decumulation in old age. I also fi?nd that social cohesion rises with age, declines with wealth and is higher in Mediterranean countries than in Central European and Scandinavian countries. Finally, high social cohesion appears typically associated with increased life expectancy.
    Keywords: savings, health, health insurance, social cohesion, life expectancy
    JEL: D1 D31 E27 H31 H51 I1
    Date: 2012–12
  16. By: Jasmina Arifovic; George Evans; Olena Kostyshyna
    Abstract: We conduct experiments with human subjects in a model with a positive production externality in which productivity is a non-decreasing function of the average level of employment of other firms. The model has three steady states: the low and high steady states are expectationally stable (E-stable), and thus locally stable under learning, while the middle steady state is not E-stable. There also exists a locally E-stable sunspot equilibrium that fluctuates between the high and low steady states. Steady states are payoff ranked: low values give lower profits than higher values. We investigate whether subjects in our experimental economies can learn a sunspot equilibrium. Our experimental design has two treatments: one in which payoff is based on the firm’s profits, and the other in which payoff is based on the forecast squared error. We observe coordination on the extrinsic announcements in both treatments. In the treatments with forecast squared error, the average employment and average forecasts of subjects are closer to the equilibrium corresponding to the announcement. Cases of apparent convergence to the low and high steady states are also observed.
    Keywords: Economic models
    JEL: D83 G20
    Date: 2013

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