nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2013‒10‒02
fifteen 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. Open-Market Operations, Asset Distributions, and Endogenous Market Segmentation By Mahmoudi, Babak
  3. Growth and Financial Liberalization under Capital Collateral Constraints: The Striking Case of the Stochastic AK model with CARA Preferences By Raouf Boucekkine; Giorgio Fabbri; Patrick A. Pintus
  4. Education Policy and Intergenerational Transfers in Equilibrium By Brant Abbott; Giovanni Gallipoli; Costas Meghir; Gianluca Violante
  5. The Macro-dynamics of Sorting between Workers and Firms By Jeremy Lise; Jean-Marc Robin
  6. Public Education and Social Security: A Political Economy Approach By Tetsuo Ono
  7. Taxes, Debts, and Redistributions with Aggregate Shocks By Anmol Bhandari; David Evans; Mikhail Golosov; Thomas J. Sargent
  8. Evaluating point and density forecasts of DSGE models By Wolters, Maik H.
  9. Distributional Incentives in an Equilibrium Model of Domestic Sovereign Default By Pablo D'Erasmo; Enrique G. Mendoza
  10. Efficiency of the pension reform: the welfare effects of various fiscal closures By Jan Hagemejer; Krzysztof Makarski; Joanna Tyrowicz
  11. Demography and Low Frequency Capital Flows By David Backus; Thomas Cooley; Espen Henriksen
  12. Back to Basics: Basic Research Spillovers, Innovation Policy and Growth By Ufuk Akcigit; Douglas Hanley; Nicolas Serrano-Velarde
  13. Pareto-improving Immigration and Its Effect on Capital Accumulation in the Presence of Social Security By Hisahiro Naito
  14. Banking crises, sudden stops, and the effectiveness of short-term lending By Chang, Chia-Ying
  15. On the Fundamentalness of Nonfundamentalness in DSGE Models By Marco M. Sorge

  1. By: Been-Lon Chen (Institute of Economics, Academia Sinica, Taipei, Taiwan); Yu-Shan Hsu (Department of Economics, National Chung Cheng University); Kazuo Mino (Institute of Economic Research, Kyoto University)
    Abstract: In one-sector neoclassical growth models, consumption externalities lead to an inefficient allocation in a steady state and indeterminate equilibrium toward a 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 an inefficient allocation in a steady state and indeterminate equilibrium toward a steady state. Negative consumption spillovers that yield over-accumulation of capital in a one-sector model may lead to under-accumulation or an over-accumulation of capital in two-sector models depending on the relative capital intensity between sectors. Moreover, a two-sector model economy with consumption externalities is less stabilized than an otherwise identical one-sector model economy.
    Keywords: two-sector model, consumption externalities, efficiency, indeterminacy
    JEL: E21 E32 O41
    Date: 2013–08
  2. By: Mahmoudi, Babak
    Abstract: This paper investigates the long-run effects of open-market operations on the distributions of assets and prices in the economy. It offers a theoretical framework to incorporate multiple asset holdings in a tractable heterogeneous-agent model, in which the central bank implements policies by changing the supply of nominal bond and money. This model features competitive search, which produces distributions of money and bond holdings as well as price dispersion among submarkets. At a high enough bond supply, the equilibrium shows segmentation in the asset market; only households with good income shocks participate in the bond market. When deciding whether to participate in the asset market, households compare liquidity services provided by money with returns on bond. Segmentation in the asset market is generated endogenously without assuming any rigidities or frictions in the asset market. In an equilibrium with a segmented asset market, open-market operations affect households’ participation decisions and, therefore, have real effects on the distribution of assets and prices in the economy. Numerical exercises show that the central bank can improve welfare by purchasing bonds and supplying money when the asset market is segmented.
    Keywords: Open-Market Operation, Distributional Effects, Segmented Asset Market, Heterogeneous Agents, Competitive Search
    JEL: E00 E4 E5
    Date: 2013–09–21
  3. By: Raouf Boucekkine (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)); Giorgio Fabbri (EPEE - Université d'Evry-Val d'Essonne); 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))
    Abstract: We consider a small-open, collateral-constrained AK economy. We show that the combination of CARA preferences and uncertainty on capital inflows in such an economy generates long-term (expected) growth while the deterministic counterpart does not. In this framework, long-term growth is entirely driven by precautionary savings. In particular, we show that the asymptotic growth rate of the expected capital stock is an increasing function of both the risk parameter and the Arrow-Prat absolute risk aversion parameter. The model also predicts that economies that are more financially integrated through international borrowing experience lower consumption growth volatility relative to output growth volatility.
    Keywords: financial liberalization; growth; CARA preferences; collateral constraints; precautionary savings
    Date: 2013–09
  4. By: Brant Abbott (University of British Columbia); Giovanni Gallipoli (University of British Columbia); Costas Meghir (Yale University, IFS and NBER); Gianluca Violante (New York University, CEPR and NBER)
    Abstract: This paper compares partial and general equilibrium effects of alternative financial aid policies intended to promote college participation. We build an overlapping generations life-cycle, heterogeneous-agent, incomplete-markets model with education, labor supply, and consumption/saving decisions. Altruistic parents make inter vivos transfers to their children. Labor supply during college, government grants and loans, as well as private loans, complement parental transfers as sources of funding for college education. We find that the current financial aid system in the U.S. improves welfare, and removing it would reduce GDP by two percentage points in the long-run. Any further relaxation of government-sponsored loan limits would have no salient effects. The short-run partial equilibrium effects of expanding tuition grants (especially their need-based component) are sizeable. However, long-run general equilibrium effects are 3-4 times smaller. Every additional dollar of government grants crowds out 20-30 cents of parental transfers.
    Keywords: Education, Financial Aid, Inter vivos Transfers, Credit Constraints, Equilibrium
    JEL: E24 I22 J23 J24
    Date: 2013–09
  5. By: Jeremy Lise (University College London); Jean-Marc Robin (Sciences-Po, Paris and University College London)
    Abstract: We develop an equilibrium model of on-the-job search with ex-ante heterogeneous workers and firms, aggregate uncertainty and vacancy creation. The model produces rich dynamics in which the distributions of unemployed workers, vacancies and worker-firm matches evolve stochastically over time. We prove that the surplus function, which fully characterizes the match value and the mobility decision of workers, does not depend on these distributions. We estimate the model on US labor market data from 1951-2007 and predict the fit for 2008-12. We use the model to measure the cyclicality of mismatch between workers and jobs.
    Keywords: On-the-job search; Heterogeneity; Aggregate fluctuations; Mismatch
    JEL: E24 E32 J63 J64
    Date: 2013–09
  6. By: Tetsuo Ono (Graduate School of Economics, Osaka University)
    Abstract: This paper develops an overlapping-generations model with altruism towards children. The paper characterizes a Markov perfect political equilibrium of voting over two policy issues, public education for the young and social security for the old. The model potentially generates two types of political equilibria, and one of them is selected by the government from the viewpoint of maximizing its objective. The paper shows that (i) longevity affects equilibrium selection and relevant policy choices; and (ii) private education as an alternative to public education as well as the concept of Markov perfect political equilibrium are the keys to generate the two types of equilibria.
    Keywords: Public education; Social security; Intergenerational conflict
    JEL: H52 H55 I22
    Date: 2013–09
  7. By: Anmol Bhandari; David Evans; Mikhail Golosov; Thomas J. Sargent
    Abstract: A planner sets a lump sum transfer and a linear tax on labor income in an economy with incomplete markets, heterogeneous agents, and aggregate shocks. The planner's concerns about redistribution impart a welfare cost to fluctuating transfers. The distribution of net asset holdings across agents affects optimal allocations, transfers, and tax rates, but the level of government debt does not. Two forces shape long-run outcomes: the planner's desire to minimize the welfare costs of fluctuating transfers, which calls for a negative correlation between the distribution of net assets and agents' skills; and the planner's desire to use fluctuations in the real interest rate to adjust for missing state-contingent securities. In a model parameterized to match stylized facts about US booms and recessions, distributional concerns mainly determine optimal policies over business cycle frequencies. These features of optimal policy differ markedly from ones that emerge from representative agent Ramsey models like Aiyagari et al (2002).
    JEL: E62 H21 H63
    Date: 2013–09
  8. By: Wolters, Maik H.
    Abstract: This paper investigates the accuracy of forecasts from four DSGE models for inflation, output growth and the federal funds rate using a real-time dataset synchronized with the Fed's Greenbook projections. Conditioning the model forecasts on the Greenbook nowcasts leads to forecasts that are as accurate as the Greenbook projections for output growth and the federal funds rate. Only for inflation the model forecasts are dominated by the Greenbook projections. A comparison with forecasts from Bayesian VARs shows that the economic structure of the DSGE models which is useful for the interpretation of forecasts does not lower the accuracy of forecasts. Combining forecasts of several DSGE models increases precision in comparison to individual model forecasts. Comparing density forecasts with the actual distribution of observations shows that DSGE models overestimate uncertainty around point forecasts. --
    Keywords: DSGE models,Bayesian VAR,forecasting,model uncertainty,forecast combination,density forecasts,real-time data,Greenbook
    JEL: C53 E31 E32 E37
    Date: 2013
  9. By: Pablo D'Erasmo; Enrique G. Mendoza
    Abstract: International historical records on public debt show infrequent episodes of outright default on domestic debt. Reinhart and Rogoff (2008) document these events and argue that they constitute a “forgotten history” in Macroeconomics. This paper develops a theory of domestic sovereign default in which distributional incentives, interacting with default costs, make default part of the optimal policy of a utilitarian social planner. The model supports equilibria with debt subject to default risk in which rising wealth inequality reduces the optimal debt and increases default probabilities and spreads. A quantitative experiment calibrated to European data shows that, in the observed range of inequality in the distribution of bond holdings, the model accounts for 1/3rd of the average debt and spreads of about 400 basis points. Default risk reduces sharply the sustainable debt, except when the weights in the government’s payoff function value the utility of bond holders more than their share of the wealth distribution. If the former is sufficiently larger than the latter, the model supports debt ratios similar to European averages exposed to low default probabilities.
    JEL: E44 E6 F34 H63
    Date: 2013–09
  10. By: Jan Hagemejer (National Bank of Poland; Faculty of Economic Sciences, University of Warsaw); Krzysztof Makarski (National Bank of Poland; Warsaw School of Economics); Joanna Tyrowicz (Faculty of Economic Sciences, University of Warsaw; National Bank of Poland)
    Abstract: Pension system reforms involve fiscal consequences. In practice, a variety of fiscal closures may be implemented, while not all of them involve the same extent of distortions. This paper develops an overlapping generations model to analyze the case of a shift from pay-as-you-go defined benefit system to a partly funded defined contribution system. We calibrate the system to mimic the economy of Poland, which actually implemented such reform in 1999. We analyze the efficiency of the reform with two main closure types: public debt and taxes. Regardless of the fiscal closure scenario this particular reform seems to be efficient in terms of welfare and enhances economic performance. Comparing the welfare of various closures we find that while labor taxation yields relatively higher welfare gain, public debt closure involves least need for the redistribution if capital pillar is to be implemented.
    Keywords: PAYG, pension system reform, time inconsistency, welfare
    JEL: C68 E17 E25 J11 J24 H55 D72
    Date: 2013
  11. By: David Backus; Thomas Cooley; Espen Henriksen
    Abstract: We consider the causes of international capital flows. Since capital flows are extremely persistent, we argue that their drivers must be persistent, too. We think the most compelling candidates are demographic trends, tfp differences and financial frictions. In this paper we focus primarily on the role of demography in a multi-country overlapping generations model in which saving decisions are tied to agents' life expectancy. Capital flows reflect differences between saving and investment across countries. Demographic changes affect the aggregate accumulation of assets in two ways: by changing life expectancy which changes individual household saving behavior, and by changing the age distribution of the population by which individual household decisions are aggregated. The most important drivers turn out to be increases in life expectancy caused by decreases in adult mortality.We use a quantitative version of the model to illustrate the impact of demography on capital flows and net foreign assets in China, Germany, Japan, and the United States.
    JEL: J11
    Date: 2013–09
  12. By: Ufuk Akcigit (Department of Economics, University of Pennsylvania and NBER); Douglas Hanley (Department of Economics, University of Pennsylvania); Nicolas Serrano-Velarde (Bocconi University and IGIER)
    Abstract: This paper introduces a model of endogenous growth through basic and applied research. Basic research differs from applied research in the nature and the magnitude of the generated spillovers. We propose a novel way of empirically identifying these spillovers and embed them in a general equilibrium framework with private firms and a public research sector. After characterizing the equilibrium, we estimate our model using micro-level data on research expenditures by French firms. Our key finding is that standard R&D policies can accentuate the dynamic misallocation in the economy. We also find a strong complementarity between the property rights of basic research and the optimal funding of public research.
    Keywords: Innovation, basic research, applied research, research and development, government spending, endogenous growth, spillover
    JEL: O31 O38 O40 L78
    Date: 2013–09–18
  13. By: Hisahiro Naito
    Abstract: The effect of accepting more immigrants on welfare in the presence of a pay-as-you-go social security system is analyzed qualitatively and quantitatively. First, it is shown that if initially there exist intergenerational government transfers from the young to the old, the government can lead an economy to the (modified) golden rule level within a finite time in a Pareto-improving way by increasing the percentage of immigrants to natives (PITN). Second, using the computational overlapping generation model, the welfare gain is calculated of increasing the PITN from 15.5 percent to 25.5 percent and years needed to reach the (modified) golden rule level in a Pareto-improving way in a model economy. The simulation shows that the present value of the welfare gain of increasing the PITN comprises 23 percent of the initial GDP. It takes 112 years for the model economy to reach the golden rule level in a Pareto-improving way.
    Date: 2013–08
  14. By: Chang, Chia-Ying
    Abstract: This paper sheds light on the linkages between banking crises and sudden stops and discusses the effectiveness of short-run lending in their prevention. It develops an overlapping generations framework and incorporates the possibilities of bank runs and moral hazard of financial intermediaries. Consequently, I find that the strategy to overcome liquidity problems could worsen banks’ positions and cause bank runs and sudden stops. A small liquidity shock may still lead to a banking crisis through the depositors’ expectation. A large shock would require short-run lending to prevent an immediate bank run, but the repayment obligation may worsen moral hazard problems.
    Keywords: Banking crises, Sudden stops, Moral hazard, Short-run lending, Capital flows,
    Date: 2013
  15. By: Marco M. Sorge (Università di Napoli Federico II and CSEF)
    Abstract: This note warns against the use of noncausal VARs as a reliable test for indeterminacy. By means of a simple example, we show that determinate models may well entail nonfundamental ARMA equilibrium reduced forms - which only (and uniquely) depend on the fundamental structural shocks -, whereas indeterminate ones may actually be sunspot-free and possess fundamental (i.e. invertible) equilibrium representations. Hence, detecting a causal representation of the data cannot be interpreted as evidence of determinacy.
    Keywords: Indeterminacy; Noncausal VAR; Nonfundamentalness
    JEL: D84 E0 C62
    Date: 2013–09–19

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