nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2015‒09‒26
34 papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. 'Capital Controls and Welfare with Cross-Border Bank Capital Flows' By Pierre-Richard Agénor; Pengfei Jia
  2. Search-Based Endogenous Illiquidity and the Macroeconomy By Soren Radde; Wei Cui
  3. Explaining Bond and Equity Premium Puzzles Jointly in a DSGE Model By Lorant Kaszab; Ales Marsal
  4. Linearization about the Current State: A Computational Method for Approximating Nonlinear Policy Functions during Simulation By Richard W. Evans; Kerk L. Phillips
  5. The Dark Corners of the Labor Market By Vincent Sterk
  6. Dealing with Financial Instability under a DSGE modeling approach with Banking Intermediation: a forecastability analysis versus TVP-VARs By Bekiros, Stelios D.; Cardani, Roberta; Paccagnini, Alessia; Villa, Stefania
  7. Saving Europe? By Jing Zhang
  8. Equilibrium Dynamics in a Two-Sector OLG Model with Liquidity Constraint By Antoine Le Riche; Francesco Magris
  9. Learning Financial Shocks and the Great Recession By Jacek Suda; Patrick Pintus
  10. Approximating time varying structural models with time invariant structures By Canova, Fabio; Ferroni, Filippo; Matthes, Christian
  11. On the Optimal Provision of Social Insurance: Progressive Taxation versus Education Subsidies in General Equilibrium By Dirk Krueger; Alexander Ludwig
  12. Financial Shocks and Job Flows By Dmitriy Sergeyev; Neil Mehrotra
  13. The Welfare and Employment Effects of Centralized Public Sector Wage Bargaining By Cardullo, Gabriele
  14. The Tail that Wags the Economy: Belief-Driven Business Cycles and Persistent Stagnation By Venky Venkateswaran; Laura Veldkamp; Julian Kozlowski
  15. On the Theoretical Efficacy of Quantitative Easing at the Zero Lower Bound By Boel, Paola; Waller, Christopher J.
  16. Unemployment (Fears) and Deflationary Spirals By Den Haan, Wouter; Rendahl, Pontus; Riegler, Markus
  17. Regional Shocks, Migration and Homeownership By Florian Oswald
  18. Unemployment benefit and the number of children By Ikeda Ryouichi
  19. Long-Run and Short-Run Effects of Money Injections By Tsz-Nga Wong; Pierre-Olivier Weill; Guillaume Rocheteau
  20. Bonacich Measures as Equilibria in Network Models By Oskari Vahamaa
  21. Long-Run Growth Uncertainty By Pei Kuang; Kaushik Mitra
  22. The Interaction of Entry Barriers and Financial Frictions in Growth By Timothy Kehoe; Sewon Hur; Kim Ruhl; Jose Asturias
  23. Decreasing Transaction Costs and Endogenous Fluctuations in a Monetary Model By Antoine Le Riche; Francesco Magris
  24. Need for (the Right) Speed: the Timing and Composition of Public Debt Deleveraging By Romei, Federica
  25. Hot and cold seasons in the housing market By L. Rachel Ngai; Silvana Tenreyro
  26. Financial Shocks, Customer Captial and the Trade Collapse of 2008-2009 By Alok Johri; Terry Yip
  27. What is a Sustainable Public Debt? By Pablo D'Erasmo; Enrique G. Mendoza; Jing Zhang
  28. Student Loans and Repayment: Theory, Evidence and Policy By Alexander Monge-Naranjo; Lance Lochner
  29. Managers and Productivity Differences By Gustavo Ventura; Andrii Parkhomenko; Nezih Guner
  30. When is there more employment, with individual or collective wage setting ? By José Ramón García; Valeri Sorolla
  31. Structural empirical evaluation of job search monitoring By van den Berg, Gerar J.; van der Klaauw, Bas
  32. The Maturity Structure of Inside Money By Ariel Zetlin-Jones; Burton Hollifield
  33. Human Capital and Optimal Redistribution By Julien Prat; Winfried Koeniger
  34. The Cost of Greening Stimulus: A Dynamic Discrete Choice Analysis of Vehicle Scrappage Programs By Chao Wei; Shanjun Li

  1. By: Pierre-Richard Agénor; Pengfei Jia
    Abstract: This paper studies the performance of time-varying capital controls on cross-border bank borrowing in an open-economy, dynamic stochastic general equilibrium model with credit market frictions and imperfect capital mobility. The model is calibrated for a middle-income country and is shown to replicate the main stylized facts associated with a fall in world interest rates (capital inflows, real appreciation, credit boom, asset price pressures, and output expansion). A capital controls rule, which is fundamentally macroprudential in nature, is defined in terms of either changes in bank foreign borrowing or cyclical output. An optimal, welfare-maximizing rule is established numerically. The analysis is then extended to solve jointly for optimal countercyclical reserve requirements and capital controls rules. These instruments are complements in the sense that both are needed to maximize welfare. However, a more aggressive reserve requirement rule (which responds to the credit-output ratio) also induces less reliance on capital controls. Thus, at the margin, countercyclical reserve requirements and capital controls are partial substitutes in maximizing welfare.
    Date: 2015
  2. By: Soren Radde (European Central Bank); Wei Cui (University College London)
    Abstract: We endogenize asset liquidity in a dynamic general equilibrium model with search frictions on asset markets. In the model, asset liquidity is tantamount to the ease of issuance and resaleability of private financial claims, which is driven by investors' participation on the search market. Limited funding ability of private claims creates a role for liquid assets, such as government bonds or fiat money, to ease funding constraints. We show that liquidity and asset prices can positively co-move. When the capacity of the asset market to channel funds to entrepreneurs deteriorates, investment drops while the hedging value of liquid assets increases. Our model is thus able to match the liquidity hoarding observed during recessions, together with the dynamics of key macro variables.
    Date: 2015
  3. By: Lorant Kaszab (Magyar Nemzeti Bank (the Central Bank of Hungary)); Ales Marsal (National Bank of Slovakia)
    Abstract: We introduce costly firm-entry a la Bilbiie et al. (2012) into a New Keynesian model with Epstein-Zin preferences and show that it can jointly account for a high mean value of bond and equity premium without compromising the fit of the model to first and second moments of key macroeconomic variables. In the standard New Keynesian model without entry it is easy to generate inflation risks on long-term nominal bonds when placing high coefficient on the output gap in the Taylor rule. Our model is able to generate inflation risks when the coefficient on the output gap is small. In the entry model real risks are lower and inflation risks are ceteris paribus higher than in the standard New Keynesian model without entry due to the appearance of new varieties that help households smooth their consumption better.
    Keywords: firm entry, zero-coupon bond, equity premium, nominal term premium, third-order approximation, New Keynesian, Epstein-Zin preferences.
    JEL: E13 E31 E43 E44 E62
    Date: 2015
  4. By: Richard W. Evans (Department of Economics, Brigham Young University); Kerk L. Phillips (Department of Economics, Brigham Young University)
    Abstract: This paper presents an adjustment to commonly used approximation methods for dynamic stochastic general equilibrium (DSGE) models. Policy functions approximated around the steady state will be inaccurate away from the steady state. In some cases, this does not lead to substantial inaccuracies. In other cases, however, the model may not have a well-defined steady state, or the nature of the steady state may be at odds with its off-steady-state dynamics. We show how to simulate a DSGE model by approximating about the current state. Our method introduces an approximation error, but minimizes the error associated with a finite-order Taylor-series expansion of the model’s characterizing equations. This method is easily implemented using available simulation software and has the advantage of mimicking highly non-linear behavior. We illustrate this with a variety of simple models. We compare our technique with other simulation techniques and show that the approximation errors are approximately the same for stable, well-defined models. We also illustrate how this method can solve and simulate models that are not tractable with standard approximation methods.
    Keywords: ynamic stochastic general equilibrium, linearization methods, numerical simulation, computational techniques, simulation modeling, unstable models, unbalanced growth
    JEL: C63 C68 E37
    Date: 2015–09
  5. By: Vincent Sterk (University College London)
    Abstract: What can happen to unemployment after a severe disruption of the labor market? Standard models predict a reversion to a long-run steady state. By contrast, this paper shows that a large shock may set the economy on a path towards a different steady state with possibly extreme unemployment. This result follows from the empirical behavior of the U.S. job finding rate over the last 25 years. First, I estimate a reduced-form model for the labor market and show that --once allowing for nonlinearities-- it implies a stable steady state around 5 percent unemployment and an unstable one around 10 percent unemployment. Second, I consider an extension of a basic Diamond-Mortensen-Pissarides (DMP) model in which multiple steady states arise due to skill losses upon unemployment, following Pissarides (1992). Based on only observed rates of job loss, this model endogenously explains most of the observed fluctuations in the job finding rate and the unemployment rate, thereby dramatically improving over a basic DMP model with a single steady state.
    Date: 2015
  6. By: Bekiros, Stelios D.; Cardani, Roberta; Paccagnini, Alessia; Villa, Stefania
    Abstract: Recently there has been an increasing awareness on the role that the banking sector can play in macroeconomic activity, especially within the context of the DSGE literature. In this work, we present a DSGE model with financial intermediation as in Gertler and Karadi (2011). The estimation of the shocks and of the structural parameters shows that time-variation can be crucial in the empirical analysis. As DSGE modeling fails to take into account inherent nonlinearities of the economy, we introduce a novel time-varying coefficient state-space estimation method for VAR processes, for homoskedastic and heteroskedastic error structures (TVP-VAR). We conduct an extensive empirical exercise to compare the out-of-sample forecastability of the DSGE model versus standard ARs, VARs, Bayesian VARs and TVP-VARs. We find that the TVP-VAR provides the best forecasting performance for the series of GDP and net worth of financial intermediaries for all steps-ahead, while the DSGE model with the incorporation of a banking sector outperforms the other specifications in forecasting inflation and the federal funds rate at shorter horizons.
    Keywords: DSGE, Extended Kalman Filter, Financial Frictions, Banking Sector
    JEL: C11 C13 E37
    Date: 2015
  7. By: Jing Zhang (Federal Reserve Bank of Chicago)
    Abstract: Europes debt crisis casts doubt on the effectiveness of fiscal austerity in highly-integrated economies. Closed-economy models overestimate its effectiveness, because they underestimate tax-base elasticities and ignore cross-country tax externalities. In contrast, we study tax responses to debt shocks in a two-country model with endogenous utilization that captures those externalities and matches the capital-tax-base elasticity. Quantitative results show that unilateral capital tax hikes cannot restore fiscal solvency in Europe, and have large negative (positive) effects at "home" ("abroad"). Restoring solvency via Nash competition reduces capital taxes sharply but increases labor taxes, and even the Cooperative equilibrium lowers (rises) capital (labor) taxes.
    Date: 2015
  8. By: Antoine Le Riche (AMSE - Aix-Marseille School of Economics - EHESS - École des hautes études en sciences sociales - Centre national de la recherche scientifique (CNRS) - Ecole Centrale Marseille (ECM) - AMU - Aix-Marseille Université, GAINS - University of Maine); Francesco Magris (LEO - François Rabelais University of Tours)
    Abstract: We study a two-sector OLG economy in which a share of old age consumption expenditures must be paid out of money balances and we appraise its dynamic features. We first show that competitive equilibrium is dynamically efficient if and only if the share of capital on total income is large enough while a steady state capital per capita above its Golden Rule level is not consistent with a binding liquidity constraint. We thus focus on the gross substitutability in consumption and on dynamic efficiency assumptions and show that, gathered together, they ensure the local determinacy of equilibrium and, as a consequence, rule out sunspot fluctuations. In addition, we prove that the unique steady state may change its stability from a saddle configuration to a source one (undergoing a flip bifurcation) for a capital intensive investment good as well as for a capital intensive consumption good, when the elasticity of the interest rate is set low enough. However, when the investment good is not too capital intensive, the flip bifurcation turns out to be compatible with high elasticities of the interest rate too. Analogous results within dynamic efficiency are found in the non-monetary model, the existence of a flip bifurcation requiring now a capital intensive investment good. Eventually, under dynamic inefficiency, in the non-monetary economy local indeterminacy may instead appear, either through a Hopf bifurcation or through a flip one, and its scope improves as soon as the consumption good becomes more and more capital intensive.
    Keywords: overlapping generations,two-sector,money demand,dynamic efficiency,equilibrium dynamics
    Date: 2015–09
  9. By: Jacek Suda (National Bank of Poland); Patrick Pintus (Aix-Marseille School of Economics)
    Abstract: This paper develops a simple business-cycle model in which financial shocks have large macroeconomic effects when private agents are gradually learning their uncertain environment. When agents update their beliefs about the parameters that govern 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 actual leverage innovations observed over that period, the learning model predicts a sizeable recession in 2008-10, while its rational expectations counterpart predicts a counter-factual expansion. In addition, we show that procyclical leverage reinforces the amplification due to learning and, accordingly, that macro-prudential policies enforcing countercyclical leverage dampen the effects of leverage shocks.
    Date: 2015
  10. By: Canova, Fabio; Ferroni, Filippo; Matthes, Christian
    Abstract: The paper studies how parameter variation affects the decision rules of a DSGE model and structural inference. We provide diagnostics to detect parameter variations and to ascertain whether they are exogenous or endogenous. Identification and inferential distortions when a constant parameter model is incorrectly assumed are examined. Likelihood and VAR-based estimates of the structural dynamics when parameter variations are neglected are compared. Time variations in the financial frictions of a Gertler and Karadi's (2010) model are studied.
    Keywords: endogenous variations; misspecification; Structural model; time varying coefficients
    JEL: C10 E27 E32
    Date: 2015–09
  11. By: Dirk Krueger; Alexander Ludwig
    Abstract: In this paper we compute the optimal tax and education policy transition in an economy where progressive taxes provide social insurance against idiosyncratic wage risk, but distort the education decision of households. Optimally chosen tertiary education subsidies mitigate these distortions. We highlight the quantitative importance of general equilibrium feedback effects from policies to relative wages of skilled and unskilled workers: subsidizing higher education increases the share of workers with a college degree thereby reducing the college wage premium which has important redistributive benefits. We also argue that a full characterization of the transition path is crucial for policy evaluation. We find that optimal education policies are always characterized by generous tuition subsidies, but the optimal degree of income tax progressivity depends crucially on whether transitional costs of policies are explicitly taken into account and how strongly the college premium responds to policy changes in general equilibrium.
    JEL: E62 H21 H24
    Date: 2015–09
  12. By: Dmitriy Sergeyev (Bocconi University); Neil Mehrotra (Brown University)
    Abstract: The labor market recovery since the end of the Great Recession has been characterized by a marked decline in labor market turnover. In this paper, we provide evidence that the housing crisis and financial nature of the Great Recession account for this decline in job flows. We exploit MSA-level variation in job flows and housing prices to show that a decline in housing prices diminishes job creation and lagged job destruction. Moreover, we document differences across firm size and age categories, with middle-sized firms (20-99 employees) and new and young firms (firms less than 5 years of age) most sensitive to a decline in house prices. We propose a quantitative model of firm dynamics with collateral constraints, calibrating the model to match the distribution of employment by firm size and age. Financial shocks in our firm dynamics model depresses job creation and job destruction and replicates the empirical pattern of the sensitivity of job flows across firm age and size categories.
    Date: 2015
  13. By: Cardullo, Gabriele
    Abstract: In many countries, the government pays almost identical nominal wages to workers living in regions with notable economic disparities. By developing a two-region general equilibrium model with endogenous migration and search frictions in the labour market, I study the differences in terms of unemployment, real wages, and welfare between a regional wage bargaining process and a national one in the public sector. Adopting the latter makes residents in the poorer region better off and residents of the richer region worse off. Private sector employment decreases in the poorer region and it increases in the richer one. Under some conditions, the unemployment rate in the poorer region soars. Simulation results also show that a regional bargaining scheme may increase inequality.
    Keywords: public sector wages; centralized pay regulation; unemployment.
    JEL: J45 J50 R13
    Date: 2015
  14. By: Venky Venkateswaran (New York University); Laura Veldkamp (NYU Stern); Julian Kozlowski (New York University)
    Abstract: In the wake of the great recession,many economists explored new sources of business cycle fluctuations, such as news, sentiment or uncertainty shocks. But these theories have difficulty explaining why post-recession output would remain below trend long after many commonly used measures of uncertainty recovered to their pre-crisis levels. We propose a business cycle model where new information has persistent effects on real output. In our model, firms do not know the true distribution of economic shocks. Each period, they observe a new shock realization and re-estimate its distribution, just as an econometrician would. Tails of the distribution are difficult to estimate. So estimated tails risk can fluctuate greatly as new data is observed. Shocks have persistent effects because they permanently change beliefs about future realizations. Since debt payouts are affected disproportionately by tail risk, changes to beliefs lead to large changes in the cost of issuing debt and therefore, incentives to invest. Thus, the combination of belief revisions and debt financing can amplify shocks and generate large, persistent fluctuations in investment and output.
    Date: 2015
  15. By: Boel, Paola (Sveriges Riksbank, Sweden); Waller, Christopher J. (Federal Reserve Bank of St. Louis)
    Abstract: We construct a monetary economy in which agents face aggregate demand shocks and hetero- generous idiosyncratic preference shocks. We show that, even when the Friedman rule is the best interest rate policy, not all agents are satiated at the zero lower bound. Thus, quantitative easing can be welfare improving since it temporarily relaxes the liquidity constraint of some agents, without harming others. Moreover, due to a pricing externality, quantitative easing may also have beneficial general equilibrium effects for the unconstrained agents. Lastly, our model suggests that it can be optimal for the central bank to buy private debt claims instead of government debt.
    Keywords: Money; Heterogeneity; Stabilization Policy; Zero Lower Bound; Quantitative Easing
    JEL: E40 E50
    Date: 2015–09–01
  16. By: Den Haan, Wouter; Rendahl, Pontus; Riegler, Markus
    Abstract: The interaction of incomplete markets and sticky nominal wages is shown to magnify business cycles even though these two features – in isolation – dampen them. During recessions, fears of unemployment stir up precautionary sentiments which induces agents to save more. The additional savings may be used as investments in both a productive asset (equity) and an unproductive asset (money). But even a small rise in money demand has important consequences. The desire to hold money puts deflationary pressure on the economy, which, provided that nominal wages are sticky, increases wage costs and reduces firm profits. Lower profits repress the desire to save in equity, which increases (the fear of) unemployment, and so on. This is a powerful mechanism which causes the model to behave differently from both its complete markets version, and a version with incomplete markets but without aggregate uncertainty. In contrast to previous results in the literature, agents uniformly prefer non-trivial levels of unemployment insurance.
    Keywords: business cycles; heterogeneous agents; Keynesian unemployment; magnification; propagation; search friction
    JEL: E12 E24 E32 E41 J64 J65
    Date: 2015–09
  17. By: Florian Oswald (UCL)
    Abstract: This paper estimates a lifecycle model of consumption, housing choice and migration in the presence of aggregate and regional shocks, using the Survey of Income and Program Participation (SIPP). Using the model I estimate the value of the migration option and the welfare impact of policies that may restrict mobility. The option to move is equivalent to 4.4% of lifetime consumption. I also find that, were the mortgage interest-rate deduction to be eliminated, the aggregate migration rate would increase only marginally by 0.1%. Following a general equilibrium correction, house prices are reduced by 5%, which results in a 1% increase in home ownership. In a new steady state the elimination of the deduction is equivalent to an increase of 2.4% of lifecycle consumption.
    Date: 2015
  18. By: Ikeda Ryouichi (Osaka University and Tokushima University)
    Abstract: In this paper, I conducted an analytical investigation to investigate the effects of the income tax that funds unemployment benefits on the unemployment rate and the fertility rate. I took unemployment into consideration in an overlapping generations model, introducing a household in which the head of household is employed and one in which the head of household is unemployed and receiving unemployment benefits, and analyzed the effects of unemployment benefits on the numbers of the children in both households. In doing so, I developed an expression for the conditions of an increase (decrease) in the numbers of children due to an increase in the replacement rate of unemployment benefits in both the employed household and the unemployed household. I found that regardless of those conditions, an increase in the replacement rate of unemployment benefits inevitably decreased the number of the children in the whole economy. This paper is the first to show the reason for this decrease in the number of children in the whole economy due to a rise in the replacement rate of unemployed benefits and the analytical conditions of an increase (decrease) in the numbers of children in employed and unemployed households. Needless to say, unemployment benefits are important, but we also should consider the negative effects on the fertility rate to a certain degree.
    Keywords: fertility, unemployment benefits, income tax, labor union, overlapping generations model
    JEL: J13 H55 E24
    Date: 2015–09
  19. By: Tsz-Nga Wong (Bank of Canada); Pierre-Olivier Weill (UCLA); Guillaume Rocheteau (University of California, Irvine)
    Abstract: We construct a tractable model of monetary exchange with search and bargaining that features a non-degenerate distribution of money holdings in which one can study the short-run and long-run effects of changes in the money supply. While money is neutral in the long run, an unanticipated, one-time, money injections in a centralized market with flexible prices and unrestricted participation generates an increase in aggregate real balances and aggregate output, a decrease in the rate of return of money, and a redistribution of output and consumption levels across agents in the short run. Moreover, the initial impact on the price level is non-monotonic with the size of the money injection, e.g., small injections can lead to a deflation followed by inflation. We also study repeated money injections and show they can lead to higher output and higher welfare.
    Date: 2015
  20. By: Oskari Vahamaa (Department of Economics, University of Turku)
    Abstract: This paper examines how a change in layoff order can affect the decomposition and the size of unemployment in an equilibrium model where workers make optimal occupational reallocation decisions. In a calibrated model, a policy that concentrates involuntary unemployment incidences to inexperienced workers decreases workers’ incentives to reallocate, compared to an equilibrium where everyone faces an identical unemployment risk, leading also to a decrease in aggregate unemployment. Moreover, given that the human capital depreciation during unemployment spells is strong, this policy change increases the market output and on average does not harm inexperienced workers.
    Keywords: Layoff order, Occupational Mobility, Unemployment
    JEL: C71 D85
    Date: 2015–08
  21. By: Pei Kuang; Kaushik Mitra
    Abstract: A model of business cycles in which households do not have knowledge of the long-run growth of endogenous variables and continually learn about this growth is presented. The model features comovement and mutual reinforcement of households' growth expectations and market outcomes and suggests a critical role for shifting long-run growth expectations in business cycle fluctuations. There are important implications for estimating the output gap and the derived cyclically-adjusted fiscal budget balance computed by policy making institutions.
    Keywords: Trend, Expectations, Business Cycle, Output Gap, Cyclically-Adjusted Budget Balance
    JEL: E32 E62 D84
    Date: 2015–06
  22. By: Timothy Kehoe (University of Minnesota); Sewon Hur (University of Pittsburgh); Kim Ruhl (New York University Stern School of Busi); Jose Asturias (Georgetown University)
    Abstract: This paper studies the interaction between financial frictions and firm entry barriers on growth. We construct a model in which aggregate growth is driven by the continual entry of new firms that face barriers to entry and financial frictions. We find that reforms to financial frictions and entry barriers are substitutes -- once a country has enacted one type of reform, the percentage increase in GDP from the other reform decreases. We also show that economies with more severe financial frictions and entry costs have lower levels of output along the balanced growth path, even though all economies grow at the same constant rate. The model generates sharp predictions regarding entry barriers, financial frictions, and output levels, which are borne out in the cross country data.
    Date: 2015
  23. By: Antoine Le Riche (AMSE - Aix-Marseille School of Economics - EHESS - École des hautes études en sciences sociales - Centre national de la recherche scientifique (CNRS) - Ecole Centrale Marseille (ECM) - AMU - Aix-Marseille Université, GAINS - University of Maine); Francesco Magris (LEO - François Rabelais University of Tours)
    Abstract: We study an infinite horizon economy with a representative agent whose utility function includes consumption, real balances and leisure. Real balances enter the utility function pre-multiplied by a parameter reflecting the inverse of the degree of financial market imperfection, i.e. the inverse of the transaction costs justifying the introduction of money in the utility function. When labor is supplied elastically, indeterminacy arises through a transcritical and a flip bifurcation, for degree of financial imperfection arbitrarily close to zero. Similar results are observed when labor is supplied inelastically: indeterminacy occurs through a flip bifurcation for values of the degree of financial imperfection unbounded away from zero. We also study the existence and the multiplicity of the steady states.
    Keywords: bifurcations,indeterminacy,market imperfections,money demand
    Date: 2015–09
  24. By: Romei, Federica
    Abstract: This paper studies the optimal path for public debt deleveraging in a heterogeneous agents framework under incomplete financial markets. My analysis addresses two questions. What is the optimal fiscal instrument the government needs to use to reduce public debt? What is the optimal speed of public debt deleveraging? The main finding is that public debt should be reduced quickly and by cutting public expenditure. If the fiscal authority is forced to use income taxation instead, public debt deleveraging needs to be slow. Independently of fiscal instruments, the economy may end up in a liquidity trap. I show that, in my model, the zero lower bound has a redistributive effect. If the liquidity trap is very persistent, it can reallocate resources from financially constrained agents to financially unconstrained ones. Due to this mechanism, a very slow public debt reduction achieved by increasing income taxation is very costly in terms of aggregate welfare.
    Keywords: Fiscal policy, Heterogeneous agents, Public debt deleveraging
    Date: 2015
  25. By: L. Rachel Ngai; Silvana Tenreyro
    Abstract: Every year housing markets in the United Kingdom and the United States experience systematic above-trend increases in prices and transactions during the spring and summer ("hot season") and below-trend falls during the autumn and winter ("cold season"). House price seasonality poses a challenge to existing housing models. We propose a search-and-matching model with thick-market effects. In thick markets, the quality of matches increases, rising buyers' willingness to pay and sellers' desire to transact. A small, deterministic driver of seasonality can be amplified and revealed as deterministic seasonality in transactions and prices, quantitatively mimicking seasonal fluctuations in UK and US markets.
    JEL: C78 R21 R31
    Date: 2014–12
  26. By: Alok Johri; Terry Yip
    Abstract: The collapse in trade relative to GDP during 2008-09 was unusually large and also puzzling relative to the predictions of canonical two-country models. In a calibrated model of customer capital where firms must acquire a customer base before any sales can occur, we show that credit shocks can cause a fall in the trade-GDP ratio equal to 43 percent of the observed value. The key mechanism involves a reallocation of scarce marketing resources from international to domestic customers, who are acquired more cheaply. Bayesian estimation shows that financial shocks are important in accounting for recent fluctuations in the trade-GDP ratio.
    JEL: E32 F41
    Date: 2015–09
  27. By: Pablo D'Erasmo; Enrique G. Mendoza; Jing Zhang
    Abstract: The question of what is a sustainable public debt is paramount in the macroeconomic analysis of fiscal policy. This question is usually posed as asking whether the outstanding public debt and its projected path are consistent with those of the government's revenues and expenditures (i.e. whether fiscal solvency conditions hold). We identify critical flaws in the traditional approach to evaluate debt sustainability, and examine three alternative approaches that provide useful econometric and model-simulation tools to analyze debt sustainability. The first approach is Bohn's non-structural empirical framework based on a fiscal reaction function that characterizes the dynamics of sustainable debt and primary balances. The second is a structural approach based on a calibrated dynamic general equilibrium framework with a fully specified fiscal sector, which we use to quantify the positive and normative effects of fiscal policies aimed at restoring fiscal solvency in response to changes in debt. The third approach deviates from the others in assuming that governments cannot commit to repay their domestic debt, and can thus optimally decide to default even if debt is sustainable in terms of fiscal solvency. We use these three approaches to analyze debt sustainability in the United States and Europe after the recent surge in public debt following the 2008 crisis, and find that all three raise serious questions.
    JEL: E62 F34 F42 H21 H6 H87
    Date: 2015–09
  28. By: Alexander Monge-Naranjo (Federal Reserve Bank of St. Louis); Lance Lochner (University of Western Ontario)
    Abstract: Rising costs of and returns to college have led to sizeable increases in the demand for student loans in many countries. In the U.S., student loan default rates have also risen for recent cohorts as labor market uncertainty and debt levels have increased. We discuss these trends as well as recent evidence on the extent to which students are able to obtain enough credit for college and the extent to which they are able to repay their student debts after. We then discuss optimal student credit arrangements that balance three important objectives: (i) providing credit for students to access college and finance consumption while in school, (ii) providing insurance against uncertain adverse schooling or post-school labor market outcomes in the form of income-contingent repayments, and (iii) providing incentives for student borrowers to honor their loan obligations (in expectation) when information and commitment frictions are present. Specifically, we develop a two-period educational investment model with uncertainty and show how student loan contracts can be designed to optimally address incentive problems related to moral hazard, costly income verification, and limited commitment by the borrower. We also survey other research related to the optimal design of student loan contracts in imperfect markets. Finally, we characterize key features of efficient student loan programs that provide insurance while addressing information and commitment frictions in the market.
    Date: 2015
  29. By: Gustavo Ventura (Arizona State University); Andrii Parkhomenko (Univesitat Autonoma de Barcelona); Nezih Guner (Universitat Autonoma de Barcelona)
    Abstract: We document that mean earnings of managers grow faster than for non managers over the life cycle for a group of high-income countries. Furthermore, we find that the growth of earnings for managers (relative to non managers) is positively correlated with output per worker across these countries. We interpret this evidence through the lens of an equilibrium span-of control model where managers invest in their skills. Central to our analysis is a complementarity between skills and investments in the production of new managerial skills that amplifies initial differences in skills over the life cycle. We discipline model parameters with observations on managerial earnings over the life cycle and the size-distribution of plants in the United States, and then use our framework to quantify the importance of (i) lower exogenous productivity differences, and (ii) the size-dependent distortions emphasized in recent literature. Our findings show that both of these factors reduce managerial investments and lead to a lower earnings growth of managers relative to non managers. We also specialize the framework to evaluate the relative contribution of exogenous productivity versus size-dependent distortions for output and plant-size differences between the U.S. and Japan. Our results show that exogenous productivity differences account for about 80% of the output gap between these two countries. Size-dependent distortions are responsible for nearly all differences in plant size.
    Date: 2015
  30. By: José Ramón García; Valeri Sorolla
    Abstract: With the standard Diamond-Mortensen-Pissarides labor market with frictions we analyze when there is more employment with individual wage setting compared to collective wage setting, using a wage equation generated by the standard total surplus sharing rule. Using a Cobb-Douglas production function we findnd that if the bargaining power of the individual is high compared to the bargaining power of the union there is more unemployment with individual wage setting and the opposite is also true. When the individual worker and the union have the same bargaining power, if the cost of open a vacancy is high enough, there is more unemployment with individual wage setting. Finally, for a constant marginal product of labor production function AL, when the individual worker and the union have the same bargaining power, individual bargaining produces more unemployment.
    Keywords: Matching Frictions, Unemployment, Individual and Collective Wage Setting.
    JEL: E24 O41
    Date: 2015–09–07
  31. By: van den Berg, Gerar J. (IFAU - Institute for Evaluation of Labour Market and Education Policy); van der Klaauw, Bas (Department of Economics, University of Amsterdam)
    Abstract: To evaluate search effort monitoring of unemployed workers, it is important to take account of post-unemployment wages and job-to-job mobility. We structurally estimate a job search model with endogenous job search effort by the unemployed along various search channels that deals with this. The data are from an experiment in the Netherlands in which the extent of monitoring is randomized. They include registers of post-unemployment outcomes like wages and job mobility, and survey data on measures of search behavior. As such we are the first to study monitoring effects on post-unemployment outcomes. Once employed, individuals have the opportunity to further improve their position by moving to better-paid jobs, and we find that this reduces the extent to which monitoring induces substitution towards formal search channels in unemployment. In general, job mobility compensates for adverse long-run effects of monitoring on wages. We use the structural estimates to compare monitoring to counterfactual policies against moral hazard, like re-employment bonuses and changes in the unemployment benefits path. Replacing monitoring by an over-all benefits reduction in a way that is neutral to the worker results in slightly smaller effects with lower administrative costs.
    Keywords: Unemployment duration; search effort; active labor market policy; wage; job duration; job mobility; treatment; search channels; multi-tasking; randomized social experiment
    JEL: J23
    Date: 2015–08–25
  32. By: Ariel Zetlin-Jones (Carnegie Mellon University); Burton Hollifield (Carnegie Mellon University)
    Abstract: In practice, bank liablities circulate, acting as inside money. What are the implications of the usefulness of these liabilities to facilitate trade for the bank's choice of maturity structure? Suppose that a bank finances illiquid long term real assets with long and short term financial claims. The households purchasing these claims use them as inside money to trade in a sequence of decentralized markets. Trade in decentralized markets is subject to search frictions as in Rocheteau and Wright (2005). The maturity structure of the bank's financial claims impacts their usefulness in facilitating trade and the bank's costs from liquidating long term real assets. Too much short-term money leads to excessive early liquidation of real long term assets, reducing the ability of inside money to facilitate trade in decentralized markets. Too much long-term money leads to too little costly liquidation of real assets, also reducing the ability of the inside money to facilitate decentralized exchange. The optimal maturity structure minimizes the cost of asset liquidation and maximizes the usefulness of the bank's claims in facilitating trade. We examine how the severity of the search frictions, the cost of early reversals, and the riskiness of the long-term real assets impact optimal maturity of the bank's inside money.
    Date: 2015
  33. By: Julien Prat (CREST); Winfried Koeniger (University of St.Gallen)
    Abstract: We characterize optimal redistribution in a dynastic family model with human capital. We show how the government can affect the trade-off between equality and incentives by changing the amount of observable human capital. We provide an intuitive decomposition for the wedge between human-capital investment in the laissez faire and the social optimum. This wedge differs from the wedge for bequests because: (i) returns to human capital depend on the non-insurable risk associated with children's abilities, (ii) human capital may improve or worsen the incentive problem depending on its degree of complementarity with innate ability.
    Date: 2015
  34. By: Chao Wei (George Washington University); Shanjun Li (Cornell University)
    Abstract: During the recent economic crisis, many countries have adopted stimulus programs designed to achieve two goals: to stimulate economic activity in lagging durable goods sectors and to protect or even enhance environmental quality. The environmental benefits are often viewed and much advocated as co-benefits of economic stimulus. This paper investigates the potential tradeoff between the stimulus and environmental objectives in the context of the popular U.S. Cash-for-Clunkers (CFC) program by developing and estimating a dynamic discrete choice model of vehicle ownership. Results from counterfactual analysis based on several specifications all show that the design elements to achieve environmental benefits significantly limit the program impact on demand stimulus: the cost of vehicle demand stimulus after netting out environmental benefits can be up to 77 percent higher under the program than that from an alternative policy design without the design elements aimed at the environmental objective.
    Date: 2015

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