nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2016‒02‒23
25 papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Solution Methods for Models with Rare Disasters By Fernández-Villaverde, Jesús; Levintal, Oren
  2. Growth, Water Resilience, and Sustainability: A DSGE Model Applied to South Africa By Li, Chuan-Zhong; Bali Swain, Ranjula
  3. Bubble-driven business cycles By Larin, Benjamin
  4. Worker flows and job flows: a quantitative investigation By Fujita, Shigeru; Nakajima, Makoto
  5. Policy Uncertainty and the Cost of Delaying Reform: A case of aging Japan By KITAO Sagiri
  6. The Role of Productivity Growth Rates for Rising Inequality in an Economy with Heterogeneous Agents By Atsumasa Kondo
  7. Estimation of DSGE models: Maximum Likelihood vs. Bayesian methods By Mickelsson, Glenn
  8. Participation, Recruitment Selection, and the Minimum Wage: Online Appendix Dynamics and directed search By Frédéric Gavrel
  9. The Dynamics of Adjustable-Rate Subprime Mortgage Default: A Structural Estimation By Fang, Hanming; Kim, You Suk; Li, Wenli
  10. On the Desirability of Capital Controls By Heathcote, Jonathan; Perri, Fabrizio
  11. Participation, Recruitment Selection, and the Minimum Wage By Frédéric Gavrel
  12. Preservation of Agricultural Soils with Endogenous Stochastic Degradation By Lucas Bretschger; Alexandra Vinogradova
  13. 中国财政政策调整的宏观经济效应——基于消费者异质性的新凯恩斯模型 By Guo, Lingyi; Xu, Wenli; Xu, Kun
  14. Demonstration Effect and Dynamic Efficiency By Thibault, Emmanuel
  15. Do differences in international labor mobility lead to differences in the fiscal multiplier? A theoretical approach By Pfammatter, Andrea Corina
  16. Rational Bubbles and Economic Crises: A Quantitative Analysis By Domeij, David; Ellingsen, Tore
  17. Duplicative Search By Matros, Alexander; Smirnov, Vladimir
  18. The impact of disembodied technological progress on working hours By Tesfaselassie, Mewael F.
  19. Money and monetary policy in Israel during the last decade By Benchimol, Jonathan
  20. Investment Price Rigidities and Business Cycles By Moura, Alban
  21. What are the determinants of hiring? The role of demand and supply factors By Eriksson, Stefan; Stadin, Karolina
  22. Endogenous information revelation in a competitive credit market and credit crunch By Yuanyuan Li; Bertrand Wigniolle
  23. Terms of Trade Shocks and Investment in Commodity-Exporting Economies By Jorge Fornero; Markus Kirchner; Andrés Yany
  24. A dynamic optimal execution strategy under stochastic price recovery By Masashi Ieda
  25. Aging in Europe: Reforms, international diversification and behavioral reactions By Börsch-Supan, Axel; Härtl, Klaus; Ludwig, Alexander

  1. By: Fernández-Villaverde, Jesús; Levintal, Oren
    Abstract: This paper compares different solution methods for computing the equilibrium of dynamic stochastic general equilibrium (DSGE) models with rare disasters along the line of those proposed by Rietz (1988), Barro (2006}, Gabaix (2012), and Gourio (2012). DSGE models with rare disasters require solution methods that can handle the large non-linearities triggered by low-probability, high-impact events with sufficient accuracy and speed. We solve a standard New Keynesian model with Epstein-Zin preferences and time-varying disaster risk with perturbation, Taylor projection, and Smolyak collocation. Our main finding is that Taylor projection delivers the best accuracy/speed tradeoff among the tested solutions. We also document that even third-order perturbations may generate solutions that suffer from accuracy problems and that Smolyak collocation can be costly in terms of run time and memory requirements.
    Keywords: DSGE models; perturbation; rare disasters; Smolyak; solution methods; Taylor projection
    JEL: C63 C68 E32 E37 E44 G12
    Date: 2016–02
  2. By: Li, Chuan-Zhong (Department of Economics); Bali Swain, Ranjula (Department of Economics)
    Abstract: In this paper, we analyze a dynamic stochastic general equilibrium model on how water resilience a¤acts economic growth and dynamic welfare with special reference to South Africa. While water may become a limiting factor for future development in general, as a drought prone and water poor country with rapid population growth, South Africa may face more serious challenges for sustainable development in the future. Using the model, we conduct numerical simulation for di¤erent parameter configurations with varying discount rate, climate change assumption, and the degree of uncertainty in future precipitation. We find that with sufficient capital accumulation, development can still be made sustainable despite of increased future water scarcity and decreased long-run sustianable welfare; While sto- chastic variation in precipitation has a negatively e¤ect on water resilience and the expected dynamic welfare, the effect is mitigated by persistence in the precipitation pattern. With heavier time discounting and lower capital formation, however, the current welfare may not be sustained.
    Keywords: Water resilience; growth; dynamic Welfare; sustainability
    JEL: D60 O40 O55 Q25
    Date: 2014–12–19
  3. By: Larin, Benjamin
    Abstract: The 2007-2008 financial crisis highlighted that a turmoil in the financial sector including bursting asset price bubbles can cause pronounced and persistent fluctuations in real economic activity. This justifies the consideration of evolving and bursting asset price bubbles as another source of fluctuations in business cycle models. In this paper rational asset price bubbles are incorporated into a life-cycle RBC model as first developed by Ríos-Rull (1996). The calibration of the model to the post-war US economy and the numerical solution show that the model is able to depict plausible bubble-driven business cycles. In particular, the model generates i) a higher and empirically more plausible volatility of consumption at the cost of ii) a lower and empirically less plausible contemporaneous correlation of consumption with output than the life-cycle RBC model without bubbles.
    Keywords: Computable General Equilibrium,Bubble,Asset Price,Real Activity
    JEL: D58 E32 E44
    Date: 2016
  4. By: Fujita, Shigeru (Federal Reserve Bank of Philadelphia); Nakajima, Makoto (Federal Reserve Bank of Philadelphia)
    Abstract: This paper studies quantitative properties of a multiple-worker firm search/matching model and investigates how worker transition rates and job flow rates are interrelated. We show that allowing for job-to-job transitions in the model is essential to simultaneously account for the cyclical features of worker transition rates and job flow rates. Important to this result are the distinctions between the job creation rate and the hiring rate and between the job destruction rate and the layoff rate. In the model without job-to-job transitions, these distinctions essentially disappear, thus making it impossible to simultaneously replicate the cyclical features of both labor market flows.
    Keywords: Job flows; Worker flows; Multiple-worker firm; and Search and matching
    JEL: E24 E32 J63 J64
    Date: 2016–02–05
  5. By: KITAO Sagiri
    Abstract: In an economy with aging demographics and a generous pay-as-you-go social security system established decades ago, reform to reduce benefits is inevitable unless there is a major increase in taxes. Often times, however, there is uncertainty about the timing and structure of reform. This paper explicitly models policy uncertainty associated with a social security system in an aging economy and quantifies economic and welfare effects of uncertainty as well as costs of delaying reform. Using the case of Japan, which faces the severest demographic and fiscal challenges, we show that uncertainty can significantly affect economic activities and welfare. Delaying reform or reducing its scope involves a sizeable welfare tradeoff across generations, in which middle to old-aged individuals gain the most at the cost of young and future generations.
    Date: 2016–02
  6. By: Atsumasa Kondo
    Abstract: This paper examines the dynamic properties of equilibrium paths in a simple general equilibrium model with heterogeneous agents. Heterogeneity is characterized by productivity growth rates in addition to the discount factors of agents for their future utilities. The consumption levels of impatient agents converge to 0 as time passes if their discount factors are sufficiently small and their productivity growth rates are not too high. The result can be interpreted as the emergence of rising inequality. The sufficient conditions can be reworded as follows: the discount factors of impatient agents are smaller than the "market's long-term discount factor", i.e., 1/(1+r).
    Keywords: inequality, heterogeneous agents, productivity growth rates, discount factors JEL Classification Numbers: D24, D31
  7. By: Mickelsson, Glenn (Department of Economics)
    Abstract: DSGE models are typically estimated using Bayesian methods, but a researcher may want to estimate a DSGE model with full information maximum likelihood (FIML) so as to avoid the use of prior distributions. A very robust algorithm is needed to find the global maximum within the relevant parameter space. I suggest such an algorithm and show that it is possible to estimate the model of Smets and Wouters (2007) using FIML. Inference is carried out using stochastic bootstrapping techniques. Several FIML estimates turn out to be significantly diffrent from the Bayesian estimates and the reasons behind those differences are analyzed.
    Keywords: Bayesian methods; Maximum likelihood; Business Cycles; Estimate DSGE models
    JEL: C11 E32 E32 E37
    Date: 2015–12–22
  8. By: Frédéric Gavrel (CREM - Centre de Recherche en Economie et Management - CNRS - Centre National de la Recherche Scientifique - Université de Caen Basse-Normandie - UR1 - Université de Rennes 1)
    Abstract: This note proves that results extend to a dynamic setting. It also shows that laissez-faire is efficient when wages are derived from directed search in lieu of Nash bargaining.
    Keywords: Search and matching,heterogeneous workers,applicant ranking,public policies,efficiency
    Date: 2015
  9. By: Fang, Hanming (University of Pennsylvania); Kim, You Suk (Board of Governors of the Federal Reserve System (U.S.)); Li, Wenli (Federal Reserve Bank of Philadelphia)
    Abstract: We present a dynamic structural model of subprime adjustable-rate mortgage (ARM) borrowers making payment decisions taking into account possible consequences of different degrees of delinquency from their lenders. We empirically implement the model using unique data sets that contain information on borrowers' mortgage payment history, their broad balance sheets, and lender responses. Our investigation of the factors that drive borrowers' decisions reveals that subprime ARMs are not all alike. For loans originated in 2004 and 2005, the interest rate resets associated with ARMs, as well as the housing and labor market conditions were not as important in borrowers' delinquency decisions as in their decisions to pay off their loans. For loans originated in 2006, interest rate resets, housing price declines, and worsening labor market conditions all contributed importantly to their high delinquency rates. Counterfactual policy simulations reveal that even if the Libor rate could be lowered to zero by aggressive traditional monetary policies, it would have a limited effect on reducing the delinquency rates. We find that automatic modification mortgage designs under which the monthly payment or the principal balance of the loans are automatically reduced when housing prices decline can be effective in reducing both delinquency and foreclosure. Importantly, we find that automatic modification mortgages with a cushion, under which the monthly payment or principal balance reductions are triggered only when housing price declines exceed a certain percentage may result in a Pareto improvement in that borrowers and lenders are both made better off than under the baseline, with a lower delinquency and foreclosure rates. Our counterfactual analysis also suggests that limited commitment power on the part of the lenders to loan modification policies may be an important reason for the relatively small rate of modifications observed during the housing crisis.
    Keywords: Adjustable-Rate Mortgage; Automatic Modification with a Cushion; Default; Loan Modification
    JEL: D12 D14 G2 G21 G33
    Date: 2015–12–18
  10. By: Heathcote, Jonathan (Federal Reserve Bank of Minneapolis); Perri, Fabrizio (Federal Reserve Bank of Minneapolis)
    Abstract: In a standard two-country international macro model, we ask whether imposing restrictions on international non contingent borrowing and lending is ever desirable. The answer is yes. If one country imposes capital controls unilaterally, it can generate favorable changes in the dynamics of equilibrium interest rates and the terms of trade, and thereby benefit at the expense of its trading partner. If both countries simultaneously impose capital controls, the welfare effects are ambiguous. We identify calibrations in which symmetric capital controls improve terms of trade insurance against country-specific shocks and thereby increase welfare for both countries.
    Keywords: Capital controls; Terms of trade; International risk sharing
    JEL: F32 F41 F42
    Date: 2016–01–15
  11. By: Frédéric Gavrel (CREM - Centre de Recherche en Economie et Management - CNRS - Centre National de la Recherche Scientifique - Université de Caen Basse-Normandie - UR1 - Université de Rennes 1)
    Abstract: This paper reexamines the efficiency of participation with heterogeneous workers in a search-matching model with bargained wages and free entry. Assuming that firms hire their best applicants, we show that participation is always too low. The reason for this is a holdup phenomenon: To be active, a worker must pay the entire search cost whereas part of the gain from this investment goes to the firm. As a consequence, introducing a (small) minimum wage raises participation, job creation, and employment. Therefore, net aggregate income of the economy is increased.. † I am indebted to two anonymous referees for very helpful comments and suggestions. The usual caveat applies. Til Emma med kjaerlighet. 1
    Keywords: efficiency ,Search and matching,heterogeneous workers,applicant ranking,public policies
    Date: 2015
  12. By: Lucas Bretschger (ETH Zurich, Switzerland); Alexandra Vinogradova (ETH Zurich, Switzerland)
    Abstract: Soils are often subject to environmental shocks which are caused by negative extern- alities linked to overexploitation. We present a stochastic model of a dynamic agricultural economy where natural disasters are sizeable, multiple, and random. Expansion of agricultural activities raises e¤ective soil units (an index of quality and quantity) but contributes to an aggregate loss of soil-protective ecosystem services, which increases the extent of soil degradation at the time of a shock. We provide closed-form analytical solutions and show that optimal development is characterized by a constant growth rate of effective soil units and crop consumption until an environmental shock arrives causing both variables to jump downwards. Optimal policy consists of spending a constant fraction of output on soil preservation. This fraction is an increasing function of the shocks arrival rate, degradation intensity of agricultural practices, and the damage intensity of environmental impact. Implications for the optimal propensity to save are also discussed. An extension of the model provides a solution for the optimal preservation policy when both the hazard rate and damages are endogenous.
    Keywords: Soil conservation, stochastic degradation, agriculture, environment, uncertainty, natural disasters
    JEL: Q18 Q54 O13 O44
    Date: 2016–02
  13. By: Guo, Lingyi; Xu, Wenli; Xu, Kun
    Abstract: This paper construct the NK model with Cosummer’s Heterogenicity included three sectors, in which government is divided into three type of fiscal sector, social security department and central bank. The tax shocks, social security fees rate shock and fiscal expenditure shock are incorporated with the NK model to explord the contribution and the dynamic effect of the fiscal policy shocks on macroeconomic volatility. The results show that (1) the shocks of good taxation contribute most in real economy than the shocks of other fiscal policy, and the size of contribution on macroeconomic volatility is 65%; (2) reducing of the tax rates, social security fees rate and fiscal spending stimulate economic growth, and it is more important that cutting the tax rate of labour income and lowering social security fees rate are better measures; (3) cutting tax rates and lowering of social security fees rate improve the fiscal sustainability; (4)the inflation is a joint monetary-fiscal phenomenon. On this basis, this paper propose that government should adopt active tax and fee policies---cutting labour income taxation rate and lower social security fees rate, to spur stable economic growth, simultaneously raise benchmark interest rate to prevent inflation.
    Keywords: NK model; Tax Policies Shocks; Social Security Fees Rate Shock; Fiscal Expenditure shocks; Macroeconomic Effect
    JEL: E62 H3
    Date: 2016–01–15
  14. By: Thibault, Emmanuel
    Abstract: We show that contrary to conventional wisdom intergenerational family transfers dominate fiscal policies as a remedy to the dynamic inefficiency arising in a Diamond (1965, American Economic Review) economy with logarithmic utility and Cobb-Douglas technology. Using the demonstration-effect approach popularized by Cox and Stark (2005, Journal of Public Economics), we prove that, differently from public debt, family transfers can serve the role of automatic stabilizers. Indeed, they are nil under dynamic efficiency, implying that both capital accumulation and welfare are not worsened. They are positive under dynamic inefficiency, and instrumental to depress capital accumulation so to approach the Golden Rule capital stock.
    Keywords: OLG model, Dynamic efficiency, Intergenerational family transfers.
    JEL: C62 D91 O41
    Date: 2016–01
  15. By: Pfammatter, Andrea Corina
    Abstract: A real business cycle economy with endogenous labor supply and heterogeneous households is modeled. I allow for different degrees of labor migration to assess potential differences in the effects of changes in government consumption on aggregate economic activity. I argue that a relatively elastic labor migration with respect to economic activity may have a positive effect on the effectiveness of fiscal policy because labor migration may influence labor market adjustments after a positive government consumption shock. The findings suggest that there is a positive relationship between labor migration elasticity and the size of the fiscal multiplier. However, whether the relationship is economically meaningful is uncertain and requires further research.
    Keywords: Fiscal multiplier, fiscal policy, RBC model, international labor migration
    JEL: F22 F44 H3 J61
    Date: 2015–09–28
  16. By: Domeij, David (Dept. of Economics); Ellingsen, Tore (Dept. of Economics)
    Abstract: We extend the Bewley-Aiyagari-Huggett model by incorporating an incomplete stock market and a persistent income process. In this quantitative general equilibrium framework, non-fundamental asset values are both large and desirable for realistic parameter values. However, if expectations shift from one equilibrium to another, some markets may crash as others soar. In the presence of nominal assets and contracts, such movements can be highly detrimental. Our analysis is consistent with the view that some of the world’s large recessions were caused by an avoidable failure of monetary and fiscal policy to prevent deflation in the aftermath of bursting asset price bubbles.
    Keywords: Bubbles; Incomplete Markets; Depressions; Fiscal Policy; Monetary Policy
    JEL: E31 E32 E41 E63
    Date: 2015–02–13
  17. By: Matros, Alexander; Smirnov, Vladimir
    Abstract: In this paper we examine the dynamic search of two rivals looking for a prize of known value that is hidden in an unknown location, modeled as search for treasure on an island. In every period, the players choose how much to search of the previously unsearched portion of the island in a winner-takes-all contest. If the players cannot coordinate so as to avoid searching the same locations, the unique equilibrium involves complete dissipation of rents. On the other hand, if the players have some (even limited) ability to coordinate so as to avoid duplicative search and the search area is sufficiently small, there is a unique equilibrium in which the full area is searched and each player earns a positive expected return.
    Keywords: R&D; search; duplication; uncertainty; coordination
    Date: 2016–01
  18. By: Tesfaselassie, Mewael F.
    Abstract: The paper analyzes the effects of disembodied technological progress on steady state hours worked in the workhorse New-Keynesian model, which features a neoclassical labor market, and its extension that allows for equilibrium unemployment. Both versions of the model are shown to imply a positive effect of growth on hours. Thus they can rationalize the long-term trend decline in productivity growth and the average number of hours per person observed across major industrialized countries during the postwar period. In the workhorse model slower growth decreases hours worked by reducing the effective discount rate and thus increasing the price markup, which acts like a tax hike on labor supply. This effect vanishes when the inflation rate is zero, because of the constancy of the price markup. In the extended version, the price markup effect interacts with a negative capitalization effect, whereby slower growth decreases hours by reducing the effective discount rate and in turn increasing employment and the marginal rate of substitution between consumption and hours.
    Keywords: productivity growth,working hours,employment,nominal price rigidity,trend inflation
    JEL: E24 E31
    Date: 2016
  19. By: Benchimol, Jonathan
    Abstract: This study examines how money and monetary policy have influenced output and inflation during the past decade in Israel by comparing two New Keynesian DSGE models. One is a baseline separable model (Galí, 2008) and the other assumes non-separable household preferences between consumption and money (Benchimol & Fourçans, 2012). We test both models by using rolling window Bayesian estimations over the last decade (2001–2013). The results of the presented dynamic analysis show that the sensitivity of output with respect to money shocks increased during the Dot-com, Intifada, and Subprime crises. The role of monetary policy increased during these crises, especially with regard to inflation, even though the effectiveness of conventional monetary policy decreased during the Subprime crisis. In addition, the non-separable model including money provides lower forecast errors than the baseline separable model without money, while the influence of money on output fluctuations can be seen as a good predictive indicator of bank and debt risks. By impacting and monitoring households’ money holdings, policy makers could improve their forecasts and crisis management through models considering monetary aggregates.
    Keywords: Divisia monetary aggregates; Monetary policy; DSGE; Crises; Israel
    JEL: E31 E32 E37 E51 E52 E58
    Date: 2016–02–09
  20. By: Moura, Alban
    Abstract: I incorporate investment price rigidity in a two-sector monetary model of business cycles. Fit to quarterly U.S. time series, the model suggests that price sluggishness in the investment sector is the single most empirically relevant friction to match the data. Sticky investment prices constitute an important propagation mechanism to understand the sources of aggregate fluctuations, the dynamic effects of technology shocks, and the properties of the relative price of investment goods.
    Keywords: multisector DSGE model, investment price stickiness, relative price of investment
    JEL: E3 E5
    Date: 2015–11
  21. By: Eriksson, Stefan (Department of Economics, Uppsala University); Stadin, Karolina (Department of Economics, Uppsala University)
    Abstract: In this paper, we study the relative importance of demand and supply factors for hiring. We use a search-matching model with imperfect competition in the product market to derive an equation for total hiring in a local labor market and estimate it on Swedish panel data. If product markets are imperfectly competitive, product demand shocks should have a direct effect on employment. Our main finding is that product demand is important for hiring. This highlights the importance of taking imperfect competition in the product market into account in studies of employment dynamics and hiring. We also find that the number of unemployed workers has a positive effect on hiring, confirming the importance of search frictions. Hence, both demand and supply factors seem to matter for hiring.
    Keywords: Hiring; search-matching; imperfect competition; unemployment
    JEL: E24 J23 J64
    Date: 2015–06–17
  22. By: Yuanyuan Li (University of Bielefeld and Centre d'Economie de la Sorbonne); Bertrand Wigniolle (Centre d'Economie de la Sorbonne - Paris School of Economics)
    Abstract: In this paper, we propose a new mechanism able to explain the occurrence of credit crunches. Considering a credit market with an asymmetry of information between borrowers and lenders, we assume that borrowers have to pay a cost to reveal information on the quality of their project. They decide to be transparent if it is necessary for getting a loan or for paying a lower interest rate. Two types of competitive equilibria may exist: an opaque equilibrium in which all projects receive funding without revealing information; a transparent one in which only the best projects reval information and receive funding. It is also possible to get multiple equilibria. Incorporating this microeconomic mechanism in an OLG model, the economy may experience fluctuations due to the change of regime, and indeterminacy may occur
    Keywords: Credit crunch; endogenous information revelation
    JEL: D82 D9 G14 O16 O41
    Date: 2016–01
  23. By: Jorge Fornero; Markus Kirchner; Andrés Yany
    Abstract: We study the effects of commodity price shocks in small open commodity-exporting economies, focusing on metals prices and their impact on sectoral investment. First, using a standard SVAR approach, we conduct estimations for major commodity exporters (Australia, Canada, Chile, New Zealand, Peru and South Africa) to identify general cross-country patterns. Second, we use a DSGE model for Chile to study the propagation channels of commodity price changes and to implement counterfactual policy exercises. Our results suggest expansionary effects of commodity price increases in most countries, driven by positive responses of commodity investment that spill over to non-commodity sectors. The magnitude of these responses depends mainly on the size of the share of commodity exports and on the degree of persistency of the shock. Finally, our policy exercises highlight the importance of flexible inflation targeting, floating exchange rates and structural fiscal rules to efficiently manage commodity price volatility.
    Date: 2016–01
  24. By: Masashi Ieda
    Abstract: In the present paper, we study the optimal execution problem under stochastic price recovery based on limit order book dynamics. We model price recovery after execution of a large order by accelerating the arrival of the refilling order, which is defined as a Cox process whose intensity increases by the degree of the market impact. We include not only the market order but also the limit order in our strategy in a restricted fashion. We formulate the problem as a combined stochastic control problem over a finite time horizon. The corresponding Hamilton-Jacobi-Bellman quasi-variational inequality is solved numerically. The optimal strategy obtained consists of three components: (i) the initial large trade; (ii) the unscheduled small trades during the period; (iii) the terminal large trade. The size and timing of the trade is governed by the tolerance for market impact depending on the state at each time step, and hence the strategy behaves dynamically. We also provide competitive results due to inclusion of the limit order, even though a limit order is allowed under conservative evaluation of the execution price.
    Date: 2015–02
  25. By: Börsch-Supan, Axel; Härtl, Klaus; Ludwig, Alexander (Munich Center for the Economics of Aging (MEA))
    Abstract: The extent of demographic changes in Europe and Asia is much more drastic than in the US. This paper studies the effects of population aging on the interactions between economic growth and living standards in Europe with labor market and pension reform, behavioral adaptations, and international capital flows. Our analysis is based on an overlapping generations model with behavioral reactions to reform which is extended to the multi-country situation typical for Europe. While the negative effects of population aging on growth in Europe can in principle be compensated by reforms and economic adaptation mechanisms, they may be partially offset by behavioral reactions.
    JEL: J11 J21 D13 E27 H55 F16 F21
    Date: 2014–05–15

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