nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2016‒10‒09
33 papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. What order? Perturbation methods for stochastic volatility asset pricing and business cycle models By Oliver de Groot
  2. Search-and-matching frictions and labor market dynamics in Latvia By Buss, Ginters
  3. Oil and Unemployment in a New-Keynesian Model By Verónica Acurio Vásconez
  4. Unemployment Insurance and Unemployment Volatility By Pontus Rendahl; Renato Faccini
  5. Search, Matching and Training By Christopher J. Flinn; Ahu Gemici; Steven Laufer
  6. On the interplay between speculative bubbles and productive investment By Xavier Raurich; Thomas Seegmuller
  7. R.E.M. 2.0, An estimated DSGE model for Romania By Copaciu, Mihai,; Nalban, Valeriu,; Bulete, Cristian
  8. An Improved Auxiliary Particle Filter for Nonlinear Dynamic Equilibrium Models By Yang, Yuan; Wang, Lu
  9. Aggregate Recruiting Intensity By Gavazza, Alessandro; Mongey, Simon; Violante, Giovanni L.
  10. Macroeconomic Effects of Financial Shocks: Comment By Pfeifer, Johannes
  11. A unified framework for optimal taxation with undiversifiable risk By Catarina Reis; Vasia Panousi
  12. Income Inequality, Medical Conditions, and Household Bankruptcy By Youngsoo Jang
  13. Do Financial Frictions Explain Chinese Firms’ Saving and Misallocation By Xu Tian; Dan Lu; Yan Bai
  14. Intertemporal equilibrium with heterogeneous agents, endogenous dividends and borrowing constraints By Stefano Bosi; Cuong Le Van; Ngoc-Sang Pham
  15. Dynamic Directed Random Matching By Duffie, Darrell; Qiao, Lei; Sun, Yeneng
  16. Secular stagnation? Growth, asset returns and welfare in the next decades: First results By Geppert, Christian; Ludwig, Alexander; Abiry, Raphael
  17. Incomplete Markets and Aggregate Demand By Ivan Werning
  18. Quelle prise en compte des caractéristiques nationales dans les mesures macro-prudentielles en zone euro? By Jean-Christophe Poutineau; Gauthier Vermandel
  19. Global macroeconomic effects of exiting from unconventional monetary policy By Pietro Cova; Patrizio Pagano; Massimiliano Pisani
  20. Why Are Exchange Rates So Smooth? A Segmented Asset Markets Explanation By Chien, YiLi; Lustig, Hanno; Naknoi, Kanda
  21. Animal Spirits in Open Economy: An Interaction-Based Approach to Bounded Rationality By Jang, Tae-Seok
  22. What if oil is less substitutable? A New-Keynesian Model with Oil, Price and Wage Stickiness including Capital Accumulation By Verónica Acurio Vásconez
  23. Secular Stagnation, Rational Bubbles, and Fiscal Policy By Coen N. Teulings
  24. Financial Frictions, Asset Prices, and the Great Recession By Huo, Zhen; Ríos-Rull, José-Víctor
  25. Two-sided Search in International Markets By James Tybout; David Jinkins; Daniel Yi Xu; Jonathan Eaton
  26. The I Theory of Money By Brunnermeier, Markus K.; Sannikov, Yuliy
  27. Optimal disaster-preventive expenditure in a dynamic and stochastic model By Takumi Motoyama
  28. Child labour ban versus Education subsidy in a model with learning by doing effect in unskilled work By Chakraborty, Kamalika; Chakraborty, Bidisha
  29. Understanding the New Normal : The Role of Demographics By Etienne Gagnon; Benjamin K. Johannsen; J. David Lopez-Salido
  30. Will increase in size of landholding reduce child labour in presence of unemployment? A theoretical analysis By Chakraborty, Kamalika; Chakraborty, Bidisha
  31. Monetary Policy Rule, Exchange Rate Regime, and Fiscal Policy Cyclicality in a Developing Oil Economy By Algozhina, Aliya
  32. Self-fulfilling deflations By Roberto Piazza
  33. Understanding Severance Pay Determination: Mandates, Bargaining, and Unions By Samuel Danthine; Markus Poschke; Stephane Auray

  1. By: Oliver de Groot (School of Economics and Finance, University of St Andrews)
    Abstract: When a DSGE model features stochastic volatility, is a third-order perturbation approximation sufficient? The answer is often no. A key parameter - the standard deviation of stochastic volatility innovations - does not appear in the coefficients of the decision rules of endogenous variables until a fourth- or sixth-order perturbation approximation (depending on the functional form of the stochastic volatility process). This paper shows analytically this general result and demonstrates, using three models, that important model moments can be imprecisely measured when the order of approximation is too low. i) In the Bansal-Yaron long-run risk model, the equity risk premium rises from 4.5% to 10% by going to sixth-order. ii) In a workhorse real business cycle model, the welfare cost of business cycles also rise when a fourth-order approximation properly accounts for the presence of stochastic volatility. iii) In a canonical New-Keynesian model, the risk-aversion parameter can be lowered while matching the term premium when a fourth-order approximation is used.
    Keywords: Numerical solution methods, Time-varying uncertainty, Equity premium, DSGE models, Welfare
    JEL: C63 C68 E32
    Date: 2016–09–07
  2. By: Buss, Ginters
    Abstract: This paper examines, in an estimated, full-fledged New Keynesian DSGE model with Nash wage bargaining, sticky wage and high value of leisure akin to Christiano, Trabandt and Walentin (2011), whether search-and-matching frictions in labor market can explain aggregate labor market dynamics in Latvia. If vacancies are not observed, the model can, to a reasonable degree, generate realistic variance and dynamics of unemployment, and the correlation between unemployment and (latent) vacancies, but at the expense of too volatile vacancies. As a by-product, one-quarter ahead forecasts of hours worked and GDP exhibit less excess volatility and thus are more precise, compared to a model without search-and-matching frictions. However, if both unemployment and vacancies are observed and a shock to the matching efficiency is allowed for, then the cyclical behavior of forecasted vacancies - and the correlation between unemployment and vacancies - tends to counter the data (to the benefit of better fit of vacancies’ volatility), and the smoothed matching efficiency is counter-intuitively counter-cyclical. Hence the model cannot fit the three statistics - variance of unemployment and vacancies, and the correlation between the two - simultaneously.
    Keywords: DSGE model, unemployment, small open economy, Bayesian estimation, currency union, forecasting
    JEL: E0 E3 F0 F4 G0 G1
    Date: 2015–09
  3. By: Verónica Acurio Vásconez (CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique)
    Abstract: The effects of oil shocks in inflation and growth have been widely discussed in the literature, however few have focused on the impact of oil price increases on unemployment. In order to shed some light on this problem, this paper develops a medium scale Dynamic Stochastic General Equilibrium model (DSGE) that allows for oil utilization in production and consumption as in Acurio-Vásconez (2015); unemployment as in Mortensen & Pissarides (1994); and staggered nominal wage contracting as in Gertler & Trigari (2009). It then analyzes the effects of oil price increases on the economy. The model recovers most of the well-known stylized facts observed after the oil shock in the 2000s'. A sensitivity analysis shows that the reduction of the bargaining power of households to negotiate wage contracts reduces the impact of an oil shock in unemployment, without affecting negatively GDP. However, it also shows that the reduction of bargaining power, together with wage flexibility strongly reduces the increase in unemployment after an oil shock, but causes a decrease in real wages, which reduces household income and affects GDP.
    Abstract: Les effets des chocs pétroliers sur l'inflation et la croissance ont été largement étudiés dans la littérature, cependant peu d'études ont traité l'impact de l'augmentation du prix du pétrole sur le chômage. Afin de faire la lumière sur la question, cet article développe un modèle d'équilibre général dynamique stochastique (DSGE) de taille moyenne où : le pétrole est utilisé en production et consommation comme dans Acurio-Vásconez (2015) ; le chômage est introduit comme dans Mortensen & Pissarides (1994) ; et les salaires nominales sont construits comme dans Gertler & Trigari (2009). On analyse ensuite les effets de l'augmentation du prix du pétrole dans l'économie. Le modèle récupère la plupart des effets stylisés observés après le choc pétrolier des années 2000. L'étude de sensibilité montre que la réduction du pouvoir de négociation salariale des ménages permet d'atténuer l'impact positif du choc pétrolier sur le chômage, sans affecter négativement le PIB. Cependant, il montre aussi que la réduction du pouvoir de négociation ensemble avec la flexibilisation des salaires réduit l'augmentation du chômage après un choc pétrolier, mais il provoque une diminution des salaires réels, ce qui réduit le revenu des ménages et impacte le PIB.
    Keywords: New-Keynesian model,oil,Match & Search models,unemployment,modèle New-Keynésien,DSGE,pétrole,CES,modèles d'appariement,chômage
    Date: 2015–05
  4. By: Pontus Rendahl (University of Cambridge); Renato Faccini (Queen Mary)
    Abstract: We develop a search and matching model where idiosyncratic risk and liquidity constraints induce precautionary savings. In this economy, aggregate TFP shocks induce fluctuations in the stochastic discount factor by affecting idiosyncratic uncertainty. This propagation mechanism successfully generates sufficient volatility in unemployment rates to match the US data, along with a unit elasticity of both wages and opportunity cost of work to productivity. The model generates two key predictions that are in contrast with those obtained in search and matching models with standard amplification mechanisms: first, the model successfully replicates the fact that fluctuations in the market value of firms are mostly driven by discount factors rather than cashflows. Second, it predicts that higher unemployment insurance smooths the impact of shocks in recessions. Evidence based on a panel of OECD countries validates the hypothesis that unemployment benefits operate as automatic stabilisers.
    Date: 2016
  5. By: Christopher J. Flinn; Ahu Gemici; Steven Laufer
    Abstract: We estimate a partial and general equilibrium search model in which firms and workers choose how much time to invest in both general and match-specific human capital. To help identify the model parameters, we use NLSY data on worker training and we match moments that relate the incidence and timing of observed training episodes to outcomes such as wage growth and job-to-job transitions. We use our model to offer a novel interpretation of standard Mincer wage regressions in terms of search frictions and returns to training. Finally, we show how a minimum wage can reduce training opportunities and decrease the amount of human capital in the economy.
    Keywords: Minimum Wage ; On-the-job training ; Wage growth
    JEL: J64 J24
    Date: 2016–07–13
  6. By: Xavier Raurich (Universitat de Barcelona); Thomas Seegmuller (Aix-Marseille University)
    Abstract: The aim of this paper is to study the interplay between long term productive investments and more short term and liquid speculative ones. A three-period lived overlapping generations model allows us to make this distinction. Agents have two investment decisions. When young, they can invest in productive capital that provides a return during the following two periods. When young or in the middle age, they can also invest in a bubble. Assuming, in accordance with the empirical evidence, that the bubbleless economy is dynamically efficient, the existence of a stationary bubble raises productive investment and production. Indeed, young agents sell short the bubble to increase productive investments, whereas traders at middle age transfer wealth to the old age. We outline that a technological change inducing either a larger return of capital in the short term or a similar increase in the return of capital in both periods raises productive capital, production and the bubble size. This framework also allows us to discuss several economic applications: the effects of both regulation on limited borrowing and fiscal policy on the occurrence of bubbles, the introduction of a probability of market crash and the effect of bubbles on income inequality.
    Keywords: Bubble, Efficiency, Vintage capital, Short sellers, Overlapping generations.
    JEL: E22 E44 G12
    Date: 2016
  7. By: Copaciu, Mihai,; Nalban, Valeriu,; Bulete, Cristian
    Abstract: This paper describes the theoretical structure and estimation results for a DSGE model for the Romanian economy. Having as benchmark the model of Christiano et al. (2011), the additional features we introduce refer to partial euroization in the financial sector, oil as an input in production process, disaggregation of headline inflation into administered and core components, National Accounts consistent measures for GDP volume and deflator, and an extension of the foreign sector to a two country semi-structural model. Following a depreciation of the domestic currency induced by a risk premium shock, GDP decreases due to a stronger contractionary balance sheet effect (as some of the entrepreneurs are now exposed to exchange rate risk) relative to the expansionary impact through the net exports channel. With foreign currency financial transactions taking place only in EUR, while trade with goods and services in both EUR and USD, external shocks have different effects on the domestic economy, according to the originating country (i.e. Euro area or the US). Thus, one can assess the impact of diverging monetary policies of ECB and FED on emerging economies through both financial and trade channels.
    Keywords: DSGE model, Financial frictions, Partial euroization, Employment frictions, Small open economy, Bayesian estimation
    JEL: E0 E3 F0 F4 G0 G1 J6
    Date: 2015–11
  8. By: Yang, Yuan; Wang, Lu
    Abstract: We develop a procedure that efficiently computes likelihood function in nonlinear dynamic stochastic general equilibrium (DSGE) models. The procedure employs linearization to the measurement equation and delivers competitive results as the fully-adapted particle filter. The resulting likelihood approximation has much lower Monte Carlo variance than currently available particle filters, which greatly enhances the likelihood-based inference of DSGE models. We illustrate our procedure in applications to Bayesian estimation of a new Keynesian macroeconomic model.
    Keywords: DSGE model, auxiliary particle filter, Bayesian estimation
    JEL: C11 C15 C32 C63
    Date: 2015–11
  9. By: Gavazza, Alessandro; Mongey, Simon; Violante, Giovanni L.
    Abstract: We develop a model of firm dynamics with random search in the labor market where hiring firms exert recruiting effort by spending resources to fill vacancies faster. Consistent with micro evidence, in the model fast-growing firms invest more in recruiting activities and achieve higher job-filling rates. In equilibrium, individual decisions of hiring firms aggregate into an index of economy-wide recruiting intensity. We use the model to study how aggregate shocks transmit to recruiting intensity, and whether this channel can account for the dynamics of aggregate matching efficiency around the Great Recession. Productivity and financial shocks lead to sizable pro-cyclical fluctuations in matching efficiency through recruiting effort. Quantitatively, the main mechanism is that firms attain their employment targets by adjusting their recruiting effort as labor market tightness varies. Shifts in sectoral composition can have a sizable impact on aggregate recruiting intensity. Fluctuations in new-firm entry, instead, have a negligible effect despite their contribution to aggregate job and vacancy creations.
    Keywords: Aggregate Matching Efficiency; Firm Dynamics; Macroeconomic Shocks; Recruiting Intensity; Unemployment; Vacancies
    Date: 2016–09
  10. By: Pfeifer, Johannes
    Abstract: Urban Jermann and Vincenzo Quadrini (2012) argue that financial shocks are the most important factor driving U.S. business cycles. I show that the construction of their TFP measure suffers from data problems. A corrected TFP measure is able to account for most of the Great Recession. Their estimated DSGE model is also affected by several issues. In a properly reestimated model, marginal efficiency of investment shocks explain most of output volatility, while the contribution of financial shocks is 6.5 percent as opposed to the 46 percent originally reported. Still, financial shocks contribute 2-3 percentage points to the observed GDP drop during the Great Recession.
    Keywords: Financial Frictions, Pecking Order, Marginal Efficiency of Investment
    JEL: E23 E32 E44 G01 G32
    Date: 2016–07
  11. By: Catarina Reis (Universidade Católica Portuguesa); Vasia Panousi (Board of Governors of the Federal Reserv)
    Abstract: This paper considers a model of linear capital taxation for an economy where capital and labor income are subject to idiosyncratic uninsurable risk. To keep the model tractable, we assume that investment decisions are made before uncertainty is realized, so that the realization of the capital income shock only affects current consumption. In this setting, we find that the optimal capital tax is positive in the long run if there is only capital income risk. The reason for this is that the capital tax provides insurance against capital income risk. On the other hand, if there is only labor income risk the optimal capital tax is zero. The sign of the optimal tax is ambiguous if both types of risk are present and depends on the correlation between the two shocks.
    Date: 2016
  12. By: Youngsoo Jang (the Ohio state university)
    Abstract: I study disparities in emergency and non-emergency medical conditions between high and low income individuals and their implications on consumption, savings, and bankruptcy. In the Medical Expenditure Panel Survey (MEPS), two patterns emerge. First, low income individuals are more likely to visit emergency rooms than high income individuals, and this gap is disproportionately larger for working age individuals. Second, although the differences between high and low income individuals in non-emergency medical conditions are little in early life, the gap in non-emergency medical conditions is substantial in middle and late life. To explain these facts, I build an overlapping generations general equilibrium model that features (i) endogenous decisions on default and health insurance, (ii) endogenous health that determines labor productivity, (iii) the existence of emergency (non-discretionary) medical expenditures and non-emergency (discretionary) medical expenditures, and (iv) the endogenous distribution of emergency and non-emergency health shocks. I find that low income individuals spend less on their health in early life, leading to their contacting more severe and more frequent health conditions (emergency and non-emergency) following their middle life onwards. This enforces low income individuals to be sicker and to visit emergency rooms more often, while spending more on health cares from their middle life. Moreover, this model shows that this endogenous distribution of health shocks causes low income individuals to have more precautionary savings and less consumption due to their highly volatile earnings from severe health shocks. The poor default more often due to their lower earnings and more frequent emergency (non-discretionary) medical treatments, which arises from their bad health status.
    Keywords: Income Inequality, Household Bankruptcy. Health
    JEL: E21 K35 I13
  13. By: Xu Tian (University of Rochester); Dan Lu (the University of Rochester); Yan Bai (University of Rochester)
    Abstract: This paper uses Chinese firm-level data to quantify financial frictions in China and asks to what extent they can explain firms’ saving and capital misallocation. We first document features of the data, in terms of firm dynamics and financing. Relatively smaller firms have lower leverage, face higher interest rates and operate with a higher marginal product of capital. We then develop a heterogeneous-firm model with two types of financial frictions, default risk and a fixed cost of issuing loans. We estimate the model using evidence on the firm size distribution and financing patterns and find that financial frictions can explain aggregate firm saving, the co-movement between saving and investment across firms, and around 60 percent of the dispersion in the marginal product of capital (MPK). The endogenous financial frictions, however, generate a negative MPK-size relationship, which has important implications for total factor productivity losses.
    Date: 2016
  14. By: Stefano Bosi (EPEE - Université d'Evry-Val d'Essonne); Cuong Le Van (CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique, PSE - Paris School of Economics, IPAG - Business School); Ngoc-Sang Pham (EPEE - Université d'Evry-Val d'Essonne)
    Abstract: We build dynamic general equilibrium models with heterogeneous producers and financial market imperfections. First, we prove the existence of equilibrium. Second, we investigate the role of financial market imperfection in growth and land prices. Third, we introduce land dividends, then define and study land bubbles as well as individual land bubbles.
    Keywords: Infinite horizon,general equilibrium,financial market imperfection,land bubbles
    Date: 2015–09
  15. By: Duffie, Darrell (Stanford University); Qiao, Lei (National University of Singapore); Sun, Yeneng (National University of Singapore)
    Abstract: We demonstrate the existence of a continuum of agents conducting directed random searches for counterparties, and characterize the implications. Our results provide the first probabilistic foundation for static and dynamic directed random search (including the matching function approach) that is commonly used in the search-based models of financial markets, monetary theory, and labor economics. The agents' types are shown to be independent discrete-time Markov processes that incorporate the effects of random mutation, random matching with match-induced type changes, and with the potential for enduring partnerships that may have randomly timed break-ups. The multi-period cross-sectional distribution of types is shown to be deterministic via the exact law of large numbers.
    Date: 2015–11
  16. By: Geppert, Christian; Ludwig, Alexander; Abiry, Raphael
    Abstract: Ongoing demographic change will lead to a relative scarcity of raw labor to the effect that output growth will be decreasing in the next decades, a secular stagnation. As physical capital will be relatively abundant, this decrease of output will be accompanied by reductions of asset returns. We quantify these effects for the US economy by developing an overlapping generations model with risky and risk-free assets. Without adjustments of human capital, risky returns decrease until 2035 by about 0.7 percentage point, and the risk-free rate by about one percentage point, leading to substantial welfare losses for asset rich households. Per capita output is reduced by 6%. Endogenous human capital adjustments strongly mitigate these effects. We conclude that human capital policies will be crucial in the context of labor shortages.
    Keywords: secular stagnation,demographic change,overlapping generations,natural rate,equity premium,growth,welfare,human capital
    JEL: E17 C68 G12
    Date: 2016
  17. By: Ivan Werning (Massachusetts Institute of Technology)
    Abstract: I study the relationship between aggregate consumption and interest rates when mar- kets are incomplete. I first provide a generalized Euler relation involving the real interest rate, current and future aggregate consumption under extreme illiquidity (no borrowing and no outside assets). This provides a tractable way of incorporating incomplete markets into macroeconomic models. When household income risk is acyclical I show that this relation coincides with that of a representative agent, al- though time-varying discount factors may potentially act as aggregate demand shocks. The same representation extends to the case with positive liquidity as long as liquidity relative to income is acyclical. A corollary of these ‘as if’ results is that forward guid- ance policies are as powerful as in representative agent models. Away from the ‘as if’ benchmark, I show that aggregate consumption becomes more sensitive to inter- est rates, especially future ones, when idiosyncratic income risk is countercyclical or when liquidity is procyclical. Finally, I also apply my analysis to a Real Business Cy- cle model, providing an exact analytical aggregation result that complements existing numerical findings.
    Date: 2016
  18. By: Jean-Christophe Poutineau (CREM - Centre de Recherche en Economie et Management - UR1 - Université de Rennes 1 - Université de Caen Basse-Normandie - CNRS - Centre National de la Recherche Scientifique); Gauthier Vermandel (CREM - Centre de Recherche en Economie et Management - UR1 - Université de Rennes 1 - Université de Caen Basse-Normandie - CNRS - Centre National de la Recherche Scientifique, LEDa - Laboratoire d'Economie de Dauphine - Université Paris-Dauphine)
    Abstract: This article examines the impact of cross-border lending on the implementation of macroprudential measures in the Euro Area. The goal is to evaluate - regardless of the current institutional organization - what relative weight should be allocated to federal and national considerations. The analysis relies on an estimated two-country dynamic stochastic general equilibrium (DSGE) model, based on the financial accelerator mechanism. This model is estimated using Bayesian techniques on European data adopting the core-periphery dichotomy. Our results underline that divergences of real and financial cycles between the two regions of the monetary union are driven by both the regional heterogeneity of structural parameters and shocks which are larger in periphery. Regarding the implementation of financial stability measures, the heterogeneous treatment between countries leads to tighter macroprudential measures for periphery, but this affects differently regional macroeconomic performances. Finally, a counterfactual analysis studying the response of output and investment during the financial crisis episode reveals that peripheral countries strongly benefited from the implementation of macroprudential measures at the expense of core countries which experienced a deterioration of their situation.
    Abstract: Cet article évalue l’impact des prêts transfrontaliers sur les modalités de mise en œuvre des mesures de politique macro-prudentielle dans la zone euro. L’objectif est d’apprécier - indépendamment de l’organisation institutionnelle actuelle - quel poids relatif il convient d’affecter aux considérations fédérales et nationales. L’analyse est menée dans le cadre d’un MEGIS à deux pays, prenant en compte le mécanisme d'accélérateur financier. Ce modèle est estimé à l'aide de l'économétrie bayésienne sur données européennes en séparant les pays du cœur de la zone des pays de la périphérie. Nos résultats montrent que la divergence des cycles réels et financiers entre les deux régions de l’union monétaire tient à la fois à l’hétérogénéité régionale des paramètres structurels et à celle des chocs subis qui apparaissent plus importants dans les pays de la périphérie. Pour ce qui concerne la mise en œuvre de la politique de stabilité financière, le traitement hétérogène des pays conduit à une plus forte réaction de cet instrument dans les pays de la périphérie, ce qui affecte parfois de manière différente les performances macroéconomiques régionales. Enfin, une analyse contrefactuelle étudiant la réaction de l’activité et de l’investissement au moment de la crise montre que si globalement l’union monétaire (en moyenne) et les pays de la périphérie bénéficient de la mise en œuvre de mesures macro prudentielles, les pays du cœur voient au contraire leur situation se détériorer.
    Keywords: Politique macroprudentielle,modèle DSGE,intégration bancaire,stabilité financière
    Date: 2015
  19. By: Pietro Cova (Banca d'Italia); Patrizio Pagano (The World Bank); Massimiliano Pisani (Banca d'Italia)
    Abstract: This paper evaluates the international macroeconomic spillovers from the Eurosystem’s expanded Asset Purchase Programme (APP) under alternative assumptions as regards (i) the unwinding of the asset positions accumulated under the APP and (ii) the normalization of the US monetary policy stance. We simulate a dynamic general equilibrium model of the world economy, calibrated to the Euro area (EA), the US, China, Japan, and the ‘rest of the world’ (RW). Our results are as follows. First, APP expansionary spillovers are dampened if the Eurosystem brings forward the unwinding of its bond holdings because of the lower increase in EA aggregate demand and, therefore, EA imports. The RW is the region most affected because it has the greatest trade integration with the EA. Second, if the US monetary authority announces that it will hold the policy rate constant for a shorter period of time – which dampens the increase in US aggregate demand and, therefore, US imports from the EA – then US spillovers to the EA, while still expansionary, as in the case of a slower normalization of the monetary policy stance, are more modest.
    Keywords: DSGE models, open-economy macroeconomics, non-standard monetary policy, zero lower bound
    JEL: E43 E44 E52 E58
    Date: 2016–09
  20. By: Chien, YiLi (Federal Reserve Bank of Saint Louis); Lustig, Hanno (Stanford University); Naknoi, Kanda (University of CT)
    Abstract: Empirical work on asset prices suggests that pricing kernels have to be almost perfectly correlated across countries. If they are not, real exchange rates are too smooth to be consistent with high Sharpe ratios in asset markets. However, the cross-country correlation of macro fundamentals is far from perfect. We reconcile these empirical facts in a two-country stochastic growth model with segmented markets. A large fraction of households either do not participate in the equity market or hold few equities, and these households drive down the cross-country correlation in aggregate consumption. Only a small fraction of households participate in international risk sharing by frequently trading domestic and foreign equities. These active traders are the marginal investors, who impute the almost perfect correlation in pricing kernels. In our calibrated economy, we show that this mechanism can quantitatively account for the excess smoothness of exchange rates in the presence of highly volatile stochastic discount factors.
    JEL: F10 F31 G12 G15
    Date: 2015–11
  21. By: Jang, Tae-Seok
    Abstract: In this paper, we develop the waves of optimists and pessimists in an open-economy New Keynesian model á la Gali and Monacelli (2005). We extend the model to include the dynamics of inflation and output generated by the heterogeneous bounded rational agents according to De Grauwe (2011). The effects of social interaction are merged into open DSGE model. In particular, the interaction between heterogeneous agents provides the basis for bounded rational behavior in a two-country model. As a result, the model is able to describe the herding behavior of investors in open economy. The simulation results suggest that the business cycle goes through periods of high volatility when the large number of optimists or pessimists in one country strongly affects a foreign country.
    Keywords: animal spirits, bounded rationality, new keynesian, two-country model
    JEL: C63 E31 F41
    Date: 2015–10
  22. By: Verónica Acurio Vásconez (CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique)
    Abstract: The recent literature on fossil energy has already stated that oil is not perfectly substitutable to other inputs, considering fossil fuel as a critical production factor in different combinations. However, the estimations of substitution elasticity are in a wide range between 0.004 and 0.64. This paper addresses this phenomenon by enlarging the DSGE model developed in Acurio-Vásconez et al. (2015) by changing the Cobb-Douglas production and consumption functions assumed there, for composite Constant Elasticity of Substitution (CES) functions. Additionally, the paper introduces nominal wage and price rigidities through a Calvo setting. Finally, using Bayesian methods, the model is estimated on quarterly U.S. data over the period 1984:Q1-2007:Q3 and then analyzed. The estimation of oil's elasticity of substitution are 0.14 in production and 0.51 in consumption. Moreover, thanks to the low substitutability of oil, the model recovers and explains four well-known stylized facts after the oil price shock in the 2000's: the absent of recession, coupled with a low persistent increase in inflation rate, a decrease in real wages and a low price elasticity of oil demand in the short run. Furthermore, ceteris paribus, the reduction of nominal wage rigidity amplifies the increase in inflation and the decrease in consumption. Thus in this model more wage flexibility does not seem to attenuate the impact of an oil shock.
    Abstract: La littérature récente sur énergie a déjà établit que le pétrole n'est pas parfaitement substituable aux autres facteurs, en considérant l'énergie fossile comme étant un facteur de production critique en différentes combinaisons. Cependant, les valeurs estimées de l'élasticité de substitution se trouvent dans un large rang, entre 0.004 et 0.64. Cet article évoque ce phénomène en élargissant le modèle DSGE développe en Acurio Vásconez et al. (2015) en modifiant les fonctions de production et consommation supposées Cobb-Douglas par des fonctions à élasticité de substitution constante (CES). Cet article introduit aussi des rigidités de salaire et des prix à la Calvo. Finalement, en utilisant des techniques Bayésiennes, le modèle est estimé sur les données trimestrielles aux Etats-Unis, pour la période 1984:Q1 - 2007:Q3 et après analysé. L'estimation de l'élasticité de substitution du pétrole est 0.14 dans le secteur productif et 0.51 pour les ménages. De plus, grâce à la faible substituabilité du pétrole, ce modèle récupère et explique quatre fait stylisés observés après le choc pétrolier des années 2000 : l'absence de récession, jumelée avec une faible mais persistante augmentation du taux d'inflation, une décroissance des salaires réels et une faible élasticité de prix de la demande de pétrole dans le court terme. En outre, le modèle montre que, ceteris paribus, la réduction de la rigidité des salaires nominales amplifie l'augmentation de l'inflation et la diminution de la consommation. Donc dans ce modèle, plus de flexibilité de salaires ne semble pas atténuer l'impact d'un choc pétrolier.
    Keywords: New-Keynesian model,oil,stickiness,oil substitution,modèle New-Keynésien,DSGE,pétrole,CES,viscosité,substitution du pétrole
    Date: 2015–05
  23. By: Coen N. Teulings (University of Cambridge, United Kingdom; University of Amsterdam, The Netherlands)
    Abstract: It is well known that rational bubbles can be sustained in balanced growth path of a deterministic economy when the return to capital r is equal to the growth rate g . When there is a lack of stores of value, bubbles can implement an efficient allocation. This paper considers a world where r fluctuates over time due to shocks to the marginal productivity of capital. Then, bubbles further efficiency, though they cannot implement first best. While bubbles can only be sustained when r = g in a deterministic economy, r > g "on average" in a stochastic economy. Fiscal policy improves welfare by adding an extra asset. Where only the elderly contribute to shifting resources between investment and consumption in a bubbly economy, fiscal policy allows part of that burden to be shifted to the young. Contrary to common wisdom, trade in bubbly assets implements intergenerational transfers, while fiscal policy implements intragenerational transfers. Hence, while bubbles and fiscal policy are perfect substitutes in the deterministic economy, fiscal policy dominates bubbles in a stochastic economy. For plausible parameter values, a higher degree of dynamic inefficiency should lead to a higher sovereign debt.
    Keywords: rational bubbles; fiscal policy; Secular Stagnation
    JEL: E44 E62
    Date: 2016–10–03
  24. By: Huo, Zhen; Ríos-Rull, José-Víctor
    Abstract: We study financial shocks to households' ability to borrow in an economy that quantitatively replicates U.S. earnings, financial, and housing wealth distributions and the main macro aggregates. Such shocks generate large recessions via the negative wealth effect associated with the large drop in house prices triggered by the reduced access to credit of a large number of households. The model incorporates additional margins that are crucial for a large recession to occur: that it is difficult to reallocate production from consumption to investment or net exports, and that the reductions in consumption contribute to reductions in measured TFP.
    Keywords: Asset price; Balance Sheet Recession; Goods market frictions; Labor market frictions
    JEL: E20 E32 E44
    Date: 2016–09
  25. By: James Tybout (Pennsylvania State University); David Jinkins (Copenhagen Business School); Daniel Yi Xu (Duke University); Jonathan Eaton (Pennsylvania State University)
    Abstract: We develop a dynamic model of the many-to-many matching processes through which international business relationships are formed. Our formulation characterizes exporters' and importers' search efforts as functions of their type, their current portfolio of business partners, and the market conditions they face. After calibrating our model to customs records on Colombian retailers, we use it to study the steady state and transitory effects of China's emergence as a major supplier of consumer goods. In doing so we focus on the induced changes in matching patterns, the associated reallocation of rents across businesses, and the net effects on consumer welfare.
    Date: 2016
  26. By: Brunnermeier, Markus K. (Princeton University); Sannikov, Yuliy (Princeton University)
    Abstract: A theory of money needs a proper place for financial intermediaries. Intermediaries create inside money and their ability to take risks determines the money multiplier. In downturns, intermediaries shrink their lending activity and fire-sell assets. Moreover, they create less inside money, exactly at a time when the demand for money rises. The resulting Fisher disinflation hurts intermediaries and other borrowers. The initial shock is amplified, volatility spikes and risk premia rise. Monetary policy is redistributive. An accommodative monetary policy, focused on the assets held by constrained agents, recapitalizes balance sheet-impaired sectors in downturns and hence mitigates these destabilizing adverse feedback effects. However, monetary policy also creates moral hazard in the sense that it cannot provide insurance and control risk-taking separately. Hence, macroprudential policy that controls leverage attains higher welfare than monetary policy alone.
    Date: 2016–01
  27. By: Takumi Motoyama (Graduate School of Economics, Osaka University)
    Abstract: The purpose of this study is to present an analytical framework for publicly optimal disasterpreventive expenditure. We examine the optimal policy combination of tax rate, disaster-preventive expenditure, and productive government expenditure in a neoclassical growth model, in which natural disasters occur stochastically and partially destroy existing capital. Based on this model, we can decompose the welfare effect of raising preventive expenditure into three effects: the damage reduction, crowding out, and precautionary effects. By identifying these marginal benefits and costs, we obtain the policy conditions that maximize household welfare. Furthermore, we show that optimal prevention is increasing in disaster probability, and by using a numerical example, we show that there is an inverse U-shaped relationship between the expected growth rate and disaster probability.
    Keywords: Natural disasters, Disaster-preventive expenditure, Optimal policy
    JEL: E13 H4 Q54 Q58
    Date: 2015–04
  28. By: Chakraborty, Kamalika; Chakraborty, Bidisha
    Abstract: This paper builds an overlapping generations household economy model with learning by doing effect in unskilled work. We study the relative effectiveness of child labour ban and education subsidy on schooling. We find some interesting results- the time path of schooling is oscillating but convergent in nature; a fall in child wage does not necessarily increase steady state schooling; if unskilled adult wage is sufficiently small, education subsidy is more effective in enhancing schooling than banning child labour and a child labour ban that increases steady state schooling may not be accompanied by increase in utility level of the household.
    Keywords: child labour, schooling, human capital, oscillation, child labour ban, education subsidy
    JEL: E24 I21 J22 J24 O10
    Date: 2016–04–27
  29. By: Etienne Gagnon; Benjamin K. Johannsen; J. David Lopez-Salido
    Abstract: Since the onset of the Great Recession, the U.S. economy has experienced low real GDP growth and low real interest rates, including for long maturities. We show that these developments were largely predictable by calibrating an overlapping-generation model with a rich demographic structure to observed and projected changes in U.S. population, family composition, life expectancy, and labor market activity. The model accounts for a 1¼–percentage point decline in both real GDP growth and the equilibrium real interest rate since 1980—essentially all of the permanent declines in those variables according to some recent estimates. The model also implies that these declines were especially pronounced over the past decade or so because of demographic factors most-directly associated with the baby boom and the passing of the information technology boom. Our results further suggest that real GDP growth and real interest rates will remain low in coming decades, consistent with the U.S economy having reached a “new normal.”
    Keywords: Demographics ; Equilibrium real interest rate ; GDP growth ; New normal
    JEL: E17 E21 J11
    Date: 2016–09–28
  30. By: Chakraborty, Kamalika; Chakraborty, Bidisha
    Abstract: This paper builds an overlapping generations household economy model in rural set up and examines the relationship between landholding and child labour in presence of unemployment in the manufacturing sector. We find that irrespective of whether the parents work in the agricultural sector as farmers or they work on own land, increase in size of land holding leads to decline in schooling of the child worker in the short run, and decline in growth rate of human capital formation in the long run but may lead to increase in the steady state human capital in the long run.
    Keywords: land holding, child labour, human capital, schooling, unemployment
    JEL: E24 J22 J24 O15 Q1 Q15
    Date: 2016–07–26
  31. By: Algozhina, Aliya
    Abstract: This paper constructs a dynamic stochastic general equilibrium model of joint monetary and fiscal policy for a developing oil economy to find an appropriate monetary rule combined with pro-/countercyclical and neutral fiscal stance based on a loss measure. The model captures a set of structural specifics: two monetary instruments–interest rate and foreign exchange interventions, two fiscal instruments–public consumption and public investment, two production sectors–oil and non-oil, and the two types of households–optimizers and rule-of-thumb households. It further includes a Sovereign Wealth Fund, the foreign debt of private sector via collateral constraint, and a world oil price shock. The loss measure is chosen as an equal summation of variances in in ation, output, and real exchange rate to be minimized by Taylor rule’s parameters in a small open economy. The foreign exchange interventions distinguish between managed and exible exchange rate regime. Fiscal policy cyclicality is referred to the oil output response of public consumption and public investment. Impulse response functions to the negative world oil price shock are analyzed at exible and rigid prices.
    Keywords: oil economy, monetary policy, fiscal policy, exchange rate, oil price shock, interventions, SWF
    JEL: E31 E52 E62 E63 F31 F41 H54 H63 Q33 Q38
    Date: 2016–05
  32. By: Roberto Piazza (Banca d'Italia)
    Abstract: What types of monetary and fiscal policy rules produce self-fulfilling deflationary paths that are monotonic and empirically relevant? This paper presents simple theoretical conditions that guarantee the existence of these paths in a general equilibrium model with sticky prices. These sufficient conditions are weak enough to be satisfied by most monetary and fiscal policy rules. A quantification of the model which combines a real shock à la Hayashi and Prescott (2002) with a simultaneous sunspot that deanchors inflation expectations matches the main empirical features of the Japanese deflationary process during the “lost decade”. The results also highlight the key role of the assumption about the anchoring of inflation expectations for the size of fiscal multipliers and, in general, for any policy analysis.
    Keywords: deflation, liquidity trap, deanchoring, inflation target, sunspot
    JEL: E31 E40 E43
    Date: 2016–09
  33. By: Samuel Danthine (CREST-Ensai); Markus Poschke (McGill); Stephane Auray (CREST-Ensai)
    Abstract: While most of the literature on employment protection has focused on government-mandated severance pay, it has recently been documented that a substantial share of severance payments derives from private contracts or collective agreements. This paper studies the determination of these payments. We analyze the problem of joint bargaining over wages and severance payments and examine the impact of unions on these choices. To do so, we use a search and matching model with risk averse workers, in which we assume that workers may be unionized and that bargaining is over wages and severance pay. Bargaining results in levels of severance pay providing full insurance, which depend on the generosity of unemployment benefits and on the job finding rate. Unions opt for higher levels of severance pay given that their higher wage demands imply reduced job creation. Calibrated to 8 European economies, the model predicts bargained levels of severance pay which are close to those found in reality.
    Date: 2016

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