nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2016‒10‒30
34 papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Assessing the role of interbank network structure in business and financial cycle analysis By Jean-Yves Gnabo; Nicolas K. Scholtes
  2. A Quantitative Theory of Time-Consistent Unemployment Insurance By Xie, Zoe; Pei, Yun
  3. Frictional Unemployment with Stochastic Bubbles By Vuillemey, Guillaume; Wasmer, Etienne
  4. Time-varying volatility, default and the sovereign risk premium By Hernan Seoane
  5. Weak Scale Effects in Overlapping Generations Economy By Bharat Diwakar; Gilad Sorek
  6. Optimal monetary policy with heterogeneous agents. By Galo Nuño; Carlos Thomas
  7. Pareto Weights in Practice: A Quantitative Analysis Across 32 OECD Countries By Bo Hyun Chang; Yongsung Chang; Sun-Bin Kim
  8. Capital Controls and Financial Frictions in a Small Open Economy By Shigeto Kitano; Kenya Takaku
  9. Forward guidance and heterogenous beliefs By Gaetano Gaballo; Eric Mengus; Benoït Mojon; Philippe Andrade
  10. Can active labor market policy be counter-productive? By Gilles Saint-Paul
  11. Higher education expansion, economic reform and labor productivity By Yao, Yao
  12. Wage and employment determination in a dynamic insider-outsider model By Guerrazzi, Marco
  13. The Career Costs of Children By Adda, Jerome; Dustmann, Christian; Stevens, Katrien
  14. The Interdependence of Monetary and Macroprudential Policy under the Zero Lower Bound By Vivien Lewis; Stefania Villa
  15. Dynamics of Human Capital Accumulation, IPR Policy, and Growth By Bharat Diwakar; Gilad Sorek
  16. Occupational Choice and Learning during Job Search By Kenneth Mirkin; Philipp Kircher
  17. "Industrial Structure in Urban Accounting" By Jun Oshiro; Yasuhiro Sato
  18. Firm Dynamics and Residual Inequality in Open Economies By Julien Prat; Gabriel Felbermayr; Giammario Impullitti
  19. Anti-Cyclical Bank Capital Regulation and Monetary Policy By Aliaga-Díaz, Roger; Olivero , María Pía; Powell, Andrew
  20. Buffer-Stock Saving and Households' Response to Income Shocks By Koeniger, Winfried
  21. How Sticky Wages In Existing Jobs Can Affect Hiring By Mark Bils; Yongsung Chang; Sun-Bin Kim
  22. Ex-ante Heterogeneity and Equilibrium Redistribution(Preliminary) By Bo Hyun Chang; Yongsung Chang; Sun-Bin Kim
  23. Learning by doing, low level equilibrium trap, and effect of domestic policies on child labour By Chakraborty, Kamalika; Chakraborty, Bidisha
  24. Investment Opportunities and the Sources of Lifetime Inequality By Urvi Neelakantan; Ivan Vidangos; Felicia Ionescu; Kartik Athreya
  25. Thoughts on a fiscal union in EMU By Gadatsch, Niklas; Hollmayr, Josef; Stähler, Nikolai
  26. Business cycles in an oil economy: Lessons from Norway By Drago Bergholt; Vegard Høghaug Larsen
  27. Long-run Unemployment and Macroeconomic Volatility By Stefano, Fasani;
  28. Referral networks and inequality By Manolis Galenianos
  29. Demographics and Tax Competition in Political Economy By MORITA Tadashi; SATO Yasuhiro; YAMAMOTO Kazuhiro
  31. International Financial Adjustment in a Canonical Open Economy Growth Model By Richard H. Clarida; Ildikó Magyari
  32. THE WELFARE COST OF INFLATION RISK UNDER IMPERFECT INSURANCE By Olivier Allais; Yann Algan; Edouard Challe; Xavier Ragot
  33. Optimal Fiscal Substitutes for the Exchange Rate in a Monetary Union By Christoph Kaufmann
  34. The signaling effect of raising inflation By Eric Mengus; Jean Barthelemy

  1. By: Jean-Yves Gnabo (Université de Namur); Nicolas K. Scholtes (European Central Bank & Université de Namur)
    Abstract: We develop a DSGE model incorporating a banking sector comprising 4 banks connected in a stylised network representing their interbank exposures. The micro-founded framework allows inter alia for endogenous bank defaults and bank capital requirements. In addition, we introduce a central bank who intervenes directly in the interbank market through liquidity injections. Model dynamics are driven by standard productivity as well as banking sector shocks. In our simulations, we incorporate four different interbank network structures: Complete, cyclical and two variations of the coreperiphery topology. Comparison of interbank market dynamics under the different topologies reveals a strong stabilising role played by the complete network while the remaining structures show a non-negligible shock propagation mechanism. Finally, we show that central bank interventions can counteract negative banking shocks with the effect depending again on the network structure.
    Keywords: Interbank network, DSGE model, banking, liquidity injections
    JEL: D85 E32 E44 E52 G21
    Date: 2016–10
  2. By: Xie, Zoe; Pei, Yun
    Abstract: During recessions, the U.S. government substantially increases the duration of unemployment insurance (UI) benefits through multiple extensions. This paper seeks to understand the incentives driving these increases. Because of the trade-off between insurance and job search incentives, the classic time-inconsistency problem arises. This paper endogenizes a time-consistent UI policy in a stochastic equilibrium search model, where a government without commitment to future policies chooses the UI benefit level and expected duration each period. A longer benefit duration increases unemployed workers' consumption but reduces job search, leading to higher future unemployment. Quantitatively, the model rationalizes most of the variations in benefit duration during the Great Recession. We use the framework to evaluate the effects of the 2009-2013 benefit extensions on unemployment and welfare.
    Keywords: Time-consistent policy, Unemployment insurance, Labor market, Business cycle
    JEL: E61 H21 J64 J65
    Date: 2016–05–01
  3. By: Vuillemey, Guillaume (HEC Paris); Wasmer, Etienne (Sciences Po, Paris)
    Abstract: Bubbles are recurrent events, which contribute to both macroeconomic and employment volatility. We introduce stochastic bubbles in the standard search-and matching model of the labor market. The economy alternates between latent and bubbly states, each being associated with a distinct solution for the market value of firms (respectively, stable or explosive). Bubbles in firm value induce distortions in hiring decisions and wages, which we explicitly characterize. Faced with bubbles, the social planner optimally deviates from the standard Hosios efficiency condition. The optimal share of workers in total surplus must be above the elasticity of hiring rates, by a small but increasing amount as the bubble expands. Finally, our specification for bubbles significantly improves the quantitative ability of the model to match U.S. data, along both real and financial dimensions.
    Keywords: unemployment volatility, labor frictions, bubbles
    JEL: E32 J60
    Date: 2016–10
  4. By: Hernan Seoane (Universidad Carlos III de Madrid)
    Abstract: This paper studies how changes in the volatility of aggregate income affect sovereign spreads. I document a positive correlation between sovereign spreads and aggregate income volatility for a set of European economies. Then, I propose an endogenous sovereign spread model with time-varying volatility to understand this fact. Volatility changes affect savings and the sovereign spread. However, the impact of volatility shocks is state dependent, when the economy is relatively rich an increase in volatility is prone to generate precautionary savings. Instead, when the economy is relatively poor, an increase in volatility is likely to induce an increase in foreign debt and a higher spread. This mechanism is absent in standard business cycle models and only appears because of the default option. Moreover, this mechanism can generate a substantial variability of spreads only due to volatility shocks. In this way, the model is able to rationalize the positive correlation between sovereign spreads and volatility observed in the data.
    Date: 2016
  5. By: Bharat Diwakar; Gilad Sorek
    Abstract: We show how the two alternative saving motives, life-cycle consumption smoothing and parental bequests, determine the relation between population growth and R&D-based economic growth, i.e. the sign of the weak scale effect. We take a textbook R&D-based growth model of infinitely living agents with no life-cycle saving motive and re-analyze it in the Overlapping Generations (OLG) framework, which incorporates both life-cycle and bequest saving motives. We decompose the effect of each saving motive on the sign of the weak scale effect, and show that in the presence of both saving motives it is ambiguous in general, and may also be non-monotonic. Hence, this study contributes to the recent line of research aimed to align modern growth theory with the empirical evidence on the relation between population growth and economic prosperity.
    Keywords: R&D-based Growth, Weak Scale-Effect, Bequests, OLG
    JEL: O31 O40
    Date: 2016–10
  6. By: Galo Nuño (Banco de España); Carlos Thomas (Banco de España)
    Abstract: Incomplete markets models with heterogeneous agents are increasingly used for policy analysis. We propose a novel methodology for solving fully dynamic optimal policy problems in models of this kind, both under discretion and commitment. We illustrate our methodology by studying optimal monetary policy in an incomplete-markets model with non-contingent nominal assets and costly inflation. Under discretion, an inflationary bias arises from the central bank’s attempt to redistribute wealth towards debtor households, which have a higher marginal utility of net wealth. Under commitment, this inflationary force is countered over time by the incentive to prevent expectations of future inflation from being priced into new bond issuances; under certain conditions, long run inflation is zero as both effects cancel out asymptotically. For a plausible calibration, we find that the optimal commitment features first-order initial inflation followed by a gradual decline towards its (near zero) long-run value. Welfare losses from discretionary policy are first-order in magnitude, affecting both debtors and creditors.
    Keywords: optimal monetary policy, commitment and discretion, incomplete markets, nominal debt, inflation, redistributive effects, continuous time
    JEL: E5 E62 F34
    Date: 2016–10
  7. By: Bo Hyun Chang (University of Rochester); Yongsung Chang (University of Rochester, Yonsei University); Sun-Bin Kim (Yonsei University)
    Abstract: We develop a quantitative heterogeneous-agents general equilibrium model that reproduces the income inequalities of 32 countries in the Organization for Economic Co-operation and Development. Using this model, we compute the optimal income tax progressivity and redistribution for each country under the equal-weight utili- tarian social welfare function. We simulate the voting outcome for the utilitarian optimal tax reform for each country. Finally, we uncover the Pareto weights in the social welfare functions of each country that justify the current redistribution policy.
    Keywords: Income Inequality, Optimal Tax, Pareto Weights, Political Economy, Redistribution
    Date: 2016–10
  8. By: Shigeto Kitano (Research Institute for Economics & Business Administration (RIEB), Kobe University, Japan); Kenya Takaku (Faculty of Business, Aichi Shukutoku University)
    Abstract: We develop a small open economy model with financial frictions between domestic banks and foreign investors, and examine the welfare-improving effect of capital controls. We show that capital controls are effective in addressing the amplification effect due to financial frictions. As the degree of financial frictions increases, the welfare-improving effect of capital controls becomes larger. The monotonic relationship between the degree of financial frictions and the welfare-improving effect of capital controls is robust for varying degrees of country premium, home bias in goods, and trade elasticity. Comparing two economies, one with and one without "liability dollarization," we also find that the welfare-improving effect of capital controls is larger in the presence of "liability dollarization."
    Keywords: Capital control, Financial frictions, Financial intermediaries, Balance sheets, Small open economy, Liability dollarization, DSGE, Welfare
    JEL: E69 F32 F38 F41
    Date: 2016–10
  9. By: Gaetano Gaballo (Banque de France); Eric Mengus (HEC Paris); Benoït Mojon; Philippe Andrade (Banque de France)
    Abstract: We analyze the effects of forward guidance when agents have heterogeneous interpretations of whether forward guidance contains a commitment on future policy actions. Using survey expectations, we document that forward guidance lowered disagreement about future short-term interest rates to historically low levels while it did not affect much disagreement about future inflation and future consumption. We introduce heterogeneous beliefs on future policy and fundamentals in an otherwise standard New-Keynesian model. We show that, because the commitment type of the central bank is unobserved, agreement on the future path of interest rates can coexist with disagreement on the length of the trap. Such heterogeneity of beliefs can strongly mitigate the effectiveness of forward guidance. It also alters the optimal policy at the zero lower bound compared to a situation where beliefs are homogenous.
    Date: 2016
  10. By: Gilles Saint-Paul (New York University Abu Dhabi - Abu Dhabi, PSE - Paris-Jourdan Sciences Economiques - CNRS - Centre National de la Recherche Scientifique - INRA - Institut National de la Recherche Agronomique - EHESS - École des hautes études en sciences sociales - ENS Paris - École normale supérieure - Paris - École des Ponts ParisTech (ENPC), PSE - Paris School of Economics)
    Abstract: We study active labor market policies (ALMP) in a matching model. ALMPs are modelled as a subsidy to job search. Workers di¤er in their productivity, and search takes place along an extensive margin. An additional job seeker a¤ects the quality of unemployed workers. As a result, the Hosios conditions are no longer valid. To replicate the optimum the worker share in bargaining must exceed the Hosios level, and one must impose a tax on job search activity. The coalition in favor of ALMP is also studied.
    Keywords: Matching models,Active labor market policy
    Date: 2014–11
  11. By: Yao, Yao
    Abstract: This paper studies the impact of higher education expansion, along with economic reform of the state sector, in the late 1990’s in China on its labor productivity. I argue that in an economy such as China, where allocation distortions widely exist, an educational policy affects average labor productivity not only through its effect on human capital stock, but also through its effect on human capital allocation across sectors. Thus, its impact could be very limited if misallocation becomes more severe following the policy. I construct a two-sector general equilibrium model with private enterprises and state-owned enterprises, with policy distortions favoring the latter. Households, heterogeneous in ability, make educational choices and occupational choices in a threeperiod overlapping-generations setting. Counterintuitively, quantitative analysis shows an overall negative effect of higher education expansion on average labor productivity (by 5 percent). Though it did increase China’s skilled human capital stock significantly (by nearly 50 percent), the policy had the effect of reallocating relatively more human capital toward the less-productive state sector. This also directed physical capital allocation toward the state sector and further dampened average labor productivity. It was the economic reform that greatly improved the allocation efficiency and complemented educational policy in enhancing labor productivity (by nearly 50 percent).
    Keywords: Higher education, China, Economic reform, Educational policy,
    Date: 2016
  12. By: Guerrazzi, Marco
    Abstract: In this paper, I develop a dynamic insider-outsider model in which a union of incumbent workers is called in to choose the wage of its members by taking into account the optimal employment policy of firms that, in turn, are assumed to decide the firing rate of insiders and the number of outsiders to hire. Under the assumption that incumbents are able to observe their own productivity, the one of outsiders and the amount of labour turnover costs paid by firms, I analytically show that the initial stock of insiders may pin down an equilibrium in which the trajectories of incumbents, their own wage and the firing rate are jointly determined and the proposition according to which insiders have an incentive to keep their numbers small holds on a static and a dynamic perspective. Moreover, I numerically show that in this setting insiders adjust their wage in order to retain their positions and such a behaviour leads to asymmetric employment fluctuations and a certain degree of wage stickiness.
    Keywords: Insider-outsider theory; Union modeling; Wage and employment dynamics; Optimal control.
    JEL: E24 E32 J31 J64
    Date: 2016–10–26
  13. By: Adda, Jerome; Dustmann, Christian; Stevens, Katrien
    Abstract: We estimate a dynamic life-cycle model of labor supply, fertility and savings, incorporating occupational choices, with specific wage paths and skill atrophy that vary over the career. This allows us to understand the trade-o between occupational choice and desired fertility, as well as the sorting both into the labor market and across occupations. We quantify the life-cycle career costs associated with children, how they decompose into loss of skills during interruptions, lost earnings opportunities and selection into more child-friendly occupations. We analyze the long-run effects of policies that encourage fertility and show that they are considerably smaller than short-run effects.
    Keywords: dynamic structural model; Fertility; gender wage gap; Labor Supply; occupation
    JEL: C15 C33 J13 J22 J24 J31
    Date: 2016–10
  14. By: Vivien Lewis (Department of Economics, KU Leuven); Stefania Villa (Department of Economics, KU Leuven, Department of Economics, University of Foggia)
    Abstract: This paper considers the interdependence of monetary and macroprudential policy in a New Keynesian business cycle model under the zero lower bound constraint. Entrepreneurs borrow in nominal terms from banks and are subject to idiosyncratic default risk. The realized loan return to the bank varies with aggregate risk, such that bank balance sheets are affected by higher-than-expected rm defaults. Monetary and macroprudential policies are given by an interest rate rule and a capital requirement rule, respectively. We first characterize the model's stability properties under different steady state policies. We then analyze the transmission of a risk shock under the zero lower bound and different macroprudential policies. We finally investigate whether these policies are indeed optimal.
    Keywords: Triffin, European Payments Union (EPU), international monetary system (IMS)
    JEL: A11 B31 F02 F33 F36 N24
    Date: 2016–09
  15. By: Bharat Diwakar; Gilad Sorek
    Abstract: We study the effect of IPR (Intellectual Property Rights) policy on growth, in a closed overlapping-generations economy, which undergoes transitional development phase of human capital accumulation. We show that the growth-maximizing policy is stage-dependent: in the early development phase, during which innovation cost is high relative to worker productivity, weak IPR protection can expedite economic growth and may be necessary to escape long run stagnation. Weaker IPR protection erodes monopolistic deadweight loss and, thereby, increases aggregate output and saving. However, it also shifts investment away from R&D activity towards the formation of physical capital. We show that the former (positive) effect is dominant during the early development phase. However, as human capital is further accumulated, and labor productivity correspondingly increases, economic growth is maximized with stronger IPR protection.
    Keywords: Stage-Dependent IPR, OLG, Human Capital, Development and Growth
    JEL: O31 O34
    Date: 2016–10
  16. By: Kenneth Mirkin (UCLA); Philipp Kircher (University of Edinburgh)
    Abstract: We study efficient search behavior in a setting in an occupational choice model with two occupations, where one is more productive. The unemployed are heterogeneous in their ability in each occupation, and are imperfectly informed. In each occupation, better searching workers are more likely to be hired. Hence, workers learn about their ability from job search outcomes. Conceptually, this setting entails a bandit model of occupational choice embedded in a frictional labor market equilibrium. We characterize the search behavior that a planner would choose and compare it to equilibrium behavior. Amongst those who have high beliefs in the productive occupation, those who also have high beliefs in the other occupation should search longer in the productive occupation than they are themselves willing to, while those who have low beliefs in the other occupation. Policies to incentivize workers to search over a broader set of occupations exist in most OECD countries, and these results shed light on the types of workers that should be subjected to them and the ones that should not. Efficiency of learning during unemployment has not been yet characterized in the random search literature, and offers a new perspective on the role of government employment agencies.
    Date: 2016
  17. By: Jun Oshiro (Department of Law and Economics, Okinawa University); Yasuhiro Sato (Faculty of Economics, The University of Tokyo)
    Abstract: We develop a multisector general equilibrium model of a system of cities to study the quantitative significance of industrial structure in determining spatial structure. We first identify three types of wedges that capture the extent to which the standard urban economic model fails to explain empirically: efficiency and labor wedges, and amenity. We then calibrate the model to Japanese regional data and run counterfactual exercises to identify the significance of each wedge in each sector. Our analysis shows (i) that the labor wedge plays the primary role in determining the spatial structure, and (ii) that the secondary sector is the most influential.
    Date: 2016–10
  18. By: Julien Prat (CREST); Gabriel Felbermayr (University of Munich and Ifo Institute); Giammario Impullitti (University of Nottingham)
    Abstract: Increasing wage inequality between similar workers plays an important role for overall inequality trends in industrialized societies. To analyze this pattern, we incorporate directed job search into a dynamic model of international trade with heterogeneous firms and homogeneous workers. Wage inequality across and within firms results from their different hiring needs along their life cycles and the convexity of their adjustment costs. The interaction between wage posting and firm growth explains some recent empirical regularities on firm and labor market dynamics. Fitting the model to capture key features obtained from German linked employer-employee data, we investigate how falling trade costs and institutional reforms interact in shaping labor market outcomes. Focusing on the period 1996-2007, we find that neither trade nor key features of the Hartz labor market reforms account for the sharp increase in residual inequality observed in the data but can explain the fall in unemployment. By contrast, inequality appears highly responsive to the increase in product market competition possibly triggered by domestic regulatory reform.
    Date: 2016
  19. By: Aliaga-Díaz, Roger (The Vanguard Group, Inc); Olivero , María Pía (Drexel University); Powell, Andrew (Research Department Inter-American Development Bank and Universidad Torcuato di Tella)
    Abstract: The financial crisis of 2008/09 revived attention given to credit booms and busts and bank credit pro-cyclicality. The regulation guidelines of Basel III attempt to improve the quality of bank capital and explicitly includes a capital buffer to address cyclicality. In this paper we study the interaction between cyclical capital rules and alternative types of monetary policy in the context of a dynamic stochastic general equilibrium model. We find that: First, capital requirements amplify the effects of various exogenous shocks. Second, anti-cyclical requirements (as in Basel III) indeed, and as intended by the regulation, have important stabilization properties relative to the case of constant requirements (as in Basel I). This is true for all types of fluctuations that we study, which include those caused by productivity, demand-side, preference and monetary shocks. The quantitative results are sensitive to the size of the capital buffer (over minimum requirements) optimally held by banks. In particular, with reasonably large buffers, the economy behaves just as when there is no regulation, in which case a very strongly cyclical capital rule would be required to have significant effects.
    Keywords: Credit crunch; cyclical capital requirements; monetary policy; business cycles
    JEL: E32 E44
    Date: 2016–09–01
  20. By: Koeniger, Winfried
    Abstract: We use the Italian Survey of Household Income and Wealth, a rather unique dataset with a long time dimension of panel information on consumption, income and wealth, to structurally estimate a buffer-stock saving model. We exploit the information contained in the joint dynamics of income, consumption and wealth to quantify the degree of insurance against income risk. The estimated model implies that Italian households can insure between 89 and 95 percent of a transitory and between 7 and 9 percent of a permanent income shock. Compared to existing empirical estimates for the same dataset, our findings suggest that Italian households do not have access to significant insurance beyond self-insurance.
    Keywords: Consumption, Wealth, Incomplete markets, Insurance
    JEL: D91 E21
    Date: 2016–10
  21. By: Mark Bils (University of Rochester NBER); Yongsung Chang (University of Rochester, Yonsei University); Sun-Bin Kim (Yonsei University)
    Abstract: We consider a matching model of employment with flexible wages for new hires, but sticky wages within matches. Unlike most models of sticky wages, we allow effort to re- spond if wages are too high or too low. In the Mortensen-Pissarides model, employment is not affected by wage stickiness in existing matches. But it is in our model. If wages of matched workers are stuck too high, firms require more effort, lowering the value of additional labor and reducing hiring. We find that effort's response can greatly increase wage inertia and the volatility of employment relative to that in measured productivity.
    Keywords: Effort, Employment, Sticky Wages, Wage Inertia
    JEL: E32 E24 J22
    Date: 2016–10
  22. By: Bo Hyun Chang (University of Rochester); Yongsung Chang (University of Rochester, Yonsei University); Sun-Bin Kim (Yonsei University)
    Abstract: The standard models have diculty in justifying the current labor income tax rate in the U.S. The optimal tax rate is much higher than the current rate (e.g., Piketty and Saez (2013)). A majority of the population should be also in favor of raising taxes, as the income distribution is highly skewed. We show that the political equilibrium is actually close to the current tax rate, once we take account the ex-ante heterogeneity in household earnings (e.g., Guvenen (2009)) and income-dependent voting behavior, (e.g., Mahler (2008)) into the standard incomplete-markets model.
    Keywords: Optimal Tax, Ex-ante Heterogeneity, Voting Turnout Rates
    Date: 2016–10
  23. 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 short run equilibrium of schooling, relationship between child schooling and parental schooling, long run dynamics of schooling and human capital and relative effectiveness of two domestic policies- child labour ban and education subsidy on schooling. We find some interesting results. If parents working in unskilled sector do not experience any schooling at their childhood, they will never send their children for schooling. But the relationship between parental schooling and child schooling may not be monotonic. This relationship depends on other factors like subsistence consumption expenditure, learning by doing effect, responsiveness of wage to human capital in skilled sector, efficiency of education technology. Existence of low level equilibrium trap for unskilled parent depends on the specific form of human capital accumulation function. For a certain range of parental schooling time path of child schooling will be oscillating in nature. Decrease in child wage increases steady state schooling only if the maximum possible adult unskilled wage exceeds the sum of the schooling cost and subsistence expenditure of the household. If unskilled adult wage is sufficiently small, education subsidy is more effective in enhancing schooling than banning child labour.
    Keywords: child labour, schooling, human capital, low level equilibrium trap, oscillation, child labour ban, education subsidy
    JEL: I21 J22 J24 J82
    Date: 2016–10–22
  24. By: Urvi Neelakantan (Federal Reserve Bank of Richmond); Ivan Vidangos (Federal Reserve Board); Felicia Ionescu (Federal Reserve Board); Kartik Athreya (Federal Reserve Bank of Richmond)
    Abstract: How much of the dispersion in lifetime earnings, wealth, consumption, and utility is resolved early in life (prior to working life) vs. later? This critical question has received much attention, with influential contributions coming from [keane1997], [storesletten2005], and [huggett2011]. The goal of this paper is to provide quantitative measures of how the full range of households' investment opportunities matters for the fraction of lifetime inequality determined relatively early in life relative to later on. We focus on the role played by three investment opportunities: risky, lumpy college education; risky equity; and costly borrowing. To our knowledge, our work is the first to provide quantitative measures of the importance of each in the temporal resolution of lifetime inequality and the importance of the interaction between them. We find, first, that nearly all income inequality is attributable to human capital variation at age 23. For individuals who have likely completed major educational investments, our results suggest that financial opportunities play only a minor role in altering inequality. Second, we find that the option to invest in high-return, high-risk assets meaningfully increases the importance of initial inequality, whereas the ability to borrow lowers it.
    Date: 2016
  25. By: Gadatsch, Niklas; Hollmayr, Josef; Stähler, Nikolai
    Abstract: Using an estimated large-scale New-Keynesian model, we assess welfare and business cycle consequences of a fiscal union within EMU. We differentiate between three different scenarios: public revenue equalisation, tax harmonisation and a centralised fiscal authority. Relative to the status quo, long term consequences generate winners and losers depending on the degree of integration and on how key macroeconomic variables adjust. Short term differences between the regimes are minor, both in terms of business cycle statistics as well as in terms of risk sharing of asymmetric shocks. This also explains why welfare differences are negligibly small across the fiscal union scenarios. Even when introducing risk premia on government bonds, this general finding is not changed - although risk premia per se decrease welfare notably. We further perform a counterfactual exercise analysing the effects of what would have happened had a fiscal union regime been installed at the start of EMU already. While key macroeconomic variables would have reacted very similarly, debt dynamics could have changed notably over the estimation period.
    Keywords: Fiscal Policy,Fiscal Union,DSGE-Modelling,Macroeconomics
    JEL: H2 J6 E32 E62
    Date: 2016
  26. By: Drago Bergholt (Norges Bank (Central Bank of Norway)); Vegard Høghaug Larsen (Norges Bank (Central Bank of Norway))
    Abstract: The recent oil price fall has created concern among policy makers regarding the consequences of terms of trade shocks for resource-rich countries. This concern is not a minor one – the world's commodity exporters combined are responsible for 15–20% of global value added. We estimate a two-country New Keynesian model in order to quantify the importance of oil price shocks for Norway – a large, prototype petroleum exporter. Domestic supply chains link mainland (non-oil) Norway to the off-shore oil industry, while fiscal authorities accumulate income in a sovereign wealth fund. Oil prices and the international business cycle are jointly determined abroad. These features allow us to disentangle the structural sources of oil price fluctuations, and how they affect mainland Norway. The estimated model provides three important results: First, pass-through from oil prices to the oil exporter implies up to 20% higher business cycle volatility. Second, the majority of spillover effects stem from non-oil disturbances such as innovations in international investment efficiency. Conventional oil market shocks, in contrast, explain at most 10% of the Norwegian business cycle. Third, the prevailing fiscal regime provides substantial protection against external shocks while domestic supply linkages make the oil exporter more exposed.
    Date: 2016–10–20
  27. By: Stefano, Fasani;
    Abstract: This paper develops a DSGE model with downward nominal wage rigidity, in which aggregate price and productivity dynamics are exogenously determined by independent Brownian motions with drift. As a result, the long-run expected value of unemployment depends positively on the drift coe¢ cients and negatively on the volatility coe¢ cients of both price and productivity growth processes. Model prescriptions are empirically tested by using a dataset including a wide sample of OECD countries from a period spanning from 1961 to 2011. Panel regressions with fixed effects and time dummies confirm the expected relation of inflation and productivity with unemployment at low frequencies. Long-run unemployment is negatively correlated with the levels of inflation and productivity growth, and positively with their volatilities.
    Keywords: Long-run unemployment, Downward Nominal Wage Rigidity, Volatility, In‡ation targeting, DSGE model, Cross-country panel data
    JEL: E12 E24 E31 C23
    Date: 2016–10–18
  28. By: Manolis Galenianos (Royal Holloway, University of London)
    Abstract: I develop a theoretical model to study the welfare effects of using referrals in the labor market. In the model, firms use referrals to hire, workers are heterogeneous and the social network endogenous. Consistent with empirical evidence, referred workers are more likely to be hired, to receive a higher wage and to be more productive. The use of referrals exacerbates inequality among workers. Higher inequality is efficient if heterogeneity is driven by productivity differentials but is detrimental to efficiency if the probability of forming a match is weakly correlated with productivity, which is likely in the presence of discrimination.
    Date: 2016
  29. By: MORITA Tadashi; SATO Yasuhiro; YAMAMOTO Kazuhiro
    Abstract: We examine the possible impacts of demographics on the outcomes of capital tax competition in political economy. For this purpose, we develop an overlapping generations model wherein public good provision financed by capital tax is determined by majority voting. When a population is growing, younger people represent the majority, whereas when a population is decreasing, older people represent the majority. We show that the race to the bottom is likely to emerge in the economy with growing population whereas the race to the top might emerge in the economy with decreasing population.
    Date: 2016–09
  30. By: Julien Albertini; Jean-Olivier Hairault; François Langot; Thepthida Sopraseuth
    Date: 2016
  31. By: Richard H. Clarida; Ildikó Magyari
    Abstract: Gourinchas and Rey (2007) have shown that international financial adjustment (IFA) in the path of expected future returns on a country’s international investment portfolio can complement or even substitute for the traditional adjustment channel via a narrowing of country’s current account imbalance. In their paper, GR derive this result using a log linearization of a net foreign asset accumulation identity without reference to any specific theoretical model of IFA in expected foreign asset returns or the real exchange rate. In this paper we calibrate the importance of IFA in a standard open economy growth model (Schmitt-Grohe and Uribe, 2003) with a well-defined steady level of foreign liabilities. In this model there is a country specific credit spread which varies as a function of the ratio of foreign liabilities to GDP. We find that allowing for an IFA channel results in a very rapid converge of the current account to its steady state (relative to the no IFA case) so that most of the time that the country is adjusting, all the adjustment is via the IFA channel of forecastable changes in the costs of servicing debt and in the appreciation real exchange rate. By contrast, in the no IFA case, current account adjustment by construction does all the work and current account adjustment is much slower.
    JEL: F3 F32 F41
    Date: 2016–10
  32. By: Olivier Allais (Laboratoire de recherche sur la Consommation - INRA - Institut National de la Recherche Agronomique); Yann Algan (ECON - Département d'économie - Sciences Po); Edouard Challe (CEREG - CEREG - Centre d'Etudes et de Recherches sur l'Espace Germanophone - EA 4223 - Université Sorbonne Nouvelle - Paris 3 - UPOND - Université Paris Ouest Nanterre La Défense); Xavier Ragot (PSE - Paris School of Economics, PSE - Paris-Jourdan Sciences Economiques - CNRS - Centre National de la Recherche Scientifique - INRA - Institut National de la Recherche Agronomique - EHESS - École des hautes études en sciences sociales - ENS Paris - École normale supérieure - Paris - École des Ponts ParisTech (ENPC))
    Abstract: What are the costs of inflation fluctuations and who bears those costs? In this paper, we investigate this question by means of a quantitative incomplete-market, heterogenous-agent model wherein households hold real and nominal assets and are subject to both idiosyncratic labor income shocks and aggregate inflation risk. A key feature of our analysis is a nonhomothetic speci cation for households' preferences towards money and consumption goods. Unlike traditional speci cations, ours allows the model to reproduce the broad features of the distribution of monetary assets (in addition to being consistent with the distribution of nonmonetary assets). Inflation risk is found to generate signifi cant welfare losses for most households, i.e., between 1 and 1.5 percent of permanent consumption. The loss is small or even negative for households at the very top of the productivity and/or wealth distribution.
    Keywords: Money-in-the-utility,incomplete markets,inflation risk,welfare.
    Date: 2015–05–27
  33. By: Christoph Kaufmann
    Abstract: This paper studies Ramsey-optimal monetary and fiscal policy in a New Keynesian 2-country open economy framework, which is used to assess how far fiscal policy can substitute for the role of nominal exchange rates within a monetary union. Giving up exchange rate exibility leads to welfare costs that depend significantly on whether the law of one price holds internationally or whether firms can engage in pricing-to-market. Calibrated to the euro area, the welfare costs can be reduced by 86% in the former and by 69% in the latter case by using only one tax instrument per country. Fiscal devaluations can be observed as an optimal policy in a monetary union: if a nominal devaluation of the domestic currency were optimal under exible exchange rates, optimal fiscal policy in a monetary union is an increase of the domestic relative to the foreign value added tax.
    Keywords: Monetary union, Optimal monetary and fiscal policy, Exchange rate
    JEL: F41 F45 E63
    Date: 2016–09–21
  34. By: Eric Mengus (HEC Paris); Jean Barthelemy (Sciences Po.)
    Abstract: This paper argues that central bankers can raise inflation to signal their ability to commit to forward guidance policies. As inflation can be stabilized in normal times either because of central banker’s commitment ability or because of his aversion to inflation, the private sector is unable to infer the central banker’s type from observing stable inflation before a liquidity trap, jeopardizing the efficiency of forward guidance policy. We derive optimal policy in a new-Keynesian model subject to liquidity traps where agents are uncertain about the central banker’s type and we show that the central banker with commitment ability can signal its type by raising inflation before a trap. The corresponding level of signaling inflation increases with the frequency, the severity as well as with the length of liquidity traps. Finally, we show that this signaling motive can explain level of inflation well above 2%.
    Date: 2016

This nep-dge issue is ©2016 by Christian Zimmermann. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.