nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2017‒06‒11
eleven papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Credit and Saving Constraints in General Equilibrium: Evidence from Survey Data By Catalina Granda; Franz Hamann; Cesar E. Tamayo
  2. Unconventional Taxation Policy, Financial Frictions and Liquidity Traps By William John Tayler; Roy Zilberman
  3. Welfare-Enhancing Distributional Effects of Central Bank Asset Purchases By Andreas Schabert
  4. The effects of monetary policy shocks on inequality in Japan By Masayuki Inui; Nao Sudo; Tomoaki Yamada
  5. Fiscal Multipliers and Monetary Policy: Reconciling Theory and Evidence By Christian Bredemeier; Falko Juessen; Andreas Schabert
  6. Wage Formation, Unemployment and Business Cycle in Latvia By Ginters Buss
  7. Complex Asset Markets By Andrea L. Eisfeldt; Hanno Lustig; Lei Zhang
  8. Should Central Banks Worry About Nonlinearities of their Large-Scale Macroeconomic Models? By Vadym Lepetyuk, Lilia Maliar, Serguei Maliar
  9. Implications for Aggregate Inflation of Sectoral Asymmetries : Generalizing Woodford By Koskinen Hannu; Vilmunen Jouko
  10. Dynamic Pricing with Search Frictions By Daniel Garcia
  11. Money-Financed Fiscal Programs : A Cautionary Tale By William B. English; Christopher J. Erceg; J. David Lopez-Salido

  1. By: Catalina Granda; Franz Hamann (Banco de la República de Colombia); Cesar E. Tamayo
    Abstract: In this paper, we build a heterogeneous agents-dynamic general equilibrium model wherein saving constraints interact with credit constraints. Saving constraints in the form of fixed costs to use the financial system lead households to seek informal saving instruments (cash) and result in lower aggregate saving. Credit constraints induce misallocation of capital across producers that in turn lowers output, productivity, and the return to formal financial instruments. We calibrate the model using survey data from a developing country where informal saving and credit constraints are pervasive. Our quantitative results suggest that completely removing saving and credit constraints can have large effects on saving rates, output, TFP, and welfare. Moreover, we note that a sizable fraction of these gains can be more easily attained by a mix of moderate reforms that lower both types of frictions than by a strong reform on either front. Classification JEL: E21, E44, G21, O11, O16.
    Keywords: saving constraints, credit constraints, financial inclusion, misallocation, saving, formal and informal financial markets.
    Date: 2017–06
  2. By: William John Tayler; Roy Zilberman
    Abstract: This paper studies the cyclical properties of private asset income taxation in a New Keynesian model with financial frictions. We argue that optimal state-contingent variations in asset income taxation increase welfare, alter the monetary policy transmission mechanism and insure against liquidity traps. These findings are explained by an endogenous association amongst taxation, the effective rate of return on assets, the inflationary output gap and credit spreads. Such unique link operates via a working-capital cost channel, and affords the policy maker an additional degree of freedom in stabilizing the economy. Optimal policy calls for lowering (increasing) asset income taxation following financial (demand) shocks.
    Keywords: Asset Taxation, Optimal Policy, Risk Premium, Credit Cost Channel, Zero Lower Bound
    JEL: E32 E44 E52 E58 E62 E63
    Date: 2017
  3. By: Andreas Schabert
    Abstract: This paper shows that central bank interventions in secondary markets for private debt can enhance social welfare. We apply a model with idiosyncratic risk and limited contract enforcement, while abstracting from unusually large disruptions in financial market. By purchasing debt at above-market prices the central bank induces an increase in credit supply, by which rather borrowers than debt holders gain. We show that asset purchases can not only replicate a tax/subsidy that addresses pecuniary externalities induced by a collateral constraint, but can even improve upon the constrained efficient allocation. We further demonstrate that countercyclical asset purchases are desirable under aggregate risk, which reduce the build-up of debt in favorable times.
    Date: 2017–06–02
  4. By: Masayuki Inui; Nao Sudo; Tomoaki Yamada
    Abstract: The impacts of monetary easing on inequality have been attracting increasing attention recently. In this paper, we use the micro-level data on Japanese households to study the distributional effects of monetary policy. We construct quarterly series of income and consumption inequality measures from 1981 to 2008, and estimate their response to a monetary policy shock. We find that monetary policy shocks do not have a statistically significant impact on inequality across Japanese households in a stable manner. When considering inequality across households whose head is employed, we find evidence that, before the 2000s, an expansionary monetary policy shock increased income inequality through a rise in earnings inequality. Such procyclical responses are, however, scarcely observed when the current data are included in the sample period, or when earnings inequality across all households is considered. We also find that transmission of income inequality to consumption inequality is minor, including during the period when procyclicality of income inequality was pronounced. Using a two-sector dynamic general equilibrium model with attached labor inputs, we show that labor market flexibility is central to the dynamics of income inequality after monetary policy shocks. We also use the micro-level data on households' balance sheets and show that distributions of households' financial assets and liabilities do not play a significant role in the distributional effects of monetary policy.
    Keywords: Monetary policy, income, consumption, wealth inequality
    JEL: E3 E4 E5
    Date: 2017–06
  5. By: Christian Bredemeier; Falko Juessen; Andreas Schabert
    Abstract: Fiscal multipliers are typically observed to be moderate, which should, according to standard macroeconomic theory, be associated with real interest rates increasing with government spending. However, monetary policy rates have been found to decrease, which should – in theory – lead to large multipliers. In this paper, we rationalize these puzzling observations by accounting for responses of interest rates that are more relevant for private sector transactions than the monetary policy rate. We provide evidence that real interest rates on relatively illiquid assets and interest rate spreads which measure liquidity premia tend to increase after a government spending hike. We show that an otherwise standard macro model can explain diverging interest rate responses and moderate fiscal multipliers consistent with the data by accounting for an interest rate spread that decreases with the relative demand for less liquid assets. Our analysis indicates that neither a policy rate reduction nor a fixation at the zero lower bound are sufficient to induce large fiscal multipliers.
    Date: 2017–06–02
  6. By: Ginters Buss (Bank of Latvia)
    Abstract: This paper integrates the alternating-offer wage bargaining (AOB) in a fully-fledged New Keynesian open economy model, and estimates it to the Latvian data. Further on, the paper studies the model's properties and compares them to alternative specifications for labour market modelling, i.e. the Nash wage bargaining with both Taylor-type wage rigidity and without exogenously imposed wage inertia, a reduced-form sharing rule, and a reduced-form wage rule. The goal of the paper is to choose a labour market modelling specification that suits best the needs of the central bank of Latvia in terms of macroeconomic modelling and forecasting. The results indicate that the AOB model suits the Latvian labour market well. The paper concludes with a simulation of economic effects from a permanent increase in the minimum-to-average wage ratio, as observed in Latvia, and finds potentially large losses of employment and output.
    Keywords: alternating-offer bargaining, DSGE model, forecasting, minimum wage
    JEL: E0 E2 E3 F4
    Date: 2017–05–25
  7. By: Andrea L. Eisfeldt; Hanno Lustig; Lei Zhang
    Abstract: We develop a dynamic equilibrium model of complex asset markets with endogenous entry and exit in which the investment technology of investors with more expertise is subject to less asset-specific risk. The joint equilibrium distribution of financial expertise and wealth then determines risk bearing capacity. Higher expert demand lowers equilibrium required returns, reducing overall participation. In equilibrium, investor participation in more complex asset markets with more asset-specific risk is lower, despite higher market- level Sharpe ratios, provided that asset complexity and expertise are complementary. We analyze how asset complexity affects the stationary wealth distribution of complex asset investors. Because of selection, increased asset complexity reduces wealth concentration, even though the wealth distribution for more expert investors has fatter tails.
    JEL: G12 J42
    Date: 2017–06
  8. By: Vadym Lepetyuk, Lilia Maliar, Serguei Maliar
    Abstract: How wrong could policymakers be when using linearized solutions to their macroeconomic models instead of nonlinear global solutions? This question became of much practical interest during the Great Recession and the recent zero lower bound crisis. We assess the importance of nonlinearities in a scaled-down version of the Terms of Trade Economic Model (ToTEM), the main projection and policy analysis model of the Bank of Canada. In a meticulously calibrated “baby” ToTEM model with 21 state variables, we find that local and global solutions have similar qualitative implications in the context of the recent episode of the effective lower bound on nominal interest rates in Canada. We conclude that the Bank of Canada’s analysis would not improve significantly by using global nonlinear methods instead of a simple linearization method augmented to include occasionally binding constraints. However, we also find that even minor modifications in the model's assumptions, such as a variation in the closing condition, can make nonlinearities quantitatively important.
    Keywords: Business fluctuations and cycles, Econometric and statistical methods, Economic models
    JEL: C61 C63 C68 E31 E52
    Date: 2017
  9. By: Koskinen Hannu; Vilmunen Jouko (Faculty of Management, University of Tampere)
    Abstract: This paper develops and simulates a simple two sector DSGE model for studying aggregate inflation and output dynamics under sectoral adjustment asymmetries. The CES aggregate consumption bundle consists of two different groups of goods with imperfect substitutability between as well as within the groups. Allowing for different within group CES aggregators implies that the degree of substitutability between goods in a group is group-specific. To generate sector-specific price rigidities the model assumes sector-specific Calvo pricing. The paper focuses on potential post-shock divergences across sectors as well as on the implications for aggregate inflation and output of the sectoral asymmetries and identifies an important role for the sectoral relative price for aggregate dynamics. More specifically, the paper generalizes Woodford (2003), which only allows for the price rigidity to differ across sectors. Incorporating sector-specific price elasticities is important and well in line with the micro-level evidence on individual as well as sectoral prices. From the point of view of allocational efficiency and welfare, relative price movements occupy a central role in models incorporating Calvo pricing. This particular feature underscores the perceived macroeconomic benefits of low and stable inflation. This paper takes this logic a step further by incorporating movements both in individual and sectoral relative prices.
    JEL: E12 E17 D52
    Date: 2017–05
  10. By: Daniel Garcia
    Abstract: This paper studies dynamic pricing in markets with search frictions. Sellers have a single unit of a good and post prices in every trading period. Buyers have to incur a search cost to match with a new seller and upon matching they observe the price and the realization of some idiosyncratic match value. There is no discounting but trade ends at an exogenously given deadline. We show that equilibrium involves trading in nitely many trading periods and the volume of trade increases over time. Under mild conditions on the buyerto- seller ratio and the distribution of valuations, prices decrease at increasing rates as the deadline approaches. We derive the gains from trade in equilibrium and their distribution between buyers and sellers. For the case in which the measures of buyers and sellers coincide, we provide a full characterization of the (unique) equilibrium for a class of distribution functions. We nally discuss implications for market design, including the use of platform fees and cancellation policies.
    JEL: D11 D83 L13
    Date: 2017–05
  11. By: William B. English; Christopher J. Erceg; J. David Lopez-Salido
    Abstract: A number of prominent economists and policymakers have argued that money-financed fiscal programs (helicopter drops) could be efficacious in boosting output and inflation in economies facing persistent economic weakness, very low inflation, and significant fiscal strains. We employ a fairly conventional macroeconomic model to explore the possible effects of such policies. While we do find that money-financed fiscal programs, if communicated successfully and seen as credible by the public, could provide significant stimulus, we underscore the risks that would be associated with such a program. These risks include persistently high inflation if the central bank fully adhered to the program; or alternatively, that such a program would be ineffective in providing stimulus if the public doubted the central bank’s commitment to such an extreme strategy. We also highlight how more limited forms of monetary and fiscal cooperation – such as a promise by the central bank to be more accommodative than usual in response to fiscal stimulus – may be more credible and easier to communicate, and ultimately more effective in providing economic stimulus.
    Keywords: DSGE Model ; Fiscal policy ; Liquidity Trap ; Monetary policy ; Currency union
    JEL: E52 E58
    Date: 2017–06

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