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on Dynamic General Equilibrium |
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Issue of 2017‒08‒06
twenty-two papers chosen by Christian Zimmermann Federal Reserve Bank of St. Louis |
| By: | BEKIROS, Stelios; NILAVONGSE, Rachatar; UDDIN, Gazi Salah |
| Abstract: | This paper incorporates anticipated and unexpected shocks to bank capital into a DSGE model with a banking sector. We apply this model to study Basel III countercyclical capital requirements and their implications for banking stability and household welfare. We introduce three different countercyclical capital rules. The first countercyclical capital rule responds to credit to output ratio. The second countercyclical rule reacts to deviations of credit to its steady state, and the third rule reacts to credit growth. The second rule proves to be the most effective tool in dampening credit supply, housing demand, household debt and output fluctuations as well as in enhancing the banking stability by ensuring that banks have higher bank capital and capital to asset ratio. After conducting a welfare analysis we find that the second rule outranks the other ones followed by the first rule, the baseline and the third rule respectively in terms of welfare accumulation. |
| Keywords: | Banking stability, Basel III, Capital requirements, News shocks, Welfare analysis |
| JEL: | E32 E44 E52 |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:eui:euiwps:eco2017/06&r=dge |
| By: | Corina Boar (University of Rochester) |
| Abstract: | This paper demonstrates that parents accumulate savings to insure their children against income risk. I refer to these as dynastic precautionary savings. Using a sample of matched parent-child pairs from the Panel Study of Income Dynamics, I test for dynastic precautionary savings by examining the response of parental consumption to the child’s permanent income uncertainty. I exploit variation in permanent income risk across age and industry-occupation groups to confirm that higher uncertainty in the child’s permanent income depresses parental consumption. In particular, I find that the elasticity of parental consumption to child’s permanent income risk ranges between -0.08 and -0.06, and is of similar magnitude to the elasticity of parental consumption to own income risk. Motivated by the empirical evidence, I analyze the implications of dynastic precautionary saving in a quantitative model of altruistically linked overlapping generations. I use the model to (i) examine the size and timing of inter-vivos transfers and bequest, (ii) perform counterfactual experiments to isolate the contribution of dynastic precautionary savings to wealth accumulation and intergenerational transfers, and (iii) assess the effect of two policy proposals that can affect parents’ incentives to engage in dynastic precautionary savings: universal basic income and guaranteed minimum income. Lastly, I explore the implications of strategic interactions between parents and children for parents’ precautionary and dynastic precautionary behavior. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:343&r=dge |
| By: | Tim Worrall (University of Edinburgh); Alessia Russo (University of Oslo); Francesco Lancia (University of Vienna) |
| Abstract: | This paper studies the dynamic and steady state properties of optimal intergenerational insurance when enforcement is limited. It considers a pure exchange and stochastic overlapping generations economy. The optimal allocation is chosen by a benevolent government whose welfare function values the initial old and places a positive, but vanishing weight on the welfare of future generations. The optimal allocation is constrained to be self-enforceable. That is, generations must have no incentive to default on the consumption allocation at any history of states. We show that the optimal intergenerational insurance when enforcement is limited takes the form of a history-dependent pension plan payable by the young to the old generation. In a simple two-state example we show how the degree of insurance depends on the history of states, in particular, insurance falls with more consecutive good states for the young but reverts whenever the bad state occurs. Finally, we solve for the optimal time-dependent and stationary contracts and numerically compare the welfare loss of these schemes relative to the fully optimal history-dependent scheme. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:319&r=dge |
| By: | Ashima Goyal (Indira Gandhi Institute of Development Research); Abhishek Kumar (Indira Gandhi Institute of Development Research) |
| Abstract: | In this paper we take a New Keynesian Dynamic Stochastic General Equilibrium (DSGE) model to the Indian data using Kalman filter based maximum likelihood estimation. Our model based output gap tracks the statistical Hodrick-Prescott filter based output gap well. Comparison of estimated parameters, impulse responses and forecast error variance decomposition between India and United States points to differences in the structure of the two economies and of their inflationary process. Our estimates suggest higher value of habit persistence, more volatile markup and interest rate shocks in India. Markup shocks play a much larger role in determination of Indian inflation, pointing to the importance of supply side factors. Impulse responses show a higher impact of interest rate shocks on output and inflation, and lower impact of technology shocks on output in comparison to US. The latter again suggests the presence of supply side bottlenecks. We use smoothed states obtained from the Kalman filter to create counterfactual paths of output and Inflation (during 2009 Q4 to 2013 Q2) in presence of a given shock. In the post 2011 slowdown, monetary shock imposed significant output cost and for a brief period of time made the output gap negative. |
| Keywords: | DSGE; India; Potential Output; Output Gap; Kalman Filter; Maximum Likelihood; Inflation; Monetary Policy; Supply Shock |
| JEL: | E31 E32 E52 |
| Date: | 2017–04 |
| URL: | http://d.repec.org/n?u=RePEc:ind:igiwpp:2017-003&r=dge |
| By: | Shigeto Kitano (Research Institute for Economics & Business Administration (RIEB), Kobe University, Japan); Kenya Takaku (Faculty of International Studies, Hiroshima City University, Japan) |
| Abstract: | We develop a sticky price, small open economy model with financial frictions à la Gertler and Karadi (2011), in combination with liability dollarization. An agency problem between domestic financial intermediaries and foreign investors of emerging economies introduces financial frictions in the form of time-varying endogenous balance sheet constraints on the domestic financial intermediaries. We consider a shock that tightens the balance sheet constraint and show that capital controls, the effects of which are rigorously examined as a policy tool for the emerging economies, can be a credit policy tool to mitigate the negative shock. |
| Keywords: | Capital control; Macroprudential regulation; Financial frictions; Financial intermediaries; Balance sheets; Small open economy; Liability dollarization; DSGE; Welfare |
| JEL: | E69 F32 F41 |
| Date: | 2017–07 |
| URL: | http://d.repec.org/n?u=RePEc:kob:dpaper:dp2017-18&r=dge |
| By: | Philipp Pfeiffer (Technische Universität Berlin) |
| Abstract: | The macroeconomic experience of the last decade stressed the importance of jointly studying the growth and business cycle fluctuations behavior of the economy. To analyze this issue, we embed a model of Schumpeterian growth into an estimated medium-scale DSGE model. Results from a Bayesian estimation suggest that investment risk premia are a key driver of the slump following the Great Recession. Endogenous innovation dynamics amplifies financial crises and helps explain the slow recovery. Moreover, financial conditions also account for a substantial share of R&D investment dynamics. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:324&r=dge |
| By: | Mohsan Bilal (New York University, Stern School) |
| Abstract: | This paper analyzes the effect of the Zero Lower Bound (ZLB) on asset prices, risk premia, and the co-movement of asset returns using a New Keynesian framework with nominal rigidities. I ï¬ nd that the presence of the ZLB generates a new source of macroeconomic risk: the risk that the ZLB will be binding in the future. When the monetary policy rate is high, stocks and bonds are both risky, and bond risk premia are high. In contrast, at the ZLB, stock market risk increases but bond risk decreases. When the probability of the ZLB binding in the near future increases, investors cut spending to increase savings. This lowers current and future output and dividends. Lower expected dividends and higher equity risk premia lower current stock prices. Simultaneously, investors expect future short rates and bond risk premia to drop which raise long-term bond prices. These opposite exposures to the same ZLB risk sharply lower the correlation between stock and bond returns. In fact, the stock-bond correlation turns negative. I develop and calibrate a model that endogenously generates these observed changes while respecting unconditional macroeconomic and asset pricing moments. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:377&r=dge |
| By: | Camilo Morales-Jimenez (Board of Governors of the Federal Reserve System) |
| Abstract: | I propose a new mechanism for sluggish wages based on workers' noisy information about the state of the economy. Wages do not respond immediately to a positive aggregate shock because workers do not (yet) have enough information to demand higher wages. This increases firms' incentives to post more vacancies, which makes unemployment volatile and sensitive to aggregate shocks. The model is robust to two major criticisms of existing theories of sluggish wages and volatile unemployment: fexibility of wages for new hires and pro-cyclicality of the opportunity cost of employment. Calibrated to U.S. data, the model explains 70% of unemployment volatility. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:366&r=dge |
| By: | Sylvia Xiao (University of Wisconsin-Madison); Randall Wright (University of Wisconsin); Guillaume Rocheteau (University of California, Irvine) |
| Abstract: | We develop models with liquid government bonds and currency to analyze monetary policy, especially open market operations. Various specifications are considered for market structure, and for the liquidity — i.e., acceptability or pledgeability — of money and bonds in their roles as media of exchange or collateral. Theory delivers sharp policy predictions. It can also generate negative nominal yields, endogenous market segmentation, liquidity traps, and nominal prices or interest rates that appear sluggish. Differences in acceptability or pledgeability are not simply assumed; they are endogenized using information frictions. This naturally generates multiple equilibria, but conditional on selection, we still deliver sharp predictions. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:345&r=dge |
| By: | Franck Portier (Toulouse School of Economics); Dana Galizia (Carleton University); Paul Beaudry (University of British Columbia) |
| Abstract: | This paper begins by re-examining the spectral properties of several cyclically sen- sitive variables such as hours worked, unemployment and capacity utilization. For each of these series, we document the presence of an important peak in the spectral density at a periodicity of approximately 36-40 quarters. We take this pattern as suggestive of intriguing but little-studied cyclical phenomena at the long end of the business cycle, and we ask how best to explain it. In particular, we explore whether such patterns may reflect slow-moving limit cycle forces, wherein booms sow the seeds of the subsequent busts. To this end, we present a general class of models, featuring local complementarities, that can give rise to unique-equilibrium behavior characterized by stochastic limit cycles. We then use the framework to extend a New Keynesian-type model in a manner aimed at capturing the notion of an accumulation-liquidation cycle. We esti- mate the model by indirect inference and find that the cyclical properties identified in the data can be well explained by stochastic limit cycles forces, where the exogenous disturbances to the system are very short lived. This contrasts with results from most other macroeconomic models, which typically require very persistent shocks in order to explain macroeconomic fluctuations. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:310&r=dge |
| By: | Koichi Fukumura (JSPS Research Fellow, Osaka University); Kohei Nagamachi (The Graduate School of Management, Kagawa University); Yasuhiro Sato (Faculty of Economics, The University of Tokyo); Kazuhiro Yamamoto (Graduate School of Economics, Osaka University) |
| Abstract: | This paper constructs an overlapping generations model wherein people decide their number of children and levels of consumption for di¤erentiated goods. We further assume that immigration takes place according to the utility di¤erence between inside and outside a country. We show that an improvement in longevity has three e¤ects on the market size and welfare: First, it decreases the number of children. Second, it increases the per capita expenditure on consumption. Finally, it increases immigration. The …rst e¤ect has negative impacts on the market size and welfare whereas the latter two e¤ects have positive impacts. We then calibrate our model to match Japanese and U.S. data from 1955 to 2014 and …nd that the negative e¤ects dominate the positive ones. Moreover, our counterfactual analyses show that accepting immigration in Japan can be useful in overcoming population and market shrinkage caused by an aging population. |
| Date: | 2017–07 |
| URL: | http://d.repec.org/n?u=RePEc:tky:fseres:2017cf1059&r=dge |
| By: | Drautzburg, Thorsten; Fernández-Villaverde, Jesús; Guerron-Quintana, Pablo A. |
| Abstract: | We argue that political distribution risk is an important driver of aggregate fluctuations. To that end, we document significant changes in the capital share after large political events, such as political realignments, modifications in collective bargaining rules, or the end of dictatorships, in a sample of developed and emerging economies. These policy changes are associated with significant fluctuations in output and asset prices. Using a Bayesian proxy-VAR estimated with U.S. data, we show how distribution shocks cause movements in output, unemployment, and sectoral asset prices. To quantify the importance of these political shocks for the U.S. as a whole, we extend an otherwise standard neoclassical growth model. We model political shocks as exogenous changes in the bargaining power of workers in a labor market with search and matching. We calibrate the model to the U.S. corporate non-financial business sector and we back up the evolution of the bargaining power of workers over time using a new methodological approach, the partial filter. We show how the estimated shocks agree with the historical narrative evidence. We document that bargaining shocks account for 34% of aggregate fluctuations. |
| Keywords: | Aggregate fluctuations; bargaining shocks; historical narrative.; partial filter; Political redistribution risk |
| JEL: | E32 E37 E44 J20 |
| Date: | 2017–07 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:12187&r=dge |
| By: | Tetsuo Ono (Graduate School of Economics, Osaka University); Yuki Uchida (Faculty of Economics, Seikei University) |
| Abstract: | This study considers the politics of public education policy in an overlapping- generations model with physical and human capital accumulation. In particular, this study examines how debt and tax financing differ in terms of growth and welfare across generations, as well as which fiscal stance voters support. The analysis shows that the growth rate in debt financing is lower than that in tax financing, and that debt financing creates a tradeoff between the present and future generations. The analysis also shows that debt financing attains slower economic growth than that realized by the choice of a social planner who cares about the welfare of all generations. |
| Keywords: | Economic growth, Human capital, Public debt, Political equilib- rium |
| JEL: | D70 E24 H63 |
| Date: | 2016–01 |
| URL: | http://d.repec.org/n?u=RePEc:osk:wpaper:1601r2&r=dge |
| By: | Ander Perez-Orive (Federal Reserve Board); Andrea Caggese (Pompeu Fabra University) |
| Abstract: | The widespread emergence of intangible technologies in recent decades may have significantly hurt output growth--even when these technologies replaced considerably less productive tangible technologies--because of low interest rates. After a shift toward intangible capital in production, the corporate sector becomes a net saver because intangible capital has a low collateral value. Firms' ability to purchase intangible capital is impaired by low interest rates because low rates slow down the accumulation of savings and increase the price of capital, worsening capital misallocation. Our model simulations reproduce key trends in the U.S. in the period from 1980 to 2015. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:382&r=dge |
| By: | Chen, Daphne (Econ One Research); Qi, Shi (College of William and Mary); Schlagenhauf, Don E. (Federal Reserve Bank of St. Louis) |
| Abstract: | A dynamic stochastic occupational choice model with heterogeneous agents is developed to evaluate the impact of a corporate income tax reduction on employment. In this framework, the key margin is the endogenous entrepreneurial choice of the legal form of organization (LFO). A reduction in the corporate income tax burden encourages adoption of the C corporation legal form, which reduces capital constraints on firms. Improved capital re-allocation increases overall productive efficiency in the economy and therefore expands the labor market. Relative to the benchmark economy, a corporate income tax cut can reduce the non-employment rate by up to 7 percent. |
| Keywords: | Corporate Income Tax; Legal form of Organization; Employment |
| JEL: | E02 E24 E60 L22 |
| Date: | 2017–07–31 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedlwp:2017-021&r=dge |
| By: | Christine Braun (University of California Santa Barbara) |
| Abstract: | How does the minimum wage affect crime rates? Empirical research suggests that increasing a worker's wage can deter him from committing crimes. On the other hand, if that worker becomes displaced as a result of the minimum wage, he may be more likely to commit a crime. In this paper, I describe a frictional world in which a worker's criminal actions are linked to his labor market outcomes. I calibrate the model to match the aggregate crime rate and the labor market faced by 16-24 year olds in 1998. Using the calibrated model, I show that the relationship between the aggregate crime rate and the minimum wage is non-monotonic. I test for this non-monotonicity using county level crime data and state level minimum wage changes from 1980 to 2012. The results from the empirical analysis as well as the model suggest that any increase in the federal minimum wage may increase the crime rate as the current wage floor is close the the crime minimizing value. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:359&r=dge |
| By: | Christian Bredemeier; Christoph Kaufmann; Andreas Schabert |
| Abstract: | Announcements of future monetary policy rate changes have been found to be imperfectly passed through to various interest rates. We provide evidence for rates of return on less liquid assets to respond by less than, e.g., treasury rates to forward guidance announcements of the US Federal Reserve, suggesting that single-interest-rate models tend to overestimate their macroeconomics effects. We apply a macroeconomic model with interest rate spreads stemming from differential pledgeability of assets, implying that assets provide liquidity services to different extents. Consistent with empirical evidence, announcements of future reductions in the policy rate lead to an increase in liquidity premia. The output effects of forward guidance do not increase with length of the guidance period and are substantially less pronounced than they are predicted to be by a standard New Keynesian model. We thereby provide a solution to the so-called ”forward guidance puzzle”. |
| Date: | 2017–07–26 |
| URL: | http://d.repec.org/n?u=RePEc:kls:series:0096&r=dge |
| By: | Andrés Erosa; Luisa Fuster; Gueorgui Kambourov; Richard Rogerson |
| Abstract: | We document a robust negative relationship between the log of mean annual hours in an occupation and the standard deviation of log annual hours within that occupation. We develop a unified model of occupational choice and labor supply that features heterogeneity across occupations in the return to working additional hours and show that it can match the key features of the data both qualitatively and quantitatively. We use the model to shed light on gender differences in labor market outcomes that arise because of gender asymmetries in home production responsibilities. Our model generates large gender gaps in hours of work, occupational choices, and wages. In particular, an exogenous difference in time devoted to home production of ten hours per week increases the observed gender wage gap by roughly eleven percentage points and decreases the share of females in high hours occupations by fourteen percentage points. The implied misallocation of talent across occupations has significant aggregate effects on productivity and welfare. |
| JEL: | E2 J2 |
| Date: | 2017–07 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:23636&r=dge |
| By: | Fernando Duarte (Federal Reserve Bank of New York); Tobias Adrian (Federal Reserve Bank of New York) |
| Abstract: | We present a parsimonious New Keynesian model that features financial vulnerabilities. The vulnerabilities generate time varying downside risk of GDP growth by driving the dynamics of risk premia. Monetary policy impacts the output gap directly via the IS curve, and indirectly via its impact on financial vulnerabilities. The optimal monetary policy rule always depends on financial vulnerabilities in addition to output, inflation, and the real rate. We show that a classic Taylor rule exacerbates downside risk of GDP growth relative to an optimal Taylor rule, thus generating welfare losses associated with negative skewness of GDP growth. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:391&r=dge |
| By: | Savitar Sundaresan (Columbia University); Jaromir Nosal (Boston College); Marcin Kacperczyk (Imperial College London) |
| Abstract: | Levels and concentration of institutional equity ownership have been growing steadily over the last few decades raising concerns of potential market insta- bility. We study theoretically and empirically the consequences of changes in ownership structure for informational content of prices, on average and across assets with di↵erent characteristics. Our theoretical framework is a general equilibrium portfolio-choice model with endogenous information acquisition and market power. We show that, in the cross section, an increase in institutional (informed) ownership increases price informativeness, and an increase in con- centration of ownership leads to lower informativeness. We confirm similar e↵ects in the data of U.S. stocks over the period 1980-2015. The policy ex- periments of changing ownership structure indicate a non-monotonic relation between the levels and concentration of ownership and price informativeness. We conclude that any policy targeting ownership structure should factor in its e↵ects on welfare through price informativeness. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:356&r=dge |
| By: | Christine Parlour (UC Berkeley) |
| Abstract: | We consider the interaction between the roles of a bank as a facilitator of payments in the economy and as a lender. In our model, banks make loans by issuing digital claims to an entrepreneur, who then uses them to pay for inputs. Issuing digital claims has two effects on a bank’s liquidity. First, some of these claims used as payment are cashed in before the project is over, necessitating transfers in the inter-bank market to meet these intermediate liquidity needs. Second, the lending bank must transfer reserves to the other banks when the project is done to settle its claims. Each of these transfers has a cost; the endogenous interest rate in the inter-bank market and a settlement cost for final transfers. These costs, in turn, are frictions that affect bank lending. Banks in our model are strategic. If productivity is similar, a high cost of final transfers leads to a coordination friction and multiple equilibria, with each bank trying to match the average number of digital claims issued by other banks. We consider the effects of financial innovations (i.e., FinTech) on the payments system and show that a reduction in the need for intermediate liquidity can lead to an increase in the inter-bank interest rate, because it also induces each bank to increase its lending. We also show that innovations may shift investments from more productive to less productive regions. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:388&r=dge |
| By: | Elmar Mertens (Bank of International Settlements); Christian Matthes (Federal Reserve Bank of Richmond); Thomas Lubik (Federal Reserve Bank of Richmond) |
| Abstract: | We study equilibrium determination in an environment where two kinds of agents have different information sets: The fully informed agents know the structure of the model and observe histories of all exogenous and endogenous variables. The less in-formed agents observe only a strict subset of the full information set. All types of agents form expectations rationally, but agents with limited information need to solve a dynamic signal extraction problem to gather information about the variables they do not observe. We show that for parameters values that imply a unique equilibrium under full information, the limited information rational expectations equilibrium can be indeterminate. In a simple application of our framework to a monetary policy problem we show that limited information on part of the central bank implies indeterminate outcomes even when the Taylor Principle holds. |
| Date: | 2017 |
| URL: | http://d.repec.org/n?u=RePEc:red:sed017:337&r=dge |