nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2018‒07‒16
nineteen papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Financial friction sources in emerging economies: Structural estimation of sovereign default models By Takefumi Yamazaki
  2. Does social capital explain the Solow residual? A DSGE approach By Argentiero, Amedeo; Cerqueti, Roy; Sabatini, Fabio
  3. Nonlinear household earnings dynamics, self-insurance, and welfare By Mariacristina De Nardi; Giulio Fella; Gonzalo Paz-Pardo
  4. Meritocracy, Public-Sector Pay and Human Capital Accumulation By Andri Chassamboulli; Pedro Gomes
  5. Oil and Commodities Drive the World Business Cycle: A Long-Commodity-Cycle Model of the World Economy Over a Century and a Half By Le, Vo Phuong Mai; Meenagh, David; Minford, Patrick
  6. Are asset price data informative about news shocks? A DSGE perspective By Iskrev, Nikolay
  7. Leaning Against Housing Prices as Robustly Optimal Monetary Policy By Klaus Adam; Michael Woodford
  8. Differences in Euro-Area Household Finances and their Relevance for Monetary-Policy Transmission By Thomas Hintermaier; Winfried Koeniger
  9. The economics of monetary unions By Kobielarz, Michal
  10. Reconciling Jaimovich-Rebelo Preferences, Habit in Consumption and Labor Supply By Tom D. Holden; Paul Levine; Jonathan M. Swarbrick
  11. Health, Longevity and Pension Reform By Laun, Tobias; Markussen, Simen; Vigtel, Trond Christian; Wallenius, Johanna
  12. Optimal Dynamic Path during the Transition of Exchange Rate Regime: Analysis of the People’s Republic of China (PRC), Malaysia, and Singapore By Yoshino, Naoyuki; Asonuma, Tamon
  13. Decreased Effectiveness of Fiscal and Monetary Policies in Japan’s Aging Society By Yoshino, Naoyuki; Miyamoto, Hiroaki
  14. Replacement hiring and the productivity-wage gap By Acharya, Sushant; Wee, Shu Lin
  15. What inflation measure should a currency union target? By Barnett, William A.; Wang, Chan; Wang, Xue; Wu, Liyuan
  16. Thomas Sargent face à Robert Lucas : une autre ambition pour la Nouvelle Economie Classique By Aurélien Goutsmedt
  17. Crime, Broken Families, and Punishment By Bezin, Emeline; Verdier, Thierry; Zenou, Yves
  18. Fiscal Stimulus with Learning-By-Doing By Antonello d’Alessandro; Giulio Fella; Leonardo Melosi
  19. Optimal Control of Constrained Stochastic Linear-Quadratic Model with Applications By Weiping Wu; Jianjun Gao; Junguo Lu; Xun Li

  1. By: Takefumi Yamazaki (Policy Research Institute, Ministry of Finance)
    Abstract: There are two literature strands that explain stylized facts in emerging economies: the stochastic productivity trend or financial frictions. However, financial frictions are driven by both trend and stationary productivity shocks, thus distinguishing their impact from the direct role of output fluctuations is essential. We estimate sovereign default models, full-nonlinear dynamic stochastic general equilibrium (DSGE) with micro-founded financial imperfections, applying a particle filter, and evaluate the source of financial frictions. The main finding is that stationary shocks rather than trend shocks account for financial frictions and the resulting countercyclicality, except for the post-1977 period in Mexico; however, the exception disappears for 1902?2005 as long-run data. The sources of financial frictions are determined by the persistence and volatility of shocks, asymmetric domestic cost of sovereign default, and mismatch between sovereign default and business cycles.
    Keywords: Sovereign default, Business cycles, Financial imperfections, Particle filter, Sequential Monte Carlo, Full nonlinear DSGE
    JEL: E32 E62 F41 F44
    Date: 2018–02
  2. By: Argentiero, Amedeo; Cerqueti, Roy; Sabatini, Fabio
    Abstract: Abstract Social capital has been credited with playing a role in many desirable economic outcomes. We analyze how these potentially beneficial effects translate into the macro-performance of economies by developing a dynamic stochastic general equilibrium (DSGE) model featuring the role of social capital in the explanation of the Solow residual. We then simulate and estimate the model with Bayesian techniques using Italian data. Our framework fits actual data better than a standard DSGE model, suggesting that social capital may improve the economic performance via its impact on total factor productivity.
    Keywords: social capital; total factor productivity; Solow residual; DSGE models
    JEL: A13 A14 E22 O11
    Date: 2018–05–31
  3. By: Mariacristina De Nardi (University College London (UCL); Federal Reserve Bank of Chicago; Institute for Fiscal Studies (IFS); Centre for Economic Policy Research (CEPR); The National Bureau of Economic Research (NBER)); Giulio Fella (Queen Mary University of London; Centre for Macroeconomics (CFM); Institute for Fiscal Studies); Gonzalo Paz-Pardo (University College London (UCL))
    Abstract: Earnings dynamics are much richer than typically assumed in macro models with heterogeneous agents. This holds for individual-pre-tax and household-post-tax earnings and across administrative (Social Security Administration) and survey (Panel Study of Income Dynamics) data. We study the implications of two processes for household, post-tax earnings in a standard life-cycle model: a canonical earnings process (that includes a persistent and a transitory shock) and a rich earnings dynamics process (that allows for age-dependence of moments, non-normality, and nonlinearity in previous earnings and age). Allowing for richer earnings dynamics implies a substantially better fit of the evolution of cross-sectional consumption inequality over the life cycle and of the individual-level degree of consumption insurance against persistent earnings shocks. Richer earnings dynamics also imply lower welfare costs of earnings risk, but, as the canonical earnings process, do not generate enough concentration at the upper tail of the wealth distribution.
    Keywords: Earnings risk, Savings, Consumption, Inequality, Life cycle
    JEL: D14 D31 E21 J31
    Date: 2018–06
  4. By: Andri Chassamboulli; Pedro Gomes
    Abstract: We set up a model with search and matching frictions to understand the effects of employment and wage policies, as well as non-meritocratic hiring in the public sector, on unemployment, rent seeking and education decisions. Wages and employment of skilled and unskilled public-sector workers affect educational attainment; the extent of that effect depends on the structure of the labor market and how non-meritocratic public-sector hiring is. Conditional on inefficiently high public-sector wages, less-meritocratic hiring in the public sector lowers the unemployment rate and might raise welfare because it limits the size of queues for public-sector jobs. Public-sector wage and employment policies impose an endogenous constraint on the number of workers the government can hire through connections.
    Keywords: Public-sector employment; meritocracy; public-sector wages; unemployment; skilled workers; human capital accumulation
    JEL: E24 J31 J45 J64
    Date: 2018–07
  5. By: Le, Vo Phuong Mai (Cardiff Business School); Meenagh, David (Cardiff Business School); Minford, Patrick (Cardiff Business School)
    Abstract: This paper explores the world business cycle using unfiltered data from 1870 and looks for a theory that could account for the long wave commodity cycle in the world economy. We build a simple DSGE model that includes a long time-to-build constraint in the commodity sector. We find that this model can produce long cycles in output and commodity prices as introduced by Kontradieff (1925) and Schumpeter (1935). Our findings show that these long business cycles are produced by the long gestation of commodity capacity which causes very large swings in commodity prices.
    Keywords: Long waves; commodities; DSGE model; Indirect Inference
    JEL: E10 E32 E52
    Date: 2018–06
  6. By: Iskrev, Nikolay
    Abstract: Standard economic intuition suggests that asset prices are more sensitive to news than other economic aggregates. This has led many researchers to conclude that asset price data would be very useful for the estimation of business cycle models containing news shocks. This paper shows how to formally evaluate the information content of observed variables with respect to unobserved shocks in structural macroeconomic models. The proposed methodology is applied to two different real business cycle models with news shocks. The contribution of asset prices is found to be relatively small. The methodology is general and can be used to measure the informational importance of observables with respect to latent variables in DSGE models. Thus, it provides a framework for systematic treatment of such issues, which are usually discussed in an informal manner in the literature. JEL Classification: C32, C51, C52, E32
    Keywords: asset prices, DSGE models, identification, information, news shocks
    Date: 2018–06
  7. By: Klaus Adam; Michael Woodford
    Abstract: We analytically characterize optimal monetary policy for an augmented New Keynesian model with a housing sector. In a setting where the private sector has rational expectations about future housing prices and inflation, optimal monetary policy can be characterized without making reference to housing price developments: commitment to a ‘target criterion’ that refers to inflation and the output gap only is optimal, as in the standard model without a housing sector. When the policymaker is concerned with potential departures of private sector expectations from rational ones and seeks to choose a policy that is robust against such possible departures, then the optimal target criterion must also depend on housing prices. In the empirically realistic case where housing is subsidized and where monopoly power causes output to fall short of its optimal level, the robustly optimal target criterion requires the central bank to ‘lean against’ housing prices: following unexpected housing price increases, policy should adopt a stance that is projected to undershoot its normal targets for inflation and the output gap, and similarly aim to overshoot those targets in the case of unexpected declines in housing prices. The robustly optimal target criterion does not require that policy distinguish between ‘fundamental’ and ‘non-fundamental’ movements in housing prices.
    Keywords: asset price bubbles, leaning against the wind, inflation targeting
    JEL: D81 D84 E52
    Date: 2018
  8. By: Thomas Hintermaier; Winfried Koeniger
    Abstract: This paper quantifies the extent of heterogeneity in consumption responses to changes in real interest rates and house prices in the four largest economies in the euro area: France, Germany, Italy, and Spain. We first calibrate a life-cycle incomplete-markets model with a liquid financial asset and illiquid housing to match the large heterogeneity of households asset portfolios, observed in the Household Finance and Consumption Survey (HFCS) for these countries. We then show that the heterogeneity in household finances implies that responses of consumption to changes in the real interest rate and in house prices differ substantially across the analyzed countries, and across age groups within these countries. The different consumption responses quantified in this paper point towards important heterogeneity in monetary-policy transmission within the euro area.
    Keywords: European household portfolios, consumption, monetary policy transmission, international comparative finance, housing
    JEL: D14 D31 E21 E43 G11
    Date: 2018
  9. By: Kobielarz, Michal (Tilburg University, School of Economics and Management)
    Abstract: The dissertation consists of three chapters in International Macroeconomics devoted to studying the dynamic behavior of a small open economy within a monetary union. The first two chapters explore the role of expectations and informational frictions for a member country of a monetary union. The first chapter addresses the question of sovereign debt crisis contagion in a model where sovereign default and an exit from a monetary union are separate but interrelated decisions. The second chapter investigates instability driven by inflation expectations, and suggests heterogeneous inflation histories as one of the factors responsible for the large macroeconomic imbalances within the Eurozone. The study of issues related to monetary unions and economic crises involves the use of models where non-linearities and uncertainty matter, but those features pose computational challenges to the modeler. Therefore, the last chapter proposes a novel method for solving dynamic stochastic models, that preserves the original non-linearity of the model, takes into account uncertainty, but at the same time allows approximating the model locally and, hence, avoiding the curse of dimensionality.
    Date: 2018
  10. By: Tom D. Holden; Paul Levine; Jonathan M. Swarbrick
    Abstract: This note studies a form of a utility function of consumption with habit and leisure that (a) is compatible with long-run balanced growth, (b) hits a steady-state observed target for hours worked and (c) is consistent with micro-econometric evidence for the inter-temporal elasticity of substitution and the Frisch elasticity of labor supply. We employ Jaimovich- Rebello preferences, and our results highlight a constraint on the preference parameter needed to target the steady-state Frisch elasticity. This leads to a lower bound for the latter that cannot be reconciled empirically with external habit, but the introduction of a labor wedge solves the problem. We also propose a dynamic Frisch inverse elasticity measure and examine its business cycle properties.
    Keywords: Econometric and statistical methods, Inflation and prices
    JEL: E21 E24
    Date: 2018
  11. By: Laun, Tobias (Department of Economics); Markussen, Simen (Ragnar Frisch Centre for Economic Research); Vigtel, Trond Christian (Ragnar Frisch Centre for Economic Research); Wallenius, Johanna (Department of Economics, Stockholm School of Economics,)
    Abstract: In this paper, we study alternative pension reforms designed to achieve fiscal sustainability in the face of demographic change. We are particularly interested in the heterogeneous effects across demographic groups, as improvements in health and longevity have not been uniform across the population. To this end, we develop a dynamic, structural life cycle model of heterogeneous agents who face health, mortality and income risk. We consider the following policy reform measures: (1) increasing the early access age to pensions, (2) raising income taxes, (3) lowering pension benefits and (4) lowering pension and disability benefits. We find that, of the considered policies, proportionally lowering pension and disability benefits results in the highest average welfare and the lowest degree of inequality. It is also successful at boosting employment, particularly among the less educated.
    Keywords: Life cycle; Retirement; Disability insurance; Health
    JEL: E24 J22 J26
    Date: 2018–05–08
  12. By: Yoshino, Naoyuki (Asian Development Bank Institute); Asonuma, Tamon (Asian Development Bank Institute)
    Abstract: We consider the optimal exchange rate regime transition policy for three East Asian countries: the People’s Republic of China (PRC), Malaysia, and Singapore. In contrast to two traditional approaches to exchange rate regimes in East Asia, we conduct a dynamic transition analysis. Based on a small, open-economy dynamic stochastic general equilibrium model applied to these three countries, we define transition policies from a dollar peg regime to either a basket peg or a floating regime and compare the welfare gains of these policies relative to maintaining the current dollar peg regime. The quantitative analysis using PRC, Malaysian, and Singaporean data shows that the PRC would be better off shifting gradually from a dollar peg to a basket peg. In response to the PRC’s shift, both Malaysia and Singapore would opt to shift gradually to a basket peg regime.
    Keywords: exchange rate; exchange rate regime; dynamic transition analysis; basket peg; dollar peg; floating regime; DSGE model
    JEL: F33 F41 F42
    Date: 2017–07–17
  13. By: Yoshino, Naoyuki (Asian Development Bank Institute); Miyamoto, Hiroaki (Asian Development Bank Institute)
    Abstract: We study how an aging population affects economic performance and the effectiveness of fiscal and monetary policies. We develop a New Keynesian dynamic stochastic general equilibrium model with heterogeneous households, workers, and retirees. We demonstrate that an increase in the proportion of working population increases aggregate output, consumption, and investment by increasing total labor supply in the long run. It also increases wages and reduces social security burden of the government. We also find that effectiveness of fiscal and monetary policies is weakened when the proportion of retirees becomes larger. This is the reason why recent monetary policies cannot lift the Japanese economy from prolonged stagnation.
    Keywords: aging population; aging society; fiscal policy; monetary policy
    JEL: E52 E62 J11
    Date: 2017–05–09
  14. By: Acharya, Sushant (Federal Reserve Bank of New York); Wee, Shu Lin (Carnegie Mellon University)
    Abstract: A large and growing share of hires in the United States are replacement hires. This increase coincides with a growing productivity-wage gap. We connect these trends by building a model where firms post long-lived vacancies and engage in on-the-job search for more productive workers. These features improve a firm's bargaining position while raising workers' job insecurity and the wedge between hiring and meeting rates. All three channels lower wages while raising productivity. Quantitatively, increased replacement hiring explains half the increase in the productivity-wage gap. The socially efficient outcome features fewer low-productivity jobs and a 10 percent narrower productivity-wage gap.
    Keywords: replacement hiring; productivity-wage gap; unemployment; labor share; efficiency
    JEL: E32 J63 J64
    Date: 2018–06–01
  15. By: Barnett, William A.; Wang, Chan; Wang, Xue; Wu, Liyuan
    Abstract: What is the appropriate inflation target for a currency union, when conducting monetary policy: core inflation or headline inflation? We answer the question in a two-country New Keynesian model with an energy sector. We derive the welfare loss function and find that optimal monetary policy should target output gaps, the terms of trade gap, the Prouder Price Index inflation rates, and the real marginal cost gaps. We use the welfare loss function to evaluate two alternative Taylor-type monetary policy rules. We find that the choice of preferred policy rule depends on the shocks. Specifically, when productivity shocks hit the economy, the policymaker should follow the headline inflation Taylor rule, while the core inflation Taylor rule should be followed when a negative energy endowment shock hits the economy.
    Keywords: Core inflation; Headline inflation; Optimal monetary policy; Currency union; Welfare.
    JEL: E5 F3 F4
    Date: 2018–05–25
  16. By: Aurélien Goutsmedt (CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique)
    Abstract: The article shows that Sargent's view of macroeconomics is in contrast with Lucas' one. According to the latter, assumptions in a model are un-realist, the model do not aim at representing reality. It is rather a simulation tool to enable the evaluation of different economic policies. The Lucasian ideal reflects a belief in a macroeconomist who is an engineer in charge of the production of a "software for economic policies" used by governmental authorities. And he is the one who handles the software to help policy choices on a scientific basis. Concerning Sargent, he believed that in order to replace the Keynesian paradigm, New Classical Economics had to be able to succeed in the same tasks. And one of these tasks was to advise political power by bringing some telescope to read current economic phenomenon and some intuitive ideas to debate on economic policy. Sargent sought to implement what he called the Rational Expectations Theory to some concrete cases (Poincaré Stabilization, German Hyperinflation, Thatcher and Reagan policies) to show the relevance of such a framework to think about current economic issues.
    Abstract: L'idée est de montrer que la vision de la macroéconomie de Sargent contraste avec celle de Lucas. Pour Lucas, les hypothèses d'un modèle sont « a-réalistes », le modèle ne vise pas à représenter la réalité. Il est un outil de simulation qui doit permettre de simuler différentes politiques économiques. L'idéal « lucassien » est celui d'un macroéconomiste qui a donc vocation à devenir un ingénieur chargé de fournir un « logiciel de politiques économiques » aux autorités publiques, logiciel qu'il manipule afin d'aiguiller les choix de politiques sur une base scientifique. Sargent, quant à lui, considère que pour suppléer le paradigme keynésien, la nouvelle économie classique doit être capable de remplir les mêmes tâches, et l'une de ces tâches est de conseiller le pouvoir en lui fournissant une grille de lecture des phénomènes économiques et des outils intuitifs pour d&eaute;battre des politiques économiques à mettre en place. Sargent cherche à appliquer ce qu'il nomme la théorie des anticipations rationnelles à un ensemble de cas concrets (stabilisation Poincaré, hyperinflation allemande, politique de Thatcher et Reagan) pour montrer la pertinence de ce cadre d'analyse pour penser les problèmes économiques contemporains.
    Keywords: Rational Expectations,New Classical Economics,Macroeconomics History,Histoire de la macroéconomie,Nouvelle Economie Classique,Anticipations rationnelles
    Date: 2017–02
  17. By: Bezin, Emeline; Verdier, Thierry; Zenou, Yves
    Abstract: We develop a two-period overlapping generations model in which both the structure of the family and the decision to commit crime are endogenous and a culture of honesty is transmitted intergenerationally by families and peers. Having a father at home might be crucial to prevent susceptible boys from becoming criminals, as this facilitates the transmission of the honesty trait against criminal behavior. By "destroying" biparental families and putting fathers in prison, we show that more intense crime repression can backfire because it increases the possibility that criminals' sons become criminals themselves. Consistent with sociological disorganization theories of crime, the model also explains the emergence and persistence of urban ghettos characterized by a large proportion of broken families and high crime rates. This is because for children who come from these broken families, negative community experiences (peer effects) further encourage their criminal participation. Finally, we discuss the efficiency of location and family policies on long-term crime rates.
    Keywords: crime; neighborhood segregation; Social interactions
    JEL: J15 K42 Z13
    Date: 2018–06
  18. By: Antonello d’Alessandro (Bank of Italy); Giulio Fella (Queen Mary University of London; Centre for Macroeconomics (CFM); Institute for Fiscal Studies); Leonardo Melosi (Federal Reserve Bank of Chicago)
    Abstract: Using a Bayesian SVAR analysis, we document that an increase in government purchases raises private consumption, the real wage and total factor productivity (TFP) while reducing inflation. Each of these facts is hard to reconcile with both neoclassical and New-Keynesian models. We extend a standard New-Keynesian model to allow for skill accumulation through past work experience, following Chang, Gomes and Schorfheide (2002). An increase in government spending increases hours and induces skill accumulation and higher measured TFP and real wages in subsequent periods. Future marginal costs fall lowering future expected inflation and, through the monetary policy rule, the real interest rate. Consumption increases as a result.
    Keywords: Fiscal policy transmission, Consumption, Real wage
    JEL: E62 E63
    Date: 2018–05
  19. By: Weiping Wu; Jianjun Gao; Junguo Lu; Xun Li
    Abstract: This paper studies a class of continuous-time scalar-state stochastic Linear-Quadratic (LQ) optimal control problem with the linear control constraints. Applying the state separation theorem induced from its special structure, we develop the explicit solution for this class of problem. The revealed optimal control policy is a piece-wise affine function of system state. This control policy can be computed efficiently by solving two Riccati equations off-line. Under some mild conditions, the stationary optimal control policy can be also derived for this class of problem with infinite horizon. This result can be used to solve the constrained dynamic mean-variance portfolio selection problem. Examples shed light on the solution procedure of implementing our method.
    Date: 2018–06

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