nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2020‒04‒06
nineteen papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Understanding Cross-country Differences in Health Status and Expenditures By Raquel Fonseca; François Langot; Pierre-Carl Michaud; Thepthida Sopraseuth
  2. Macroeconomic management on becoming an African oil exporter By Oliver Morrissey; Lars Spreng
  3. Optimal Monetary Policy in the Presence of Food Price Subsidies By William Ginn; Marc Pourroy
  4. Hopf Bifurcation from new-Keynesian Taylor rule to Ramsey Optimal Policy By Jean-Bernard Chatelain; Kirsten Ralf
  5. Higher-Order Income Risk over the Business Cycle By Christopher Busch; Alexander Ludwig
  6. Misallocation Effects of Labor Market Frictions By Stanislav Rabinovich; Ronald Wolthoff
  7. Population Ageing and the Macroeconomy By Noëmie Lisack; Rana Sajedi; Gregory Thwaites
  8. Demographics and the decline in firm entry: Lessons from a life-cycle model By Röhe, Oke; Stähler, Nikolai
  9. Weather Shocks By Ewen Gallic; Gauthier Vermandel
  10. International credit markets and global business cycles By Patrick Pintus; Yi Wen; Xiaochuan Xing
  11. Cross-dynastic Intergenerational Altruism By Nesje, Frikk
  12. Does the Selfish Life-Cycle Model Apply in the Case of Japan? By Horioka, Charles Yuji
  13. The Macroeconomic Impact of the 1918–19 Influenza Pandemic in Sweden By Obrizan, Maksym; Karlsson, Martin; Matvieiev, Mykhailo
  14. Progressive Taxation as an Automatic Stabilizer under Nominal Wage Rigidity and Preference Shocks By Miroslav Gabrovski; Jang-Ting Guo
  15. Herding Cycles By Edouard Schaal; Mathieu Taschereau-Dumouchel
  16. Automation, stagnation, and the implications of a robot tax By Gasteiger, Emanuel; Prettner, Klaus
  17. International information flows, sentiments and cross-country business cycle fluctuations By Michał Brzoza-Brzezina; Jacek Kotłowski; Grzegorz Wesołowski
  18. Public debt expansions and the dynamics of the household borrowing constraint By António Antunes; Valerio Ercolani
  19. Not All Profit Shifting Is Created Equal? An Analysis of Internal Debt By Zarko Kalamov

  1. By: Raquel Fonseca; François Langot; Pierre-Carl Michaud; Thepthida Sopraseuth
    Abstract: Using a general equilibrium heterogeneous agent model featuring health production, we quantify the relative contribution of price distortions in the health market, TFP and other health risks in explaining cross-country differences in health expenditure (as a share of GDP) and health status. Estimated parameters reveal a substantial price wedge that explains at most 20% of the difference in health spending (as a share of GDP) and 30% of the difference in health status between Europe and the U.S. We estimate a one percentage point negative impact on the life-time cost-of-living of Americans from higher prices due to inefficiencies.
    Keywords: Health production, health status, heterogeneous agent model, price indices.
    JEL: C51 D61 E21 I10 I32
    Date: 2020
  2. By: Oliver Morrissey; Lars Spreng
    Abstract: This paper provides analysis of the macroeconomic management implications of becoming an exporter of oil, taking the case of Ghana and applying to Uganda as a prospective exporter. The paper proceeds in two steps. First, we construct a Dynamic Stochastic General Equilibrium (DSGE) model of a primary commodity exporting developing country calibrated to Ghana and Uganda and simulate the impulse response to shocks to the oil price and oil production. Second, using parameters from the DSGE model to obtain priors for parameter values, we use a Structural Vector Autoregressive (SVAR) with monthly data over 2001 to 2019 to estimate the response to oil shocks as an importer for both countries and as an exporter for Ghana after 2010. The DSGE results suggest that although an oil price shock generates appreciation and initially output falls, there are reductions in interest rates and inflation and ultimately output increases. The larger the oil sector the greater the appreciation and inflationary effects, but output rises more quickly and there are larger increases in wages and taxes. The SVAR results for Ghana when exporting suggest an initial depreciation in response to an oil price shock, with a reduction in inflation, but the immediate negative output response slowly turns positive (and becomes consistent with the DSGE). When Ghana and Uganda are importers, oil price shocks generate appreciation, mild inflation and interest rate reductions, so although output declines initially it rises after a year and this persists. The analysis suggests that the adoption of inflation targeting, in conjunction with an improved monitoring of macroeconomic developments, has mitigated the effects of oil price shocks on domestic variables in Ghana and Uganda.
    Keywords: Oil, Exchange Rates, DSGE, SVAR, sub-Saharan Africa (Ghana, Uganda)
    Date: 2020
  3. By: William Ginn (FAU - Friedrich-Alexander Universität Erlangen-Nürnberg); Marc Pourroy (CRIEF - Centre de Recherche sur l'Intégration Economique et Financière - Université de Poitiers)
    Abstract: Food price subsidies are a prevalent means by which fiscal authorities may counteract food price volatility in middle-income countries (MIC). We develop a DSGE model for a MIC that captures this key channel of a policy induced price smoothing mechanism that is different to, yet in parallel with, the classic Calvo price stickiness approach, which can have consequential effects for monetary policy. We then use the model to address how the joint fiscal and monetary policy responds to an increase in inflation driven by a food price shock can affect welfare. We show that, in the presence of credit constrained households and households with a significant share of food expenditures , a coordinated reaction of fiscal and monetary policies via subsidized price targeting can improve aggregate welfare. Subsidies smooth prices and consumption, especially for credit constrained households, which can consequently result in an interest rate reaction less intensely with subsidized price targeting compared with headline price targeting.
    Keywords: DSGE Model,Food subsidies,Monetary Policy,Fiscal Policy,Subsidies,Commodities,Middle income countries
    Date: 2019–09
  4. By: Jean-Bernard Chatelain (PSE - Paris School of Economics); Kirsten Ralf (ESCE International Business School, INSEEC U. Research Center)
    Abstract: This paper compares different implementations of monetary policy in a new-Keynesian setting. We can show that a shift from Ramsey optimal policy under short-term commitment (based on a negative feedback mechanism) to a Taylor rule (based on a positive feedback mechanism) corresponds to a Hopf bifurcation with opposite policy advice and a change of the dynamic properties. This bifurcation occurs because of the ad hoc assumption that interest rate is a forward-looking variable when policy targets (inflation and output gap) are forward-looking variables in the new-Keynesian theory.
    Keywords: Bifurcations,Commitment,Taylor Rule,Taylor Principle,New-Keynesian Model,Ramsey Optimal Policy
    Date: 2020–01–17
  5. By: Christopher Busch; Alexander Ludwig
    Abstract: We extend the canonical income process with persistent and transitory risk to shock distributions with left-skewness and excess kurtosis, to which we refer as higher-order risk. We estimate our extended income process by GMM for household data from the United States. We find countercyclical variance and procyclical skewness of persistent shocks. All shock distributions are highly leptokurtic. The existing tax and transfer system reduces dispersion and left-skewness of shocks. We then show that in a standard incomplete-markets life-cycle model, first, higher-order risk has sizable welfare implications, which depend crucially on risk attitudes of households; second, higher-order risk matters quantitatively for the welfare costs of cyclical idiosyncratic risk; third, higher-order risk has non-trivial implications for the degree of self-insurance against both transitory and persistent shocks.
    Keywords: labor income risk, business cycle, GMM estimation, skewness, persistent and transitory income shocks, risk attitudes, life-cycle model
    JEL: D31 E24 E32 H31 J31
    Date: 2020–03
  6. By: Stanislav Rabinovich; Ronald Wolthoff
    Abstract: We theoretically study misallocation of labor in a heterogeneous-firm model with imperfectly directed search. Some workers can direct their search, while others are uninformed about the location of wage offers ex ante and are assigned to job openings randomly. The main result is that too many workers apply to high-productivity firms, relative to the social optimum. This occurs because too many firms take advantage of their market power, attracting only random searchers. Because it is the low-productivity firms that do so, this induces all the directed searchers to concentrate at the high-productivity firms, a ''flight-to-quality'' phenomenon. Improvements in information have ambiguous effects on worker allocation, wages, and worker utility. A minimum wage can increase employment and welfare by reallocating workers across firms. With an endogenous entry choice, policy design meets with a tradeoff in balancing the misallocation inefficiency and a standard entry externality.
    Keywords: Directed search; random search; labor markets; minimum wage; misallocation
    JEL: E24 D83 J64
    Date: 2020–03–23
  7. By: Noëmie Lisack; Rana Sajedi; Gregory Thwaites
    Abstract: We quantify the impact of demographic change on real interest rates, house prices and household debt in an overlapping-generations model. Falling birth and death rates across advanced economies can explain much of the observed fall in real interest rates and the rise in house prices and household debt. Since households maintain relatively high wealth levels throughout retirement, these trends will persist as population ageing continues. Countries ageing relatively slowly, like the US, will increasingly accumulate net foreign liabilities. The availability of housing as an alternative store of value attenuates these trends, while raising the retirement age has limited effects.
    Keywords: : Demographics, ageing, natural interest rates, macroeconomic trends.
    JEL: E21 E43 E13 J11
    Date: 2019
  8. By: Röhe, Oke; Stähler, Nikolai
    Abstract: Since the mid-1970s, firm entry rates in the United States have declined significantly. This also holds for other OECD countries over the past years. At the same time, these economies experienced a gradual process of population aging. Applying a tractable life-cycle model with endogenous firm dynamics, we show that falling US firm entry rates can be explained by demographic transition. Specifically, our model simulations suggest that aging can account for up to one third of the observed decrease in US firm entry rates. In addition to the negative effects of a slowdown in working-age population growth on firm entry, our analysis points out that an increase in longevity may also be an important factor contributing to the decline in business dynamism, weighing on both firm entry and exit rates.
    Keywords: Life-Cycle model,Population aging,Business dynamism,Firm entry
    JEL: H25 L52 E20 E62 L10 O30
    Date: 2020
  9. By: Ewen Gallic (AMSE - Aix-Marseille Sciences Economiques - EHESS - École des hautes études en sciences sociales - AMU - Aix Marseille Université - ECM - École Centrale de Marseille - CNRS - Centre National de la Recherche Scientifique); Gauthier Vermandel (Université Paris Dauphine-PSL, France Stratégie, Services du Premier Ministre)
    Abstract: How much do weather shocks matter? The literature addresses this question in two isolated ways: either by looking at long-term effects through the prism of calibrated theoretical models, or by focusing on both short and long terms through the lens of empirical models. We propose a framework that reconciles these two approaches by taking the theory to the data in two complementary ways. We first document the propagation mechanism of a weather shock using a Vector Auto-Regressive model on New Zealand Data. To explain the mechanism, we build and estimate a general equilibrium model with a weather-dependent agricultural sector to investigate the weather's business cycle implications. We find that weather shocks: (i) explain about 35% of GDP and agricultural output fluctuations in New Zealand; (ii) entail a welfare cost of 0.30% of permanent consumption; (iii) critically increases the macroeconomic volatility under climate change, resulting in a higher welfare cost peaking to 0.46% in the worst case scenario of climate change.
    Keywords: Agriculture,Business Cycles,Climate Change,Weather Shocks
    Date: 2020
  10. By: Patrick Pintus (AMSE - Aix-Marseille Sciences Economiques - EHESS - École des hautes études en sciences sociales - AMU - Aix Marseille Université - ECM - École Centrale de Marseille - CNRS - Centre National de la Recherche Scientifique); Yi Wen (AMSE - Aix-Marseille Sciences Economiques - EHESS - École des hautes études en sciences sociales - AMU - Aix Marseille Université - ECM - École Centrale de Marseille - CNRS - Centre National de la Recherche Scientifique); Xiaochuan Xing (Yale University [New Haven])
    Abstract: This paper stresses a new channel through which global financial linkages contribute to the co‐movement in economic activity across countries. We show in a two‐country setting with borrowing constraints that international credit markets are subject to self‐fulfilling variations in the world real interest rate. Those expectation‐driven changes in the borrowing cost in turn act as global shocks that induce strong cross‐country co‐movements in both financial and real variables (such as asset prices, gross domestic product, consumption, investment, and employment). When firms around the world benefit from unexpectedly low debt repayments, they borrow and invest more, which leads to excessive supply of collateral and of loanable funds at a low interest rate, thus fueling a boom both at home and abroad. As a consequence, business cycles are synchronized internationally. Such a stylized model thus offers one way to rationalize both the existence of a world business‐cycle component, documented by recent empirical studies through dynamic factor analysis, and the factor's intimate link to global financial markets.
    Keywords: world interest rate,international co-movement,self-fulfilling equilibria
    Date: 2019–03
  11. By: Nesje, Frikk
    Abstract: Decisions with long-term consequences require comparing utility derived from present consumption to future welfare. But can we infer socially relevant intertemporal preferences from saving behavior? I allow for a decomposition of the present generation’s preference for the next generation into its dynastic and crossdynastic counterparts, in the form of welfare weights on the next generation in the own dynasty and other dynasties. Welfare weights on other dynasties can be motivated by a concern for sustainability, or if descendants may move or marry outside the dynasty. With such cross-dynastic intergenerational altruism, savings for one’s own descendants benefit present members of other dynasties, giving rise to preference externalities. I find that socially relevant intertemporal preferences may not be inferred from saving behavior if there is cross-dynastic intergenerational altruism. I also show that the external effect of present saving decreases over time. This means that intertemporal preferences inferred from saving behavior are time-inconsistent, unless cross-dynastic intergenerational altruism is accounted for.
    Keywords: intergenerational altruism; social discounting; time-inconsistency; declining discount rates; generalized consumption Euler equations; interdependent utility; isolation paradox
    Date: 2020–03–03
  12. By: Horioka, Charles Yuji
    Abstract: In this paper, we first provide a brief exposition of the simplest version of the selfish life cycle model or hypothesis, which is undoubtedly the most widely used theoretical model of household behavior in economics, and then survey the literature on household saving behavior in Japan (with emphasis on the author’s own past research) to shed light on whether or not the selfish life-cycle model applies in the case of Japan. In particular, we survey the literature on the impact of the age structure of the population on the saving rate, the saving behavior of retired households, saving motives, the prevalence of bequests, bequest motives, tests of altruism, and the importance of borrowing (liquidity) constraints and show that almost all of the available evidence suggests that the selfish life-cycle model applies to a greater extent in Japan than it does in other countries.Finally, we discuss the policy implications of our findings.
    Keywords: Age structure of the population, aged, altruism, bequests, bequest motives, borrowing constraints, consumption, dissaving, elderly, estates, household behavior, household saving, households, inheritances, intergenerational transfers, Japan, lifecycle hypothesis, life-cycle model, life-cycle theory, liquidity constraints, old age, retirees, saving, saving motives, selfishness, D11, D12, D14, D15, D64, E21, J14
    Date: 2020–03
  13. By: Obrizan, Maksym; Karlsson, Martin; Matvieiev, Mykhailo
    Abstract: What is the economic cost in the medium to long run of an epidemic that kills a large part of the labor force? To answer this question we build an overlapping generations model and calibrate it to the Swedish economy before the 1918–19 influenza pandemic. In the medium run the epidemic, which reduced the population by 0.66%, produces a modest increase in per capita consumption of survivors by 0.45%; however, the benefits are unevenly spread across cohorts. We also find that aggregate labor supply responds elastically while aggregate consumption and investment respond inelastically to the population decline. The aggregate consumption, for example, reduces by 0.27% only for each percentage point decrease in population over the following 10 years. Finally, we document that in the long run, the epidemic has a large cumulative effect over the following century.
    Keywords: Epidemics, Overlapping Generations Models
    JEL: E21 I15
    Date: 2020–03–03
  14. By: Miroslav Gabrovski (University of Hawaii at Manoa); Jang-Ting Guo (Department of Economics, University of California Riverside)
    Abstract: Previous research has shown that in the context of a prototypical New Keynesian model, more progressive income taxation may lead to higher volatilities of hours worked and total output in response to a monetary disturbance. We analytically show that this business-cycle destabilization result is overturned within an otherwise identical macroeconomy subject to impulses to the household's utility formulation. Under a continuously or linearly progressive fiscal policy rule, an increase in the tax progressivity will always raise the degree of equilibrium nominal-wage rigidity, and thus serve as an automatic stabilizer that mitigates cyclical fluctuations driven by preference shocks. Our analysis illustrates that whether a more progressive tax schedule (de)stabilizes the business cycle depends crucially on the underlying driving source.
    Keywords: Progressive Income Taxation, Automatic Stabilizer, Nominal Wage Rigidity, Preference Shocks.
    JEL: E12 E32 E62
    Date: 2020–03
  15. By: Edouard Schaal; Mathieu Taschereau-Dumouchel
    Abstract: This paper explores whether rational herding can generate endogenous business cycle fluctuations. We embed a tractable model of rational herding into a business-cycle framework. In the model, technological innovations arrive with unknown quality. New innovations are not immediately productive and agents have dispersed information about how productive the technology will be. Investors decide whether to invest in the technology or not based on their private information and the investment behavior of others. Herd-driven boom-bust cycles may arise endogenously in this environment out of a single impulse shock when the technology is unproductive but investors’ initial information is optimistic and highly correlated. When the technology appears, investors mistakenly attribute the high observed investment rates to high fundamentals, leading to a pattern of increasing optimism and investment until the economy reaches a peak, followed by a crash as agents ultimately realize their mistake. As such, the theory can shed light on bubble-like episodes in which excessive optimism about uncertain technology fueled general macroeconomic expansions that were followed by sudden recessions. We calibrate the model to the U.S. economy and show that the theory can explain boom-and-bust cycles in line with historical episodes like the Dot-Com Bubble of the late 1990s. Leaning-against-thewind policies can be beneficial in this environment as they improve the diffusion of information over the cycle.
    JEL: E32 D80
    Date: 2020–01
  16. By: Gasteiger, Emanuel; Prettner, Klaus
    Abstract: We assess the long-run growth effects of automation in the overlapping generations framework. Although automation implies constant returns to capital and, thus, an AK production side of the economy, positive long-run growth does not emerge. The reason is that automation suppresses wage income, which is the only source of investment in the overlapping generations model. Our result stands in sharp contrast to the representative agent setting with automation, where sustained long-run growth is possible even without technological progress. Our analysis therefore provides a cautionary tale that the underlying modeling structure of saving/investment decisions matters for the derived economic impact of automation. In addition, we show that a robot tax has the potential to raise per capita output and welfare at the steady state. However, it cannot induce a takeoff toward positive long-run growth.
    Keywords: Automation,robot taxes,stagnation,economic growth,fiscal policy
    JEL: O33 O41 E60
    Date: 2020
  17. By: Michał Brzoza-Brzezina; Jacek Kotłowski; Grzegorz Wesołowski
    Abstract: Business cycles are strongly correlated between countries. One possible explanation (beyond traditional economic linkages like trade or finance) is that consumer or business sentiments spread over boarders and a ect cyclical uctuations in various countries. We first lend empirical support to this concept by showing that sentiments travel between countries at a speed much higher than can be explained by traditional linkages. Then we construct a two-economy new Keynesian model where noisy international information can generate cyclical fluctuations (comovement of GDP, consumption, investment and in ation) in both countries. Estimation with US and Canadian data reveals a significant role of international noise shocks in generating common fluctuations - they explain between 15-30% of consumption variance in the US and Canada and raise the correlation between these variables by up to unity in periods of sentiment breakdowns. We also show that our estimated noise shock has a clear interpretation as a sentiment shock.
    Keywords: International spillovers, animal spirits, sentiments, business cycle
    JEL: C32 E32 F44
    Date: 2020–03
  18. By: António Antunes (Bank of Portugal); Valerio Ercolani (Bank of Italy)
    Abstract: Contrary to a well-established view, public debt expansions may tighten the household borrowing constraint over time. Within an incomplete-markets model featuring an endogenous borrowing limit, we show that plausible debt-financed fiscal policies generate such tightening through an increase in the interest rate. The tightening makes constrained agents deleverage and reinforces the precautionary saving motive of the unconstrained. This appetite for assets affects factor prices and this, in some cases, amplifies the households' reactions to the policies. For example, the tightening can substantially magnify the government spending multiplier by strengthening the typical negative wealth effect on labor supply induced by the fiscal stimulus. Moreover, the tightening affects political support for the policies mainly through price effects.
    Keywords: endogenous borrowing constraint, government debt, fiscal policies and multipliers, heterogeneous households, incomplete markets
    JEL: E21 E44 E62 H60
    Date: 2020–03
  19. By: Zarko Kalamov
    Abstract: This paper analyzes how internal debt financing of multinational firms affects high-tax countries. It uses a dynamic small open economy model and takes into account that internal debt impacts both the multinational firms’ investment decisions and the government's tax policy. The government has incentives to redistribute income from firm owners to workers. If the government’s redistributive motive is not too strong, internal debt reduces welfare in the short term by decreasing tax revenues. However, debt financing stimulates capital accumulation and exerts a positive long term welfare impact. If the multinational firm additionally manipulates transfer prices, the adverse short term welfare effects may extend to the long term.
    Keywords: internal debt, profit shifting, tax havens
    JEL: F23 H25 H70
    Date: 2020

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