nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2020‒06‒15
28 papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Fluctuations in a Dual Labor Market By Normann Rion
  2. Switching Volatility in a Nonlinear Open Economy By Jonathan Benchimol; Sergey Ivashchenko
  3. Monetary Policy Uncertainty and Firm Dynamics By Stefano Fasani; Haroon Mumtaz; Lorenza Rossi
  4. Discount Shock, Price-Rent Dynamics, and the Business Cycle By Jianjun Miao; Pengfei Wang; Tao Zha
  5. EDGE-M3: A Dynamic General Equilibrium Micro-Macro Model for the EU Member States By Diego d’Andria; Jason DeBacker; Richard W. Evans; Jonathan Pycroft; Wouter van der Wielen; Magdalena Zachlod-Jelec
  6. The Macroeconomic Effects of a European Deposit (Re-) Insurance Scheme By Marius Clemens; Stefan Gebauer; Tobias König
  7. A Promised Value Approach to Optimal Monetary Policy By Timothy Hills; Taisuke Nakata; Takeki Sunakawa
  8. Confidence Collapse in a Multi-Household, Self-Reflexive DSGE Model By Federico Morelli; Michael Benzaquen; Marco Tarzia; Jean-Philippe Bouchaud
  9. Changes in the Inflation Target and the Comovement between Inflation and the Nominal Interest Rate By Yunjong Eo; Denny Lie
  10. Optimal Inflation Target with Expectations-Driven Liquidity Traps By Philip Coyle; Taisuke Nakata
  11. Equilibrium Yield Curves and the Interest Rate Lower Bound By Taisuke Nakata; Takeki Sunakawa
  12. A dynamic analysis of nash equilibria in search models with fiat money By Federico Bonetto; Maurizio Iacopetta
  13. Asset pricing with endogenous state-dependent risk aversion By Rachida Ouysse
  14. Financial Frictions, Borrowing Costs, and Firm Size Across Sectors By Bento, Pedro; Ranasinghe, Ashantha
  15. A shadow rate without a lower bound constraint By B De Rezende, Rafael; Ristiniemi, Annukka
  16. Ambiguous Business Cycles: A Quantitative Assessment By Altug, Sumru; Collard, Fabrice; Cakmakli, Cem; Mukerji, Sujoy; Ozsöylev, Han
  17. Active, or Passive? Revisiting the Role of Fiscal Policy in the Great Inflation By Stephanie Ettmeier; Alexander Kriwoluzky
  18. Monetary and Fiscal Policies in Times of Large Debt: Unity is Strength (REVISED May 2020) By Francesco Bianchi; Renato Faccini; Leonardo Melosi
  19. Monetary Policy with Judgment By Paolo Gelain; Simone Manganelli
  20. Macroprudential regulation and leakage to the shadow banking sector By Gebauer, Stefan; Mazelis, Falk
  21. The Vanishing Procyclicality of Labour Productivity By GalÌ, Jordi; van Rens, Thijs
  22. The spirit of capitalism and optimal capital taxation By Li, Fanghui; Wang, Gaowang; Zou, Heng-fu
  23. Stay At Home! Macroeconomic Effects of Pandemic-Induced Job Separation Shocks By Marcelo Arbex; Michael Batu; Sidney Caetano
  24. Savings externalities and wealth inequality By Konstantinos Angelopoulos; Spyridon Lazarakis; James Malley
  25. The distributional effects of peer and aspirational pressure By Konstantinos Angelopoulos; Spyridon Lazarakis; James Malley
  26. A Matter of Perspective: Mapping Linear Rational Expectations Models into Finite-Order VAR Form By Enrique Martínez-García
  27. Reglas de política monetaria para una economía abierta con fricciones financieras By Aliaga Miranda, Augusto
  28. Optimal Monetary Policy and Uncertainty Shocks By Cho, Deaha; Han, Yoonshin; Oh, Joonseok; Rogantini Picco, Anna

  1. By: Normann Rion (PSE - Paris School of Economics, PJSE - Paris Jourdan Sciences Economiques - UP1 - Université Panthéon-Sorbonne - ENS Paris - École normale supérieure - Paris - EHESS - École des hautes études en sciences sociales - ENPC - École des Ponts ParisTech - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement)
    Abstract: I build a New-Keynesian dynamic stochastic general-equilibrium model with a dual labor market. Firms and workers meet through a matching technology à-la Diamond-Mortensen-Pissarides and face a trade-off between productivity and flexibility at the hiring stage. All else equal, open-ended contracts are more productive than fixed-term contracts, but they embed a firing cost. The share of fixed-term contracts in job creation fluctuates endogenously, which enables to assess the resort to temporary contracts along the cycle and its response to different shocks. I estimate the model using a first-order perturbation method and classic Bayesian procedures with macroeconomic data from the Euro area. I find that the share of fixed-term contracts in job creation is counter-cyclical. The agents react to shocks essentially through the job creation margin and the contractual composition of the hires. Moreover, a general-equilibrium effect arises ; the substitution between fixed-term and open-ended contracts at the hiring stage influences the job seekers' stock, which in turn impacts job creation. Using my previous estimates and solving the model with a third-order perturbation method, I find that fixed-term employment reacts to negative aggregate demand shocks and uncertainty shocks oppositely. This result suggests that fixed-term employment could be used to identify uncertainty shocks in future research. As for inflation, changes in firing costs do not alter its dynamics as long as open-ended and fixed-term matches do not differ much in productivity all else equal.
    Keywords: Fixed-term contracts,Employment protection,New Keynesian model,Inflation dynamics,Uncertainty
    Date: 2020–05
  2. By: Jonathan Benchimol; Sergey Ivashchenko
    Abstract: Uncertainty about an economy’s regime can change drastically around a crisis. An imported crisis such as the global financial crisis in the euro area highlights the effect of foreign shocks. Estimating an open-economy nonlinear dynamic stochastic general equilibrium model for the euro area and the United States including Markov-switching volatility shocks, we show that these shocks were significant during the global financial crisis compared with periods of calm. We describe how U.S. shocks from both the real economy and financial markets affected the euro area economy and how bond reallocation occurred between short- and long-term maturities during the global financial crisis. Importantly, the estimated nonlinearities when domestic and foreign financial markets influence the economy should not be neglected. The nonlinear behavior of market-related variables highlights the importance of higher-order estimation for providing additional interpretations to policymakers.
    Keywords: DSGE; Volatility Shocks; Markov Switching; Open Economy; Financial Crisis; Nonlinearities
    JEL: C61 E32 F21 F41
    Date: 2020–05–28
  3. By: Stefano Fasani (Queen Mary University London); Haroon Mumtaz (Queen Mary University London); Lorenza Rossi (University of Pavia)
    Abstract: This paper uses a FAVAR model with external instruments to show that the policy uncertainty shocks are recessionary and are associated with an increase in the exit of firms and a decrease in entry and in the stock price with total factor productivity rising in the medium run. To explain this result, we build scale DSGE module featuring firm heterogeneity and endogenous firm entry and exit. These features are crucial in matching the empirical responses. Versions of the model with constant firms or constant firms' exit are unable to re-produce the FAVAR response of firm' entry and exit and suggest a much smaller effect of this shock on real activity.
    Keywords: Monetary policy uncertainty shocks, FAVAR, DSGE
    JEL: C5 E1 E5 E6
    Date: 2020–05–15
  4. By: Jianjun Miao; Pengfei Wang; Tao Zha
    Abstract: The price-rent ratio in commercial real estate is highly volatile, and its variation comoves with the business cycle. To account for these two facts, we develop a dynamic general equilibrium model that explicitly introduces a rental market and incorporates the liquidity constraint on an individual firm's production as a key ingredient. Our estimation identifies the discount shock as the most important factor in driving price-rent dynamics and linking the dynamics in the real estate market to those in the real economy. We illustrate the importance of the liquidity premium and endogenous total factor productivity (TFP) in the nexus of the financial and real sectors.
    Keywords: comovements; liquidity premium; stochastic discount factor; asset pricing; production economy; heterogenous firms; endogenous TFP; general equilibrium
    JEL: E22 E32 E44
    Date: 2020–05–21
  5. By: Diego d’Andria (European Commission - JRC); Jason DeBacker; Richard W. Evans; Jonathan Pycroft; Wouter van der Wielen (European Commission - JRC); Magdalena Zachlod-Jelec (European Commission - JRC)
    Abstract: This paper provides a technical description of the overlapping generations model used by the Joint Research Centre to analyse tax policy reforms, including in particular pension and demographic issues. The main feature of the EDGE-M3 model lies in its high level of disaggregation and the close connection between microeconomic and macroeconomic mechanisms which makes it a very suitable model to analyse the redistributive impact of policies. EDGE-M3 features eighty generations and seven earnings-ability types of individuals. To facilitate a realistic dynamic population structure EDGE-M3 includes Eurostat’s demographic projections. In terms of calibration, the EDGE-M3 family of overlapping generations models is heavily calibrated on microeconomic data. This al-lows the introduction of the underlying individuals’ characteristics in a macro model to the greatest extent possible. In particular, it includes the richness of the tax code by means of income tax and social insurance contribution rate functions estimated using data from the EUROMOD microsimulation model. This feature allows in particular a close connection between the macro and the micro model. In addition, the earnings profiles of the seven heterogeneous agent types are estimated using survey data. Finally, the labour supply, bequests and consumption tax calibration are all done using detailed microeconomic data, making the model highly suitable for the analysis of intra- and intergenerational analysis of tax policy.
    Keywords: computable general equilibrium, overlapping generations, heterogeneous ability, fiscal policy, microsimulation
    Date: 2020–05
  6. By: Marius Clemens; Stefan Gebauer; Tobias König
    Abstract: While the first two pillars of the European Banking Union have been implemented, a European deposit insurance scheme (EDIS) is still not in place. To facilitate its introduction, recent proposals argue in favor of a reinsurance scheme. In this paper, we use a regime-switching open-economy DSGE model with bank default and bank-government linkages to assess the relative efficiency of such a scheme. We find that reinsurance by both a national fiscal backstop and EDIS is efficient in stabilizing the macro economy, even though welfare gains are slightly larger with EDIS and debt-to-GDP ratios rise under the fiscal reinsurance. We demonstrate that risk-weighted contributions to EDIS are welfare-beneficial for depositors and discuss trade-offs policy makers face during the implementation of EDIS. In a counterfactual exercise, we find that EDIS would have stabilized economic activity in Germany and the rest of the euro area just as well as a fiscal backing of insured deposits during the financial crisis. However, the debt-to-GDP ratio would have been lower with EDIS.
    Keywords: Banking Union, Deposit Insurance, Risk-Sharing
    JEL: E61 F42 F45 G22 G28
    Date: 2020
  7. By: Timothy Hills (New York University); Taisuke Nakata (University of Tokyo); Takeki Sunakawa (Hitotsubashi University)
    Abstract: This paper characterizes optimal commitment policy in the New Keynesian model using a recursive formulation of the central bank's in finite horizon optimization problem in which promised inflation and output gap - as opposed to lagged Lagrange multipliers - act as pseudo-state variables. Our recursive formulation is motivated by Kydland and Prescott (1980). Using three well known variants of the model - one featuring inflation bias, one featuring stabilization bias, and one featuring a lower bound constraint on nominal interest rates - we show that the proposed formulation sheds new light on the nature of the intertemporal trade-off facing the central bank.
    Date: 2020–05
  8. By: Federico Morelli (LPTMC - Laboratoire de Physique Théorique de la Matière Condensée - SU - Sorbonne Université - CNRS - Centre National de la Recherche Scientifique); Michael Benzaquen (LadHyX - Laboratoire d'hydrodynamique - X - École polytechnique - CNRS - Centre National de la Recherche Scientifique); Marco Tarzia (LPTMC - Laboratoire de Physique Théorique de la Matière Condensée - UPMC - Université Pierre et Marie Curie - Paris 6 - CNRS - Centre National de la Recherche Scientifique); Jean-Philippe Bouchaud (SPEC - UMR3680 - Service de physique de l'état condensé - CEA - Commissariat à l'énergie atomique et aux énergies alternatives - Université Paris-Saclay - CNRS - Centre National de la Recherche Scientifique)
    Abstract: We investigate a multi-household DSGE model in which past aggregate consumption impacts the confidence, and therefore consumption propensity, of individual households. We find that such a minimal setup is extremely rich, and leads to a variety of realistic output dynamics: high output with no crises; high output with increased volatility and deep, short lived recessions; alternation of high and low output states where relatively mild drop in economic conditions can lead to a temporary confidence collapse and steep decline in economic activity. The crisis probability depends exponentially on the parameters of the model, which means that markets cannot efficiently price the associated risk premium. We conclude by stressing that within our framework, narratives become an important monetary policy tool, that can help steering the economy back on track.
    Date: 2020
  9. By: Yunjong Eo (Department of Economics, Korea University, Seoul 02841, South Korea); Denny Lie (School of Economics, The University of Sydney, NSW 2006, Australia)
    Abstract: Would raising the inflation target require an increase in the nominal interest rate in the short run? We answer this policy question, first analytically in a small-scale New Keynesian model with backward-looking components where a closed-form solution exists, and then in a medium-scale model of Smets and Wouters (2007) calibrated to the U.S. economy. Our analysis shows that the short-run comovement between inflation and the nominal interest rate conditional on changes in the inflation target is more likely to be positive, all else equal, as the monetary authority reacts less aggressively to the deviation of inflation from its target. Meanwhile, features of the model that enhance backward-looking behavior, such as backward price indexation and habit formation in consumption, are shown to reduce the likelihood of the positive comovement. However, our investigations reveal that in both models, this positive comovement or so-called Neo-Fisherism is prevalent across a wide-range of empirically-plausible parameter values. Using the Smets and Wouters model with a zero lower bound constraint (ZLB) on the nominal interest rate, we show that raising the inflation target could be an effective alternative policy framework to reduce the possibility of a binding ZLB constraint and to mitigate the potentially large output loss.
    Keywords: Neo-Fisherism; zero lower bound; inflation expectations; Taylortype rule; hybrid NKPC; hybrid IS curve;
    JEL: E12 E32 E58 E61
    Date: 2020
  10. By: Philip Coyle (University of Wisconsin – Madison); Taisuke Nakata (University of Tokyo)
    Abstract: In expectations-driven liquidity traps, a higher inflation target is associated with lower inflation and consumption. As a result, introducing the possibility of expectations-driven liquidity traps to an otherwise standard model lowers the optimal inflation target. Using a calibrated New Keynesian model with an effective lower bound (ELB) constraint on nominal interest rates, we find that even a very small probability of falling into an expectations-driven liquidity trap lowers the optimal inflation target nontrivially. Our analysis provides a reason to be cautious about the argument that central banks should raise their inflation targets in light of a higher likelihood of hitting the ELB.
    Date: 2020–04
  11. By: Taisuke Nakata (University of Tokyo); Takeki Sunakawa (Hitotsubashi University)
    Abstract: We present a calibrated DSGE model with an occasionally binding effective lower bound (ELB) constraint on yields that matches key features of the aggregate economy and the term structure of interest rates in the United States. The ELB constraint induces state dependency in term premiums by affecting macroeconomic uncertainty and interest rate sensitivity to economic activities, typically lowering the absolute size of term premiums and increasing their volatility around liftoff. The central bank's forward guidance at the ELB lowers the expected short-rate path, but its effect on term premiums depends on the risk exposure of bonds to the macroeconomy.
    Date: 2020–05
  12. By: Federico Bonetto; Maurizio Iacopetta (Observatoire français des conjonctures économiques)
    Abstract: We analyze the rise in the acceptability fiat money in a Kiyotaki–Wright economy by developing a method that can determine dynamic Nash equilibria for a class of search models with genuine heterogeneous agents. We also address open issues regarding the stability properties of pure strategy equilibria and the presence of multiple equilibria, numerical experiments illustrate the liquidity conditions that favor the transition from partial to full acceptance of fiat money, and the effects of inflationary shocks on production, liquidity, and trade.
    Keywords: Acceptability of money; Perron; Search
    Date: 2019–10
  13. By: Rachida Ouysse (School of Economics, UNSW Business School, UNSW)
    Abstract: We present an economy where aggregate risk aversion is stochastic and state-dependent in response to information about the wider economy. A factor model is used to link aggregate risk aversion to the business cycle and to handle high-dimensionality of the information about the economy. Our estimated aggregate risk aversion is counter-cyclical and varies with news about economic booms and busts. We find new evidence of volatility clustering of risk aversion around recessions. In addition to the price of consumption risk associated with consumption risk, time variation in risk aversion introduces risk preferences as a new component of the risk premium.
    Keywords: Consumption-based capital asset pricing model; time-varying risk aversion; GMM estimation; Euler equations; mispricing; Counter-cyclicality.
    Date: 2020–01
  14. By: Bento, Pedro (Texas A&M University); Ranasinghe, Ashantha (University of Alberta, Department of Economics)
    Abstract: We document new evidence that financial under-development is associated with higher borrowing rates, lower investment in productivity, a smaller share of large firms, and smaller average firm size, both in manufacturing and services. To account for these patterns, we develop a two-sector economy with heterogeneous entrepreneurs that face financial frictions in the form of borrowing rates that rise with the cost of monitoring risky investments. The model is tractable and can be solved analytically, making clear predictions for the impact of high borrowing costs on investment, the share of large firms, and average firm size across sectors, consistent with the evidence we document. Varying monitoring costs to generate observed cross-country differences in borrowing rates, the model can account for one-third of the log-variance of observed average firm size across sectors, over 20 percent of the variation in investment, and a 30 percent drop in aggregate productivity, all substantial relative to the literature.
    Keywords: financial development; borrowing; firm size; investment; aggregate productivity
    JEL: O10 O14 O41 O43
    Date: 2020–05–28
  15. By: B De Rezende, Rafael (Bank of England); Ristiniemi, Annukka (Sveriges Riksbank and European Central Bank)
    Abstract: We propose a shadow rate that measures the overall stance of monetary policy when the lower bound is not necessarily binding. Using daily yield curve data we estimate shadow rates for the US, Sweden, the euro area and the UK, and document that they fall (rise) as monetary policy becomes more expansionary (contractionary). This ability of the shadow rate to track the stance of monetary policy is identified on announcements of policy rate cuts (hikes), balance sheet expansions (contractions) and forward guidance, with shadow rates responding in a timely fashion, and in line with government bond yields. We show two applications for our shadow rate. First, we decompose shadow rate responses to monetary policy announcements into conventional and unconventional monetary policy surprises, and assess the pass-through of each type of policy to exchange rates. We find that exchange rates respond more to conventional than to unconventional monetary policy. Lastly, a counterfactual experiment in a DSGE model suggests that inflation in Sweden would have been around half a percentage point lower had unconventional monetary policy not been used since February 2015.
    Keywords: Monetary policy stance; unconventional monetary policy; term structure of interest rates; short-rate expectations; term premium; exchange rates
    JEL: E43 E44 E52 E58
    Date: 2020–05–22
  16. By: Altug, Sumru; Collard, Fabrice; Cakmakli, Cem; Mukerji, Sujoy; Ozsöylev, Han
    Abstract: In this paper, we examine the cyclical dynamics of a Real Business Cycle model with ambiguity averse consumers and investment irreversibility using the smooth ambiguity model of Klibanoff et al. (2005, 2009). Ambiguity of belief about the productivity process arises as agents do not know the process driving variation in aggregate TFP, and they must make inferences regarding the true process at the same time as they infer the behavior of the unobserved temporary component using a Kalman filtering algorithm. Our findings may be summarized as follows. First, the standard business cycle facts hold in our framework, which are not altered significantly by changes in the degree of ambiguity aversion. Second, we demonstrate a role for information and learning effects, and show that lower initial ambiguity or greater confidence coupled with learning dynamics lowers the volatility and increases the persistence in all of the key macroeconomic variables. Third, comparing the performance of our model to the New Keynesian business cycle model of Ilut and Schneider (2014) with maxmin expected utility, we find that the version of their model without nominal and real frictions turns out to have limited success at matching the moments for the quantity variables. In the maxmin expected utility framework, the worst case scenario instills too much caution on the part of agents who, in the absence of a key set of nominal and real frictions, end up excessively reducing their responses to TFP shocks.
    JEL: C6 D8 E2
    Date: 2020–05
  17. By: Stephanie Ettmeier; Alexander Kriwoluzky
    Abstract: We reexamine whether pre-Volcker U.S. fiscal policy was active or passive. To do so, we estimate a DSGE model with monetary and fiscal policy interactions employing a sequential Monte Carlo algorithm (SMC) for posterior evaluation. Unlike existing studies, we do not have to treat each policy regime as distinct, separately estimated, models. Rather, SMC enables us to estimate the DSGE model over its entire parameter space. A differentiated perspective results: pre-Volcker macroeconomic dynamics were similarly driven by a passive monetary/passive fiscal policy regime and fiscal dominance. Fiscal policy actions, especially government spending, were critical in the pre-Volcker inflation build-up.
    Keywords: Bayesian Analysis, DSGE Models, Monetary-Fiscal Policy Interactions, Monte Carlo Methods
    JEL: C11 C15 E63 E65
    Date: 2020
  18. By: Francesco Bianchi; Renato Faccini; Leonardo Melosi
    Abstract: The Covid-19 pandemic found policymakers facing constraints on their ability to react to an exceptionally large negative shock. The current low interest rate environment limits the tools the central bank can use to stabilize the economy, while the large public debt curtails the efficacy of fiscal interventions by inducing expectations of costly fiscal adjustments. Against this background, we study the implications of a coordinated fiscal and monetary strategy aimed at creating a controlled rise of inflation to wear away a targeted fraction of debt. Under this coordinated strategy, the fiscal authority introduces an emergency budget with no provisions on how it will be balanced, while the monetary authority tolerates a temporary increase in inflation to accommodate the emergency budget. In our model, the coordinated strategy enhances the efficacy of the fiscal stimulus planned in response to the Covid-19 pandemic and allows the Federal Reserve to correct a prolonged period of below-target inflation. The strategy results in only moderate levels of inflation by separating long-run fiscal sustainability from a short-run policy intervention.
    Keywords: Monetary policy; fiscal policy; emergency budget; shock specific rule; Covid-19
    JEL: E30 E50 E62
    Date: 2020–05–11
  19. By: Paolo Gelain; Simone Manganelli
    Abstract: We consider two approaches to incorporate judgment into DSGE models. First, Bayesian estimation indirectly imposes judgment via priors on model parameters, which are then mapped into a judgmental interest rate decision. Standard priors are shown to be associated with highly unrealistic judgmental decisions. Second, judgmental interest rate decisions are directly provided by the decision maker and incorporated into a formal statistical decision rule using frequentist procedures. When the observed interest rates are interpreted as judgmental decisions, they are found to be consistent with DSGE models for long stretches of time, but excessively tight in the 1980s and late 1990s and excessively loose in the late 1970s and early 2000s.
    JEL: E50 E58 E47 C12
    Date: 2020–05–21
  20. By: Gebauer, Stefan; Mazelis, Falk
    Abstract: Macroprudential policies are often aimed at the commercial banking sector, while a host of other non-bank financial institutions, or shadow banks, may not fall under their jurisdiction. We study the effects of tightening commercial bank regulation on the shadow banking sector. We develop a DSGE model that differentiates between regulated, monopolistic competitive commercial banks and a shadow banking system that relies on funding in a perfectly competitive market for investments. After estimating the model using euro area data from 1999 – 2014 including information on shadow banks, we find that tighter capital requirements on commercial banks increase shadow bank lending, which may have adverse financial stability effects. Coordinating macroprudential tightening with monetary easing can limit this leakage mechanism, while still bringing about the desired reduction in aggregate lending. In a counterfactual analysis, we compare how macroprudential policy implemented before the crisis would have dampened the business and lending cycles. JEL Classification: E32, E58, G23
    Keywords: financial frictions, macroprudential policy, monetary policy, non-bank financial institutions, policy coordination
    Date: 2020–05
  21. By: GalÌ, Jordi; van Rens, Thijs (University of Warwick, CAGE Centre)
    Abstract: We document two changes in postwar US macroeconomic dynamics : the procyclicality of labour productivity vanished, and the relative volatility of employment rose. We propose an explanation for these changes that is based on educed hiring frictions due to improvements in information about the quality of job matches and the resulting decline in turnover. We develop a simple model with hiring frictions and variable effort to illustrate the mechanisms underlying our explanation. We show that our model qualitatively and quantitatively matches the observed changes in business cycle dynamics.
    Keywords: labour hoarding ; hiring frictions ; effort choice JEL codes: E24 ' E32
    Date: 2020
  22. By: Li, Fanghui; Wang, Gaowang; Zou, Heng-fu
    Abstract: The paper reexamines the famous Chamley-Judd zero capital tax theorem in model economies where the agents are endowed with the spirit of capitalism. It is shown that the limiting capital income tax is not zero in general and depends on the utility specifications rather than the production technology. The similar formulas of optimal capital taxes are derived in more general settings with multiple physical capitals or heterogeneous agents (capitalists and workers).
    Keywords: the Spirit of Capitalism; Capital Income Taxation; Heterogeneous Agents
    JEL: E62 H21
    Date: 2020–05–20
  23. By: Marcelo Arbex (Department of Economics, University of Windsor); Michael Batu (Department of Economics, University of the Fraser Valley); Sidney Caetano (Department of Economics, Federal University of Juiz de Fora)
    Abstract: We study the macroeconomic effects of a pandemic-induced time-varying job separation rate (JSR). Governments have imposed mandatory stay-at-home orders to reduce the spread of COVID-19. Uncertainties affecting labor market dynamics and the economy are tied to uncertainties surrounding the pandemic and stay-at-home orders. We compare the pandemic-induced JSR with other events that generated large increases in unemployment. We show that the economic effects of unexpected changes in the JSR and the dispersion of these changes depend crucially on the Taylor-rule type adopted by the monetary authority - more severe recessions following JSR shocks under rules with no interest rate smoothing. The generosity of fiscal policy alleviates the negative effects of pandemic-induced job separation shocks.
    Keywords: Uncertainty, pandemic, unemployment, business cycles, monetary policy.
    JEL: E24 E31 E32 E52 E58
    Date: 2020–06
  24. By: Konstantinos Angelopoulos; Spyridon Lazarakis; James Malley
    Abstract: Incomplete markets models imply heterogeneous household savings behaviour which in turn generates pecuniary externalities via the interest rate. Conditional on differences in the processes determining household earnings for distinct groups in the population, these savings externalities may contribute to inequality. Working with an open economy heterogenous agent model, where the interest rate only partially responds to domestic asset supply, we find that differences in the earnings processes of British households with university and non-university educated heads entail savings externalities that increase wealth inequality between the groups and within the group of the non-university educated households. We further find that while the inefficiency effects of these externalities are quantitatively small, the distributional effects are sizeable.
    Keywords: incomplete markets, productivity di§erences, savings externalities
    JEL: E21 E25 H23
    Date: 2019–04
  25. By: Konstantinos Angelopoulos; Spyridon Lazarakis; James Malley
    Abstract: We develop a theoretical framework where the cross-sectional distributions of hours, earnings, wealth and consumption are determined jointly with a set of expenditure targets defining peer and aspirational pressure for members of different social classes. We show existence of a stationary socio-economic equilibrium, under idiosyncratic stochastic productivity and socio-economic class participation. We calibrate a model belonging to this framework using British data and find that it captures the main patterns of inequality, between and within the social groupings. We find that the effects of peer pressure on within group inequality differ between groups. We also find that wealth and consumption inequality increase within groups who aspire to match social targets from a higher class, despite a reduction in within-group inequality in hours and earnings.
    Keywords: inequality, incomplete markets, peer pressure, aspirations
    JEL: E21 E25 D01 D31
    Date: 2019–09
  26. By: Enrique Martínez-García
    Abstract: This paper considers the characterization of the reduced-form solution of a large class of linear rational expectations models. I show that under certain conditions, if a solution exists and is unique, it can be cast in finite-order VAR form. I also investigate the conditions for the VAR form to be stationary with a well-defined residual variance-covariance matrix in equilibrium, for the shocks to be recoverable, and for local identification of the structural parameters for estimation from the sample likelihood. An application to the workhorse New Keynesian model with accompanying Matlab codes illustrates the practical use of the finite-order VAR representation. In particular, I argue that the identification of monetary policy shocks based on structural VARs can be more closely aligned with theory using the finite-order VAR form of the model solution characterized in this paper.
    Keywords: Linear Rational Expectations Models; Finite-Order Vector Autoregressive Representation; Sylvester Matrix Equation; New Keynesian Model; Monetary Policy Shocks
    JEL: C32 C62 C63 E37
    Date: 2020–05–29
  27. By: Aliaga Miranda, Augusto
    Abstract: Este documento evalúa la política monetaria óptima en un modelo nuevo Keynesiano para una economía abierta con fricciones financieras. En el modelo, la demanda agregada está compuesta por el promedio ponderado de las tasas de interés a corto y largo plazo. Establezco un conjunto integral de reglas de política monetaria, todas adecuadas para pequeñas economías abiertas, como Perú. Se encuentra que una regla basada en el pronóstico de inflación y una regla basada en el tipo de cambio funcionan bien. Además, choques internacionales pueden afectar la competitividad e implican co-movimientos en las tasas de interés domésticas. Finalmente, las estimaciones, sugieren que adicionar el tipo de cambio nominal a la regla monetaria mejora significativamente el ajuste del modelo. En consecuencia, los parámetros estimados indican que los choques internacionales introducidos en este modelo pueden replicar hechos empíricos clave observados en el ciclo de negocios de la economía doméstica.
    Keywords: Comparación de reglas; Economía abierta; Estimación Bayesiana; Fricciones financieras; Política monetaria óptima
    JEL: C11 E31 E32 E44 E52 E58
    Date: 2020–05–20
  28. By: Cho, Deaha; Han, Yoonshin; Oh, Joonseok; Rogantini Picco, Anna
    Abstract: We study optimal monetary policy in response to uncertainty shocks in standard New Keynesian models under Calvo and Rotemberg pricing schemes. We find that optimal monetary policy achieves joint stabilization of inflation and the output gap in both pricing schemes. We show that a simple Taylor rule that puts high weight on inflation stability approximates optimal monetary policy well. This rule mutes firms’ precautionary pricing incentive, the key channel that makes responses under Calvo and Rotemberg pricing schemes differ under the empirically calibrated Taylor rule.
    Keywords: Optimal monetary policy; Uncertainty shocks
    JEL: E12 E52
    Date: 2020–06

This nep-dge issue is ©2020 by Christian Zimmermann. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.