nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2020‒08‒24
34 papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Microlevel Analyses of DSGE Model Parameters: Evidence from Kazakhstan By Zarina Adilkhanova
  2. Entry and Exit, Unemployment, and Macroeconomic Tail Risk By Joshua Bernstein; Alexander W. Richter; Nathaniel A. Throckmorton
  3. Rethinking capital regulation: the case for a dividend prudential target By Muñoz, Manuel A.
  4. Uncertainty Shocks and Unemployment Dynamics By Kandoussi, Malak; Langot, François
  5. The vagaries of the sea: evidence on the real effects of money from maritime disasters in the Spanish Empire By Brzezinski, Adam; Chen, Yao; Palma, Nuno Pedro G.; Ward, Felix
  6. Household Heterogeneity and the Transmission of Foreign Shocks By de Ferra, Sergio; Mitman, Kurt; Romei, Federica
  7. Liquidity Traps in a Monetary Union By Robert Kollmann
  8. VACANCY CHAINS By Michael Elsby; Ryan Michaels; David Ratner
  9. Demographics and the natural interest rate in the euro area. By Marcin Bielecki; Michał Brzoza-Brzezina; Marcin Kolasa
  10. Bargaining over Mandatory Spending and Entitlements By Marina Azzimonti; Gabriel P. Mihalache; Laura Karpuska
  11. Protectionism and the effective lower bound in the euro area By Pietro Cova; Alessandro Notarpietro; Massimiliano Pisani
  12. Who bears the burden of universal health coverage? An assessment of alternative financing policies using an overlapping-generations general equilibrium model By Mohammad Abu-Zaineh; Sameera Awawda; Bruno Ventelou
  13. Bank contagion in general equilibrium By Ferrari, Massimo Minesso
  14. What’s up with the Phillips Curve? By Del Negro, Marco; Lenza, Michele; Primiceri, Giorgio E.; Tambalotti, Andrea
  15. Asset Price Bubbles and Monetary Policy: Revisiting the Nexus at the Zero Lower Bound By Jacopo Bonchi
  16. Reviving the Salter-Swan Small Open Economy Model By Stephanie Schmitt-Grohé; Martín Uribe
  17. Bequests or Education By Julio Dávila
  18. Working Paper 338 - 'Not a Good Time': Economic Impact of COVID-19 in Africa By Hanan Morsy; Lacina Balma; Adamon N. Mukasa
  19. Climate Finance Intermediation: Interest Spread Effects in a Climate Policy Model By Kai Lessmann; Matthias Kalkuhl
  20. Secular Trends and Technological Progress By Robin Döttling; Enrico Perotti
  21. The Information Content of Capital Controls By Nie,Owen
  22. Existence and uniqueness of recursive utilities without boundedness By Timothy M. Christensen
  23. RegGae: a toolkit for macroprudential policy with DSGEs By Eduardo C. Castro
  24. Optimal Social Distancing in SIR based Macroeconomic Models By Yoseph Getachew
  25. The State Dependent Effectiveness of Hiring Subsidies By Sebastian Graves
  26. Monetary Policy, Financial Constraints, and Redistribution By Christian Loenser; Andreas Schabert
  27. A Quantitative Theory of the Credit Score By Satyajit Chatterjee; Dean Corbae; Kyle Dempsey; Jose-Victor Rios-Rull
  28. Unemployment Insurance during a Pandemic By Lei Fang; Jun Nie; Zoe Xie
  29. Investment under Rational Inattention: Evidence from US Sectoral Data By Peter Zorn
  30. Bequests or Education By Julio Davila
  31. The Lockdown Impact on Unemployment for Heterogeneous Workers By Kandoussi, Malak; Langot, François
  32. Average Is Good Enough: Average-Inflation Targeting and the ELB By Robert Amano; Stefano Gnocchi; Sylvain Leduc; Joel Wagner
  33. The Short-Run Macro Implications of School and Child-Care Closures By Nicola Fuchs-Schündeln; Moritz Kuhn; Michèle Tertilt
  34. Italy in the Eurozone By Christian Keuschnigg; Linda Kirschner; Michael Kogler; Hannah Winterberg

  1. By: Zarina Adilkhanova (NAC Analytica, Nazarbayev University)
    Abstract: Dynamic stochastic general equilibrium (DSGE) models are widely used by central banks, government agencies and financial organizations to conduct simulation and forecast relevant macroeconomic indicators in the economy. The most important inputs into all DSGE models are structural parameters which are either calibrated from other sources or estimated via Bayesian methods. Using non-public microlevel data, we estimate ten structural parameters for Kazakhstan: the elasticity of substitution between exports and imports, constant relative risk aversion, intertemporal elasticity of substitution in consumption, Frisch elasticity of labor supply, the depreciation rate of physical capital, capital and labor shares, and the elasticity of substitution between tradable and nontradable goods. Various econometric techniques such as fixed-effects, generalized method of moments (GMM), Arellano-Bond, and non-linear iterative maximum likelihood estimation are used to obtain consistent estimates of the models' coefficients. The structural parameters can be used in calibrated DSGE models as fixed parameters or as prior information in Bayesian estimation of the models.
    Keywords: DSGE; CRRA; Frisch Elasticity of Labor Supply; Depreciation rate; Capital and Labor Shares; Nontradables
    JEL: D10 D20 F10
    Date: 2019–12
  2. By: Joshua Bernstein; Alexander W. Richter; Nathaniel A. Throckmorton
    Abstract: This paper builds a nonlinear business cycle model with endogenous firm entry and exit and equilibrium unemployment. The entry and exit mechanism generates asymmetry and amplifies the transmission of productivity shocks, exposing the economy to significant tail risk. When calibrating the rates of entry and exit to match their shares of job creation and destruction, our quantitative model generates higher-order moments consistent with U.S. data. Firm exit particularly amplifies the severity and persistence of deep recessions such as the COVID-19 crisis. In the absence of entry and exit, the model generates almost no asymmetry or tail risk.
    Keywords: Unemployment; Firm Dynamics; Skewness; Labor Search; Nonlinear; COVID-19
    JEL: E24 E32 E37 J63 L11
    Date: 2020–06–24
  3. By: Muñoz, Manuel A.
    Abstract: Recent empirical studies have documented two remarkable patterns shown by euro area banks in the aftermath of the Great Recession: (i) their tendency to boost capital ratios by shrinking assets (contraction of loans supply), and (ii) their reluctance to cut back on dividends (fall in retained earnings). First, I provide evidence of a potential link between these two trends. When shocks hit their profits, banks tend to adjust retained earnings to smooth dividends. This generates bank equity and credit supply volatility. Then I develop a DSGE model that incorporates this mechanism to study the transmission and effects of a novel macroprudential policy rule - that I shall call Dividend Prudential Target (DPT) - aimed at complementing existing capital regulation by tackling this issue. Welfare-maximizing DPTs are effective (more than the CCyB) in smoothing the financial and the business cycle (by means of less volatile retained earnings) and induce significant welfare gains associated to a Basel III-type of capital regulation through various channels. JEL Classification: E44, E61, G21, G28, G35
    Keywords: capital requirements, countercyclical capital buffer (CCyB), dividend restrictions, DSGE models, macroprudential policy
    Date: 2020–07
  4. By: Kandoussi, Malak (University of Evry); Langot, François (University of Le Mans)
    Abstract: Recent events suggest that uncertainty changes play a major role in U.S. labor market fluctuations. This study analyzes the impact of uncertainty shocks on unemployment dynamics. Using a vector autoregression approach, we show that uncertainty shocks measured by stock market volatility have a significant impact on the U.S. unemployment rate. We then develop a quantitative version of the Diamond-Mortensen-Pissarides (DMP) model, in which uncertainty shocks hit the economy. Given the significant nonlinearities of the DMP model, we show that the introduction of uncertainty shocks not only allows this textbook model to account for observed characteristics of the U.S. labor market dynamics, with reasonable values for calibrated parameters, but also for the impact of rare episodes such as economic crises.
    Keywords: uncertainty shocks, unemployment dynamics, search and matching, non-linearities
    JEL: E24 E32 J64
    Date: 2020–07
  5. By: Brzezinski, Adam; Chen, Yao; Palma, Nuno Pedro G.; Ward, Felix
    Abstract: We exploit a recurring natural experiment to identify the effects of money supply shocks: maritime disasters in the Spanish Empire (1531-1810) that resulted in the loss of substantial amounts of monetary silver. A one percentage point reduction in the money growth rate caused a 1.3% drop in real output that persisted for several years. The empirical evidence highlights nominal rigidities and credit frictions as the primary monetary transmission channels. Our model of the Spanish economy confirms that each of these two channels explain about half of the initial output response, with the credit channel accounting for much of its persistence.
    Keywords: DSGE; financial accelerator; Local projection; minimum-distance estimation; Monetary shocks; Natural Experiment; Nominal Rigidity
    JEL: E43 E44 E52 N10 N13
    Date: 2019–10
  6. By: de Ferra, Sergio; Mitman, Kurt; Romei, Federica
    Abstract: We study the role of heterogeneity in the transmission of foreign shocks. We build a Heterogeneous-Agent New-Keynesian Small Open Model Economy (HANKSOME) that experiences a current account reversal. Households' portfolio composition and the extent of foreign currency borrowing are key determinants of the magnitude of the contraction in consumption associated with a sudden stop in capital inflows. The contraction is more severe when households are leveraged and owe debt in foreign currency. In this setting, the revaluation of foreign debt causes a larger contraction in aggregate consumption when debt and leverage are concentrated among poorer households. Closing the output gap via an exchange-rate devaluation may therefore be detrimental to household welfare due to the heterogeneous impact of the foreign debt revaluation. Our HANKSOME framework can rationalize the observed "fear of floating" in emerging market economies, even in the absence of contractionary devaluations.
    Keywords: Exchange Rate Policy; foreign currency debt; incomplete markets; Sudden stops
    JEL: E21 F32 F41
    Date: 2019–10
  7. By: Robert Kollmann
    Abstract: The closed economy macro literature has shown that a liquidity trap can result from the self-fulfilling expectation that future inflation and output will be low (Benhabib et al. (2001)). This paper investigates expectations-driven liquidity traps in a two-country New Keynesian model of a monetary union. In the model here, country-specific productivity shocks induce synchronized responses of domestic and foreign output, while country-specific aggregate demand shocks trigger asymmetric domestic and foreign responses. A rise in government purchases in an individual country lowers GDP in the rest of the union. The result here cast doubt on the view that, in the current era of ultra-low interest rates, a rise in fiscal spending by Euro Area (EA) core countries would significantly boost GDP in the EA periphery (e.g. Blanchard et al. (2016)).
    Keywords: Zero lower bound; liquidity trap; monetary union; terms of trade; international fiscal spillovers; Euro Area
    JEL: E30 E40 F20 F30 F40
    Date: 2020–08
  8. By: Michael Elsby; Ryan Michaels; David Ratner
    Abstract: Replacement hiring—recruitment that seeks to replace positions vacated by workers who quit—plays a central role in establishment dynamics. We document this phenomenon using rich microdata on U.S. establishments, which frequently report no net change in their employment, often for years at a time, despite facing substantial gross turnover in the form of quits. We propose a model in which replacement hiring is driven by the presence of a putty-clay friction in the production structure of establishments. Replacement hiring induces a novel positive feedback channel through which an initial rise in vacancy posting induces still more vacancy posting to replace employees who are poached. This vacancy chain in turn induces volatile responses of vacancies, and thereby unemployment, to cyclical shocks.
    Keywords: Quits; replacement hiring; unemployment; vacancies; business cycles.
    JEL: E32 J63 J64
    Date: 2020–07–30
  9. By: Marcin Bielecki (Faculty of Economic Sciences, University of Warsaw); Michał Brzoza-Brzezina (SGH Warsaw School of Economics and Narodowy Bank Polski); Marcin Kolasa (SGH Warsaw School of Economics and Narodowy Bank Polski)
    Abstract: We investigate the impact of demographics on the natural rate of interest (NRI) in the euro area, with a particular focus on the role played by economic openness, migrations and pension system design. To this end, we construct a life-cycle model and calibrate it to match the life-cycle profiles from HFCS data. We show that population aging contributes significantly to the decline in the NRI, explaining about two-thirds of its secular decline between 1985 and 2030. Openness to international capital flows has not been important in driving the EA real interest rate so far, but will become a significant factor preventing its further decline in the coming decades, when aging in Europe accelerates relative to the rest of the world. Of two possible pension reforms, only an increase in the retirement age can revert the downward trend on the equilibrium interest rate while a fall in the replacement rate would make its fall even deeper. The demographic pressure on the Eurozone NRI can be alleviated by increased immigration, but only to a small extent and with a substantial lag.
    Keywords: population aging, natural interest rate, life-cycle models, pension systems, migrations
    JEL: E31 E52 J11
    Date: 2020
  10. By: Marina Azzimonti; Gabriel P. Mihalache; Laura Karpuska
    Abstract: Do mandatory spending rules improve social welfare? We analyze a dynamic political-economy model in which two parties disagree on the split of a fixed budget between public goods and private transfers. Under a mandatory spending rule, expenditures are governed by criteria set by enacted law, namely last year’s spending bill is applied in the current year unless successfully changed by a majority of policymakers. We model budget rules with an endogenous status quo and study the welfare implications of introducing entitlement programs. Entitlements depend on individual eligibility and participation and, hence, impose constraints on publicly-provided private goods and transfers. We emphasize that bargaining over entitlements is qualitatively different from bargaining over public goods provision, particularly with risk-aversion. Entitlement programs induce under-provision of public goods but also a smoother path for private consumption than discretion. Whether entitlement programs are welfare-improving depends critically on political turnover. When proposers alternate frequently, it benefits society because it reduces volatility in private consumption. Outcomes under rules can be worse than under discretion if political power is persistent enough. We contrast these findings to those from a mandatory spending rule on public goods, commonly studied in the literature. Finally, we describe conditions under which all parties would agree to the introduction of budget rules, within a bargaining equilibrium.
    JEL: C7 D6 E6 E62 H53
    Date: 2020–07
  11. By: Pietro Cova (Bank of Italy); Alessandro Notarpietro (Bank of Italy); Massimiliano Pisani (Bank of Italy)
    Abstract: This paper evaluates the macroeconomic impact on the euro area (EA) of the imposition of tariffs by simulating a multi-country New Keynesian model featuring the effective lower bound (ELB) on the EA monetary policy rate. The main results are as follows. First, the bilateral tariff dispute between the United States (US) and China (CH) has positive spillovers on the EA economy, because of favorable trade diversion effects. Second, simultaneous tariff increases between the US and CH and between the US and EA have negative effects on euro-area GDP and (ex-tariff) inflation. The effects are magnified if the ELB binds in the EA. Third, if the elasticity of substitution among tradables is low, the spillovers on euro-area GDP of US-CH trade tensions are negligible if the ELB is not binding, while they become negative if the ELB binds.
    Keywords: euro area, inflation, tariffs, effective lower bound, DSGE models.
    JEL: C54 E52 F13 F41
    Date: 2020–07
  12. By: Mohammad Abu-Zaineh (AMSE - Aix-Marseille Sciences Economiques - EHESS - École des hautes études en sciences sociales - ECM - École Centrale de Marseille - CNRS - Centre National de la Recherche Scientifique - AMU - Aix Marseille Université); Sameera Awawda (AMSE - Aix-Marseille Sciences Economiques - EHESS - École des hautes études en sciences sociales - ECM - École Centrale de Marseille - CNRS - Centre National de la Recherche Scientifique - AMU - Aix Marseille Université); Bruno Ventelou (AMSE - Aix-Marseille Sciences Economiques - EHESS - École des hautes études en sciences sociales - ECM - École Centrale de Marseille - CNRS - Centre National de la Recherche Scientifique - AMU - Aix Marseille Université)
    Abstract: In their quest for universal health coverage (UHC), many developing countries use alternative financing strategies including general revenues to expand health coverage to the whole population. Unless a policy adjustment is undertaken, future generations may foot the bill of the UHC. This raises the important policy questions of who bears the burden of UHC and whether the UHC-fiscal stance is sustainable in the long term. These two questions are addressed using an overlapping generations model within a general equilibrium (OLG-CGE) framework applied to Palestine. We assess and compare alternative ways of financing the UHC-ridden deficit (viz. deferred-debt, current and phased-manner finance) and their implications on fiscal sustainability and intergenerational inequalities. The policy instruments examined include direct labour-income tax and indirect consumption taxes as well as health insurance contributions. Results show that in the absence of any policy adjustment, the implementation of UHC would explode the fiscal deficit and debt-GDP ratio. This indicates that the UHC-fiscal stance is rather unsustainable in the long term, thus, calling for a policy adjustment to service the UHC debt. Among the policies we examined, a current rather than deferred-debt finance through consumption taxation emerged to be preferred over other policies in terms of its implications for both fiscal sustainability and intergenerational inequality.
    Keywords: intergenerational inequality,universal health coverage,overlapping generations,computable general equilibrium,fiscal sustainability
    Date: 2020
  13. By: Ferrari, Massimo Minesso
    Abstract: In this paper, I incorporate a complex network model into a state of the art stochastic general equilibrium framework with an active interbank market. Banks exchange funds one another generating a complex web of interbanking relations. With the tools of network analysis it is possible to study how contagion spreads between banks and what is the probability and size of a cascade (a sequence of defaults) generated by a single initial episode. Those variables are a key component to understand systemic risk and to assess the stability of the banking system. In extreme scenarios, the system may experience a phase transition when the consequences of one single initial shock affect the entire population. I show that the size and probability of a cascade evolve along the business cycle and how they respond to exogenous shocks. Financial shocks have a larger impact on contagion probability than real shocks that, however, are long lasting. Additionally I find that monetary policy faces a trade off between financial stability and macroeconomic stabilization. Government spending shocks, on the contrary, have smaller effects on both. JEL Classification: E44, E32, E52, E58, D85
    Keywords: contagion, DSGE, heterogenous agents, interbank market, network analysis
    Date: 2020–06
  14. By: Del Negro, Marco; Lenza, Michele; Primiceri, Giorgio E.; Tambalotti, Andrea
    Abstract: The business cycle is alive and well, and real variables respond to it more or less as they always did. Witness the Great Recession. Inflation, in contrast, has gone quiescent. This paper studies the sources of this disconnect using VARs and an estimated DSGE model. It finds that the disconnect is due primarily to the muted reaction of inflation to cost pressures, regardless of how they are measured—a flat aggregate supply curve. A shift in policy towards more forceful inflation stabilization also appears to have played some role by reducing the impact of demand shocks on the real economy. The evidence rules out stories centered around changes in the structure of the labor market or in how we should measure its tightness. JEL Classification: E31, E32, E37, E52
    Keywords: DSGE models, inflation, monetary policy trade-off, unemployment, VARs
    Date: 2020–07
  15. By: Jacopo Bonchi (Department of Social Sciences and Economics, Sapienza University of Rome)
    Abstract: Asset price bubbles are a major source of macroeconomic instability, but can they play a stabilizing role in a low interest rates environment? To answer this question, I study an economy in which the natural rate of interest declines permanently and a long-lasting zero lower bound (ZLB) episode makes risk-free interest rates persistently low. Asset price bubbles redistribute wealth across generations because of the life-cycle pattern of net worth. In this way, they increase the natural interest rate by serving as a store of value for older cohorts and as a collateral for the younger ones, and the central bank can escape from the ZLB with consequent output gains. Therefore, the redistribution of wealth/consumption across generations, which would be welfare-reducing in normal times, becomes welfare-enhancing. However, asset price bubbles affect mainly the natural interest rate through their role of collateral, and a leveraged bubble is the most detrimental for output when it crashes (Jordá et al., 2015).
    Keywords: Asset price bubbles; Natural interest rate; Zero lower bound
    JEL: E13 E44 E52
    Date: 2020–05
  16. By: Stephanie Schmitt-Grohé; Martín Uribe
    Abstract: This paper provides microfoundations to the Salter-Swan policy framework, a graphical apparatus designed to ascertain the exchange-rate and fiscal stance of a policymaker with internal and external economic targets. The environment is an infinite-horizon small open economy producing tradable and nontradable goods that takes world prices and world interest rates as given and is populated by optimizing households and firms. The economy is subject to terms-of-trade and interest-rate shocks. The internal target of the government is the unemployment rate and the external target is the current account. Downward nominal wage rigidity and financial frictions serve as the rationale for meaningful policy intervention.
    JEL: F41
    Date: 2020–06
  17. By: Julio Dávila (CES - Centre d'économie de la Sorbonne - UP1 - Université Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique)
    Abstract: Whether parents choose to endow their offspring with bequests, or with human capital -the effectiveness with which they do so surely depending on their own human capital- or with both, markets cannot deliver, under laissez-faire, the egalitarian planner's mix of bequests and education that maximises the representative agent's welfare. Specifically, at the steady state and for a close enough to linear human capital production -out of educational investment and parents human capital- the market wage per efficient unit of labor is too high compared to the marginal productivity of labor resulting from the steady state the planner would choose, so that the market human capital is too low. In other words, the market misses the planner's allocation by leading households to transfer to their offspring more in bequests and less in education than would be advisable. This is so even if parents internalise in their utility the value of their bequests and educational investment for their children. The problem is not, therefore, one of an externality not internalised, but rather the impossibility of replicating in a decentralised way, under laissez-faire, the kind of intergenerational coordination that a planner constrained only by the feasibility of the allocation of resources can achieve. The planner's allocation can, nonetheless, be decentralised through the market by means of subsidising labor income at the expense of a lump-sum tax on saving returns.
    Keywords: human capital,bequests,externalities,overlapping generations
    Date: 2020–04
  18. By: Hanan Morsy (Research Department, African Development Bank); Lacina Balma (Research Department, African Development Bank); Adamon N. Mukasa (Research Department, African Development Bank)
    Abstract: The paper studies the effects of the COVID-19 pandemic on African economies and household welfare using a top-down sequential macro-micro simulation approach. The pandemic is modeled as a supply shock that disrupts economic activities of African countries and then affects households' consumption behavior, the level of their welfare, and businesses' investment decisions. The DSGE model is calibrated to account for informality, a key feature of African economies. We find that COVID-19 could diminish employment in the formal and informal sectors and contract consumption of savers and non-savers, especially for savers. These contractions would lead to an economic recession in Africa and widen both fiscal and current account deficits. Extreme poverty is expected to increase further in Africa, in particular if the welfare of the poorest households grows at lower rates. We also use the DSGE model to analyze the effects of different fiscal policy responses to the COVID-19 pandemic.
    Keywords: COVID-19, Macro-micro simulation, Welfare, Fiscal policy, Africa JEL Classification: E17, E62, I18, I3
    Date: 2020–06–26
  19. By: Kai Lessmann; Matthias Kalkuhl
    Abstract: Interest rates are central determinants of saving and investment decisions. Costly financial intermediation distort these price signals by creating a spread between the interest rates on deposits and loans with substantial effects on the supply of funds and the demand for credit. This study investigates how interest rate spreads affect climate policy in its ambition to shift capital from polluting to low-carbon sectors of the economy. To this end, we introduce financial intermediation costs in a dynamic general equilibrium climate policy model. We find that costly financial intermediation affects carbon emissions in various ways through a number of different channels. For low to moderate interest rate spreads, carbon emissions increase by up to 7 percent, in particular, because of lower investments into the capital intensive clean energy sector. For very high interest rate spreads, emissions fall because lower economic growth reduces carbon emissions. If a certain temperature target should be met, carbon prices have to be adjusted upwards by up to one third under the presence of capital market frictions.
    Keywords: financial friction, banking, greenhouse gas mitigation
    JEL: E43 G21 Q54 Q58
    Date: 2020
  20. By: Robin Döttling (Erasmus University Rotterdam); Enrico Perotti (University of Amsterdam)
    Abstract: We study the redistributive effects of a gradual productivity shift from tangible to intangible capital. Intangible asset creation relies on the commitment of skilled human capital. To ensure retention,firms reward innovators by deferred compensation, so funding demand by firms drops as the importance of intangible assets rises. Since human capital income is not tradable,the supply of investable assets falls and innovator rents rise.The general equilibrium effect is a fall in interest rates, while surplus savings are stored in higher asset valuations. This shift leads to increasing inequality and skewness in both the capital and labor income share.Rising house prices and wage inequality lead to higher household leverage.
    Keywords: Intangible capital, skill-biased technological change, human capital, excess savings,house prices
    JEL: D33 E22 G32
    Date: 2020–06
  21. By: Nie,Owen
    Abstract: Capital controls, policy measures used by governments to regulate cross-country financial flows, have become standard policy options in many emerging market economies. This paper will focus on what capital controls reveal about the state of the economy and the implications of such revelation for policy efficacy. Using a small open economy model with a collateral constraint and overborrowing relative to the social optimum, this paper incorporates a representative agent's Bayesian updating of information in response to change in policy and show that the efficacy of capital controls to contain financial crises and improve welfare could be undermined if the agent rationally learns from policy. Empirically, this paper finds that capital controls convey important information market participants use to improve their understanding of fundamentals. This paper highlights the need for policymakers to consider the unintended consequences of information revelation in the design of capital flow management policies.
    Keywords: Macroeconomic Management,Banks&Banking Reform,Fiscal&Monetary Policy,Consumption,International Trade and Trade Rules
    Date: 2020–07–30
  22. By: Timothy M. Christensen
    Abstract: This paper derives primitive, easily verifiable sufficient conditions for existence and uniqueness of recursive utilities for a number of important classes of preferences. In order to accommodate models commonly used in practice, we allow both the statespace and per-period utilities to be unbounded. For many of the models we study, existence and uniqueness is established under a single "thin tail" condition on the distribution of growth in per-period utilities. We illustrate our approach with applications to robust preferences, models of ambiguity aversion and learning about hidden states, dynamic discrete choice models, and Epstein-Zin preferences.
    Date: 2020–07
  23. By: Eduardo C. Castro
    Abstract: RegGae is a toolkit to adapt DSGE models for analyzing macroprudential policy. To be useful for macroprudential policy, a DSGE needs to have financial crises along the equilibrium path. RegGae embeds financial crises in DSGEs as regime switches, events that change the structural relationships in the economy. The solu-tion concept of RegGae is regime-wise linearization, a procedure that preserves the non-linearities of models of financial crises. The transition probabilities governing the switch are endogenous, conditional on the state variables. With the toolkit, DSGEs can be used to draw the distribution of variables in order to measure the expected welfare of macroprudential policy. This allows for calibrating macropru-dential tools to trade off mean and variance optimally. The toolkit unifies DSGE modeling with early warning (crisis prediction) methods. The endogeneity of the probability of regime switches reflects the fact that the probability of financial crises depends on the state of the economy while its timing cannot be forecasted. Because financial markets do not anticipate financial crises, RegGae assumes the typical per-fect foresight of the future sequence of regimes.
    Date: 2020–07
  24. By: Yoseph Getachew (Department of Economics, University of Pretoria, Pretoria, 0002, South Africa)
    Abstract: The paper introduces voluntary social distancing to the canonical epidemiology model, integrated into a conventional macroeconomic model. The model is extended to include treatment, vaccination, and government-enforced lockdown. Infection-averse individuals face a trade-off between a costly social distancing and the risk of getting infected and losing next-period labor income. We find an individual's social distancing is proportional to the welfare loss she incurs when moving to the infected compartment. It increases in the individual's psychological discount factor but decreases in the probability of receiving a vaccination. Quantitatively, a laissez-faire social distancing flattens the infection curve that minimizes the economic damage of the epidemic. A government-enforced social distancing is more effective in flattening the infection curve but has a detrimental effect on the economy.
    Keywords: COVID-19, lockdown, social distancing, macroeconomics, epidemics
    Date: 2020–07
  25. By: Sebastian Graves
    Abstract: The responsiveness of job creation to shocks is procyclical, while the responsiveness of job destruction is countercyclical. This new finding can be explained by a heterogeneous-firm model in which hiring costs lead to lumpy employment adjustment. The model predicts that policies that aim to stimulate employment by encouraging job creation, such as hiring subsidies, are significantly less effective in recessions: These are times when few firms are near their hiring threshold and many firms are near their firing threshold. Policies that target the job destruction margin, such as employment protection subsidies, are particularly effective at such times.
    Keywords: Labor market frictions; Hiring costs; Hiring subsidies; Employment stabilization policies; Time-varying volatility
    JEL: E24 E32 E63
    Date: 2020–07–08
  26. By: Christian Loenser (University of Cologne, Center for Macroeconomic Research); Andreas Schabert (University of Cologne, Center for Macroeconomic Research)
    Abstract: This paper examines how financial constraints affect redistribution via monetary policy. We explore a novel mechanism of monetary non-neutrality, which is based on debt limits imposed in nominal terms. Speci cally, when debt is constrained by current income, monetary policy can alter the real terms of borrowing. Changes in ination exert ambiguous effects, depending on the initial debt/wealth position and the willingness to borrow. We show analytically that borrowers can bene t from increased debt limits under lower inflation rates. This novel effect can dominate conventional debt deflation effects. We find that particularly less indebted borrowers as well as potential future borrowers gain and that aggregate welfare can be enhanced under a permanent reduction in inflation.
    Keywords: Monetary policy, redistribution, borrowing limits, non-state contingent nominal debt, heterogeneous agents
    JEL: D52 E44 E52
    Date: 2020–06
  27. By: Satyajit Chatterjee; Dean Corbae; Kyle Dempsey; Jose-Victor Rios-Rull
    Abstract: What is the role of credit scores in credit markets? We argue that it is a stand in for a market assessment of a person's unobservable type (which here we take to be patience). We pose a model of persistent hidden types where observable actions shape the public assessment of a person's type via Bayesian updating. We show how dynamic reputation can incentivize repayment without monetary costs of default beyond the administrative cost of filing for bankruptcy. Importantly we show how an economy with credit scores implements the same equilibrium allocation. We estimate the model using both credit market data and the evolution of individual's credit scores. We find a 3% difference in patience in almost equally sized groups in the population with significant turnover and a shift towards becoming more patient with age. If tracking of individual credit actions is outlawed, the benefits of bankruptcy forgiveness are outweighed by the higher interest rates associated with lower incentives to repay.
    Keywords: Credit scores; Unsecured consumer credit; Bankruptcy; Persistent private information
    JEL: D82 E21
    Date: 2020–08–05
  28. By: Lei Fang; Jun Nie; Zoe Xie
    Abstract: The CARES Act implemented in response to the COVID-19 crisis dramatically increases the generosity of unemployment insurance (UI) benefits, triggering concerns about its substantial impact on unemployment. This paper combines a labor market search-matching model with the SIR-type infection dynamics to study the effects of CARES UI on both unemployment and infection. More generous UI policies create work disincentives and lead to higher unemployment, but they also reduce infection and save lives. Economic shutdown policies further amplify these effects of UI policies. Quantitatively, the CARES UI policies raise unemployment by an average of 3.7 percentage points over April to December 2020 but also reduce cumulative death by 4.7 percent. Eligibility expansion and the extra $600 increase in benefit level account for more than 90 percent of the total effects, while the 13-week benefit duration extension plays a much smaller role. Overall, UI policies improve the welfare of workers and reduce the welfare of nonworkers, both young and old.
    Keywords: COVID-19; CARES Act; unemployment insurance; search and matching
    JEL: J64 J65 E24
    Date: 2020–07–31
  29. By: Peter Zorn
    Abstract: Macroeconomic and sector-specific shocks exert differential effects on investment in disaggregate sectoral data. The response to macroeconomic shocks is hump-shaped, just as in aggregate data. The effects of sectoral innovations decrease monotonically. A calibrated model of investment with convex capital adjustment costs and rational inattention explains these features of the data. The model matches the empirical responses of sectoral investment because learning about shocks generates additional investment demand over time, and more so after aggregate shocks with relatively higher persistence. The interaction of information frictions and physical adjustment costs is key to this result.
    Keywords: investment dynamics, hump shape, rational inattention, adjustment costs
    JEL: E22 E32 D83 C38
    Date: 2020
  30. By: Julio Davila (Centre d'Economie de la Sorbonne;
    Abstract: Whether parents choose to endow their offspring with bequests, or with human capital -the effectiveness with which they do so surely depending on their own human capital- or with both, markets cannot deliver, under laissez-faire, the egalitarian planner's mix of bequests and education that maximises the representative agent's welfare. Specifically, at the steady state and for a close enough to linear human the market wage per efficient unit of labor is too high compared to the marginal productivity of labor resulting from the steady state the planner would choose, so that the market human capital is too low. In other words, the market misses the planner's allocation by leading households to transfer to their offspring more in bequests and less in education than would be advisable. This is so even if parents internalise in their utility the value of their bequests and educational investment for their children. The problem is not, therefore, one of an externality not internalised, but rather the impossibility of replicating in a decentralised way, under laissez-faire, the kind of intergenerational coordination that a planner constrained only by the feasibility of the allocation of resources can achieve. The planner's allocation can, nonetheless, be decentralised through the market by means of subsidising labor income at the expense of a lump-sum tax on saving returns
    Keywords: human capital; bequests; externalities; overlapping generations
    JEL: D64 H2 I25 O4
    Date: 2020–05
  31. By: Kandoussi, Malak (University of Evry); Langot, François (University of Le Mans)
    Abstract: We develop a multi-sectoral matching model to predict the impact of the lockdown on the US unemployment, considering the heterogeneity of workers to account for the contrasted impacts across various types of jobs. We show that separations and business closures that hit the workers with the first level of education explains the abruptness of the unemployment rise. The existence of significant congestion externalities in the hiring process suggests that a comeback to the pre-crisis unemployment level could be reached in 2024 in a scenario with a double wave. In the same scenario, a calibration on French data leads to more pessimistic forecasts with a comeback to the pre-crisis unemployment level expected until 2027.
    Keywords: COVID-19, unemployment dynamics, search and matching, worker heterogeneity
    JEL: E24 E32 J64
    Date: 2020–07
  32. By: Robert Amano; Stefano Gnocchi; Sylvain Leduc; Joel Wagner
    Abstract: The Great Recession and current pandemic have focused attention on the constraint on nominal interest rates from the effective lower bound. This has renewed interest in monetary policies that embed makeup strategies, such as price-level or average-inflation targeting. This paper examines the properties of average-inflation targeting in a two-agent New Keynesian (TANK) model in which a fraction of firms have adaptive expectations. We examine the optimal degree of history dependence under average-inflation targeting and find it to be relatively short for business cycle shocks of standard magnitude and duration. In this case, we show that the properties of the economy are quantitatively similar to those under a price-level target.
    Keywords: ELB; make-up strategies; inflation targeting; price level targeting
    JEL: E31 E32 E52
    Date: 2020–06–24
  33. By: Nicola Fuchs-Schündeln (Goethe University Frankfurt, CEPR, IZA); Moritz Kuhn (University of Bonn, ECONtribute, CEPR, IZA); Michèle Tertilt (University of Mannheim, CEPR, IZA)
    Abstract: The COVID19 crisis has hit labor markets. School and child-care closures have put families with children in challenging situations. We look at Germany and quantify the macroeconomic importance of working parents. We document that 26 percent of the German work force have children aged 14 or younger and estimate that 11 percent of workers and 8 percent of all working hours are affected if schools and child-care centers remain closed. In most European countries,the share of affected working hours is even higher. Policies to restart the economy have to accommodate the concerns of these families.
    Keywords: COVID-19, labor market, children, child-care, parents, workforce
    Date: 2020–06
  34. By: Christian Keuschnigg; Linda Kirschner; Michael Kogler; Hannah Winterberg
    Abstract: Using a DSGE model with nominal wage rigidity, we investigate two scenarios for the Italian economy. The first considers sustained policy commitment to reform. The results indicate the possibility of ‘growing out of bad initial conditions’, if fiscal consolidation is combined with a program for bank recovery and for competitiveness and growth. The second scenario involves a strong asymmetric recession. It is likely to be very severe under the restrictions of the currency union. A benign exit from the Eurozone with stable investor expectations could substantially dampen the short-run impact. Stabilization is achieved by monetary expansion, combined with exchange rate depreciation. However, investor panic may lead to escalation. Capital market reactions would offset the benefits of monetary autonomy and much delay the recovery.
    Keywords: Italy, competitiveness, sovereign debt, bad loans, bank recapitalization, European crisis
    JEL: E42 E44 E60 F30 F36 F45 G15 G21
    Date: 2020

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