nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2020‒09‒07
thirty papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Sustainability of Social Security in the Aging Economy from the Perspective of Improving Health By Tomoaki Kotera
  2. Implications of state-dependent pricing for DSGE model-based policy analysis in Indonesia By Denny Lie
  3. Asset bubble and endogenous labor supply: a clarification By Kathia Zekkari; Thomas Seegmuller
  4. Labor Market Policies During an Epidemic By Serdar Birinci; Fatih Karahan; Yusuf Mercan; Kurt See
  5. Spousal Labor Supply Response to Job Displacement and Implications for Optimal Transfers By Serdar Birinci
  6. The Business Cycle Mechanics of Search and Matching Models By Joshua Bernstein; Alexander W. Richter; Nathaniel A. Throckmorton
  7. Entrepreneurship, Outside Options and Constrained Efficiency By João Alfredo Galindo da Fonseca; Iain Snoddy
  8. Climate hysteresis and monetary policy By Augustus J. Panton
  9. Reglas de política monetaria para una economía abierta con fricciones financieras: Un enfoque Bayesiano By Aliaga, Augusto
  10. Liquidity traps in a monetary union By Robert Kollmann
  11. A Dynamic Theory of Lending Standards By Michael J. Fishman; Jonathan A. Parker; Ludwig Straub
  12. Optimal Taxation with Endogenous Default under Incomplete Markets By Demian Pouzo; Ignacio Presno
  13. Technological Foundations for Dynamic Models with Endogenous Entry By Federico Etro
  14. Life-Cycle Welfare Losses from Rules-of-Thumb Asset Allocation By Fabio C. Bagliano; Carolina Fugazza; Giovanna Nicodano
  15. This Time It's Different: The Role of Women's Employment in a Pandemic Recession By Titan Alon; Matthias Doepke; Jane Olmstead-Rumsey; Michèle Tertilt
  16. Interest Rate Uncertainty and Sovereign Default Risk By Alok Johri; Shahed Khan; César Sosa-Padilla
  17. Bequests or Education By Julio Dávila
  18. Asset Bubbles, Unemployment, and Financial Market Frictions By Ken-ichi Hashimoto; Ryonghun Im; Takuma Kunieda; Akihisa Shibata
  19. Consumption and Income Inequality across Generations By Giovanni Gallipoli; Hamish Low; Aruni Mitra
  20. Job Applications and Labor Market Flows By Serdar Birinci; Kurt See; Shu Lin Wee
  21. How does international capital flow? By Kumhof, Michael; Rungcharoenkitkul, Phurichai; Sokol, Andrej
  22. Efficient Redistribution By Corina Boar; Virgiliu Midrigan
  23. Strategic Interactions in U.S. Monetary and Fiscal Policies By Xiaoshan Chen; Eric M. Leeper; Campbell B. Leith
  24. Skill Loss during Unemployment and the Scarring Effects of the COVID-19 Pandemic By Paul Jackson; Victor Ortego-Marti
  25. A Quantitative Theory of the Credit Score By Satyajit Chatterjee; Dean Corbae; Kyle P. Dempsey; José-Víctor Ríos-Rull
  26. The Macroeconomic Consequences of Infrastructure Investment By Valerie A. Ramey
  27. Labor Market Search, Informality and Schooling Investments By Matteo Bobba
  28. The Welfare of Ramsey Optimal Policy Facing Auto-Regressive Shocks By Jean-Bernard Chatelain; Kirsten Ralf
  29. Fiscal policy under involuntary unemployment By Tanaka, Yasuhito
  30. The Long-Term Distributional and Welfare Effects of COVID-19 School Closures By Nicola Fuchs-Schündeln; Dirk Krueger; Alexander Ludwig; Irina Popova

  1. By: Tomoaki Kotera (Economist, Institute for Monetary and Economic Studies, Bank of Japan (currently, Assistant Professor, Graduate School of Economics and Management, Tohoku University, E-mail:
    Abstract: An aging economy is widely believed to increase the recipients of Social Security and thus increase the fiscal burden. However, since the health condition of the elderly today is better than before and may continue to improve in the future, the number of elderly workers may increase. This paper studies the quantitative role of old workers in the sustainability of Social Security in an aging economy by developing a computable overlapping generations model with heterogeneous agents in a general equilibrium framework. The distinctive feature of the model is the incorporation of health status linked to survival probability, medical expenditures, and disutility of labor. The model simulation shows that old workers play a significant role in mitigating the fiscal cost and the effect remains pronounced when Social Security reform is implemented. It also highlights the crucial role of the projected future health status of the population in quantifying the fiscal cost.
    Keywords: Elderly Workers, Health, Social Security Reform, Benefit Claim, Overlapping Generations
    JEL: H55 I13 J22
    Date: 2020–08
  2. By: Denny Lie
    Abstract: This paper studies the implications of state-dependent pricing in a small open-economy dynamic stochastic general equilibrium (DSGE) model for Indonesia. I show that variations in the timing and frequency of price adjustment inherent in a state-dependent pricing assumption could have important implications for DSGE model-based policy analysis in Indonesia. This extensive margin effect produces disparities in the conditional variance decompositions and the impulse responses to various shocks responsible for business cycle fluctuations. An investigation into the impact of COVID-19 pandemic shocks indicates that such variations non-trivially affect the analysis on the appropriate degree of monetary policy response to the shocks. A state-dependent pricing model would call for a greater degree of monetary easing in response to the COVID-19 pandemic, than that prescribed by a traditional time-dependent pricing model. The broader implication is clear. For modelling and analyzing the Indonesian economy, in which the inflation rates have historically been moderate-to-high and highly variable, state-dependent pricing is an essential model feature.
    Keywords: state-dependent pricing, monetary policy, DSGE model for Indonesia, COVID-19 pandemic
    JEL: E12 E32 E58 E61 F41
    Date: 2020–08
  3. By: Kathia Zekkari (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); Thomas Seegmuller (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: This paper analyzes the link between asset bubbles, endogenous labor and capital. The question is whether endogenous labor, per se, can explain a crowding-in effect of the bubble, i.e. higher levels of capital and labor. With respect to the existing literature, our contribution is twofold. First, we explicitly and theoretically derive the conditions to have a crowding-in effect of the bubble. Second, the utility function we consider allows us to show that this result does not require an arbitrarily high elasticity of intertemporal substitution in consumption. Our result still holds for a unit value of this elascticity (Cobb-Douglas utility).
    Keywords: Asset bubbles,crowding-in effect,endogenous labor,overlapping generations
    Date: 2020–07–02
  4. By: Serdar Birinci; Fatih Karahan; Yusuf Mercan; Kurt See
    Abstract: We study the effects and welfare implications of labor market policies that counteract the economic fall out from containment policies during an epidemic. We incorporate a standard epidemiological model into an equilibrium search model of the labor market to compare unemployment insurance (UI) expansions and payroll subsidies. In isolation, payroll subsidies that preserve match capital and enable a swift economic recovery are preferred over a cost-equivalent UI expansion. When considered jointly, however, a cost-equivalent optimal mix allocates 20 percent of the budget to payroll subsidies and 80 percent to UI. The two policies are complementary, catering to different rungs of the productivity ladder. The small share of payroll subsidies is sufficient to preserve high-productivity jobs, but leaves room for social assistance to workers who face inevitable job loss.
    Keywords: COVID-19; Fiscal Policy; Labor Productivity; Unemployment; Job Search
    JEL: E24 E62 J64
    Date: 2020–08–07
  5. By: Serdar Birinci
    Abstract: I document a small spousal earnings response to the job displacement of the family head. The response is even smaller in recessions, when earnings losses are larger and additional insurance is most valuable. I investigate whether the small response is an outcome of the crowding-out effects of government transfers. To accomplish this, I use an incomplete markets model with family labor supply and aggregate fluctuations where predicted spousal labor supply elasticities with respect to transfers are in line with microeconomic estimates both in aggregate and across subpopulations. Counterfactual experiments indeed reveal that generous transfers in recessions discourage the spousal labor supply significantly. I then show that the optimal policy features procyclical means-tested and countercyclical employment-tested transfers, unlike the existing policy that maintains generous transfers of both types in recessions. Abstracting from the incentive costs of transfers on the spousal labor supply changes both the level and cyclicality of optimal transfers.
    Keywords: Unemployment; Job Search; Business Cycles; Fiscal Policy and Household Behavior
    JEL: E24 E32 H31 J64
    Date: 2019–09
  6. By: Joshua Bernstein; Alexander W. Richter; Nathaniel A. Throckmorton
    Abstract: This paper estimates a real business cycle model with unemployment driven by shocks to labor productivity and the job separation rate. We make two contributions. First, we develop a new identification scheme based on the matching elasticity that allows the model to perfectly match a range of labor market moments, including the volatilities of unemployment and vacancies. Second, we use our model to revisit the importance of shocks to the job separation rate and highlight how their correlation with labor productivity affects their transmission mechanism.
    Keywords: Real Business Cycles; Estimation; Unemployment; Separation Rate; Vacancies
    JEL: C13 E24 E32 E37 J63
    Date: 2020–08–25
  7. By: João Alfredo Galindo da Fonseca (Université de Montréal, CIREQ); Iain Snoddy (UBC, Vancouver School of Economics)
    Abstract: The literature on search frictions has often adopted the assumption of free entry. In this paper we forgo of this restriction by proposing a more realisitic framework in which individuals are constantly making the decision whether or not to open a firm. Namely, firms are created through endogenous choices and business-owners and workers are drawn from the same pool. We show that in this framework, the Nash bargaining parameter is crucial for internal dynamics. In particular, workers and business owners share the same outside-options. As a result, the wage is no longer unambiguously positively related to the value of unemployment. The constrained efficient solution to this model takes the same form as the standard search model implying the same form for the Hosios condition. However, at this efficient solution changes in the rate ofunemployment are either exacerbated or muted conditional on the value of the match elasticity parameter.
    Keywords: search and matching, entrepreneurship, outside options, constrained efficiency
    JEL: E24 J63 J64 D61
    Date: 2019–05
  8. By: Augustus J. Panton
    Abstract: Since the birth of the natural rate hypothesis, the conventional notion that short-term output simply fluctuates around a relatively stable long-term trend became the norm in modern macroeconomics, including in the standard New Keynesian DSGE model. However, the global financial crisis (GFC) led to a serious rethinking of this norm, giving rise to the re-emergence of the Blanchard-Summers’ hysteresis debate and a new business cycle paradigm in which the short-term output effects of financial crises permanently feed into long-term growth trends. Using a Bayesian-estimated structural multivariate filtering model calibrated to data for Australia and the United States, the innovation of this paper is the incorporation of climate hysteresis into the estimation of potential output and the output and unemployment gaps. The results suggest non-trivia implications for monetary policy in a carbon-constrained world. Not only are the model-based estimates of potential output and NAIRU more volatile with climate shock persistence, the climate-neutral output and unemployment gap estimates are much smaller than conventional estimates, with different implications for inflation signals during the upturn or downturn of the business cycle. For economies that are more susceptible to disruptive climate shocks, especially in the developing world, an environment in which both demand conditions and the underlying supply potential are rapidly changing will severely complicate the conduct of forward-looking macroeconomic policy.
    Keywords: Potential output, output gaps, NAIRU, physical climate risks
    JEL: C51 C52 E32 E52 Q51
    Date: 2020–08
  9. By: Aliaga, Augusto
    Abstract: This paper evaluates optimal monetary policy in a new Keynesian model for an open economy with financial frictions. In the model, aggregate demand is made up of the weighted average of the short and long-term interest rates. A comprehensive set of monetary policy rules is established, all suitable for small open economies, such as Peru. A domestic inflation forecast based rule and an exchange rate based rule are found to work well. Furthermore, international shocks can affect competitiveness and involve co-movements in domestic interest rates. Finally, the estimates suggest that adding the nominal exchange rate to the monetary rule significantly improves the model fit. Consequently, the estimated parameters indicate that international shocks introduced in this model can replicate key empirical facts observed in the domestic business cycle.
    Keywords: Comparación de reglas; Economía abierta; Estimación Bayesiana; Fricciones financieras; Política monetaria óptima
    JEL: C11 E31 E32 E44 E52 E58
    Date: 2020–08
  10. 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 countryspecific 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: E3 E4 F2 F3 F4
    Date: 2020–08
  11. By: Michael J. Fishman; Jonathan A. Parker; Ludwig Straub
    Abstract: We develop a tractable dynamic model of credit markets in which lending standards and the quality of potential borrowers are endogenous. Competitive banks privately choose their lending standards: whether to pay a cost to screen out some unprofitable borrowers. Lending standards have negative externalities and are dynamic strategic complements: tighter screening worsens the future pool of borrowers for all banks and increases their incentives to screen in the future. Lending standards can amplify and prolong temporary downturns, affecting lending volume, credit spreads, and default rates. We characterize constrained-optimal policy which can generally be implemented as a government loan insurance program. When markets recover, they may do so only slowly, a phenomenon we call “slow thawing.” Finally, we show that limits on lending such as from capital constraints naturally incentivize tight lending standards, further amplifying shocks to credit markets.
    JEL: D82 E51 G21
    Date: 2020–07
  12. By: Demian Pouzo; Ignacio Presno
    Abstract: How are the optimal tax and debt policies affected if the government has the option to default on its debt? We address this question from a normative perspective in an economy with noncontingent government debt, domestic default and labor taxes. On one hand, default prevents the government from incurring future tax distortions that would come along with the service of the debt. On the other hand, default risk gives rise to endogenous credit limits that hinder the government's ability to smooth taxes. We characterize the fiscal policy and show how the option to default alters the near-unit root component of taxes in the economy with risk-free borrowing. When we allow the government to default and calibrate the model to Spain, fiscal policies are more volatile, borrowing costs are higher, indebtness and welfare are both lower than in two alternatives economies, one with only risk-free debt available and the other with government's commitment to the default strategy.
    Keywords: Optimal taxation; Government debt; Incomplete markets; Default
    JEL: H30 H21 H63 D52 C60
    Date: 2020–08–20
  13. By: Federico Etro
    Abstract: I explore the technological foundations of dynamic entry models à la Bilbiie-Ghironi-Melitz where the endogenous creation of new inputs can generate either neoclassical business cycle dynamics or long run growth. Under a general CRS technology in labor and intermediate goods produced by monopolistic innovators, substitutability between inputs drives markups and profitability of innovations as functions of the number of firms. Decreasing profitability tends to generate a stable steady state associated with a propagation of shocks fostered by endogenous productivity. The decentralized equilibrium is inefficient and I characterize the optimal policy to fix static and dynamic inefficiencies.
    Keywords: Entry, monopolistic competition, variable markups, technology, business cycle.
    JEL: E1 E2 E3 F4 L1
    Date: 2020
  14. By: Fabio C. Bagliano (Department of Economics and Statistics (Dipartimento di Scienze Economico-Sociali e Matematico-Statistiche), University of Torino, Italy); Carolina Fugazza (Department of Economics and Statistics (Dipartimento di Scienze Economico-Sociali e Matematico-Statistiche), University of Torino, Italy); Giovanna Nicodano (Department of Economics and Statistics (Dipartimento di Scienze Economico-Sociali e Matematico-Statistiche), University of Torino, Italy)
    Abstract: How should workers invest over the life-cycle? Should they follow some typical prescriptions ("rules of thumb") in personal finance implying higher equity investments when young? We show that the answer hinges on the risk of long-term unemployment spells, entailing permanent declines in workers' future earnings prospects. Absent unemployment risk, extant prescriptions deliver portfolios that are close to optimal, implying negligible welfare losses. They instead lead to sizable welfare losses (3-9% of annual consumption) when the risk of human capital depreciation following long-term unemployment is considered and realistically calibrated to the U.S. labor market. These losses stem from excess risk taking when young investors face uncertainty about future labor and pension incomes. This result points to a new design for pension plans offered by long-term institutional investors.
    Keywords: welfare, life-cycle portfolio choice, unemployment risk, long term unemployment, age rules.
    JEL: E21 G11
    Date: 2020–09
  15. By: Titan Alon; Matthias Doepke; Jane Olmstead-Rumsey; Michèle Tertilt
    Abstract: In recent US recessions, employment losses have been much larger for men than for women. Yet, in the current recession caused by the Covid-19 pandemic, the opposite is true: unemployment is higher among women. In this paper, we analyze the causes and consequences of this phenomenon. We argue that women have experienced sharp employment losses both because their employment is concentrated in heavily affected sectors such as restaurants, and due to increased childcare needs caused by school and daycare closures, preventing many women from working. We analyze the repercussions of this trend using a quantitative macroeconomic model featuring heterogeneity in gender, marital status, childcare needs, and human capital. Our quantitative analysis suggests that a pandemic recession will i) feature a strong transmission from employment to aggregate demand due to diminished within-household insurance; ii) result in a widening of the gender wage gap throughout the recovery; and iii) contribute to a weakening of the gender norms that currently produce a lopsided distribution of the division of labor in home work and childcare.
    Keywords: Covid-19, Pandemics, Recessions, Business Cycle, Gender Equality, School closures, Childcare, Gender Wage Gap
    JEL: D13 E32 J16 J20
    Date: 2020–08
  16. By: Alok Johri; Shahed Khan; César Sosa-Padilla
    Abstract: International data suggests that fluctuations in the level and volatility of the world interest rate (as measured by the US treasury bill rate) are positively correlated with both the level and volatility of sovereign spreads in emerging economies. We incorporate an estimated time-varying process for the world interest rate into a model of sovereign default calibrated to a panel of emerging economies. Time variation in the world interest rate interacts with default incentives in the model and leads to state contingent effects on borrowing and sovereign spreads which resemble those found in the data. The model delivers up to one-half of the positive comovement between the level and volatility of world interest rate and the level of sovereign spreads seen in emerging economies. Moreover, the model also delivers significant positive co-movements between the volatility of the spread and the process for the world interest rate which is also consistent with the data. Our model provides one potential source for the observed bunching in default probabilities observed across nations, namely the world interest rate process. Our model generates a positive and significant correlation (0.51) between the spreads of two nations with uncorrelated income processes. This is close to the observed mean correlation in the data (0.61).
    JEL: E32 E43 F34 F41
    Date: 2020–08
  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: Ken-ichi Hashimoto (Kobe University); Ryonghun Im (Kyoto University); Takuma Kunieda (Kwansei Gakuin University); Akihisa Shibata (Kyoto University)
    Abstract: A tractable model with infinitely lived agents is constructed for the examination of bubbles and unemployment. It is demonstrated that the presence of bubbles stimulates capital accumulation and reduces unemployment. The presence of bubbles also changes the effects of government policies that target unemployment and welfare conditions in the labor market. The main findings are as follows: (i) the presence of bubbles is more beneficial to an economy with severe credit constraints; (ii) the presence of bubbles mitigates the negative effects of taxation and unemployment benefits on unemployment and welfare; and (iii) these mitigation effects decrease as credit constraints are relaxed.
    Keywords: Asset bubbles, Unemployment, Labor-market matching frictions, Financial frictions
    JEL: J64 O41 O42
    Date: 2020–08
  19. By: Giovanni Gallipoli (Vancouver School of Economics, UBC); Hamish Low (University of Oxford); Aruni Mitra (European University Institute)
    Abstract: We characterize the joint evolution of cross-sectional inequality in earnings, other sources of income and consumption across generations in the U.S. To account for cross-sectional dispersion, we estimate a model of intergenerational persistence and separately identify the influences of parental factors and of idiosyncratic life-cycle components. We find evidence of family persistence in earnings, consumption and saving behaviours, and marital sorting patterns. However, the quantitative contribution of idiosyncratic heterogeneity to cross-sectional inequality is significantly larger than parental effects. Our estimates imply that intergenerational persistence is not high enough to induce further large increases in inequality over time and across generations.
    Keywords: income, Consumption, intergenerational persistence, Inequality
    JEL: D64 E21
    Date: 2020–08
  20. By: Serdar Birinci; Kurt See; Shu Lin Wee
    Abstract: Unemployment inflows have declined sharply since the 1980s while unemployment outflows have remained mostly steady despite a rise in workers' applications over time. Using a random search model of multiple applications with costly information, we show how rising applications incentivize more firms to acquire information, improving the realized distribution of match qualities. Higher concentrations of high productivity matches reduce the incidence of endogenous separations, causing unemployment inflow rates to fall. Quantitatively, our model replicates the relative change in inflow and outflow rates as well as the decline in acceptance rates, job offers and the rise in reservation wages.
    Keywords: Costly Information; Unemployment; Multiple Applications; Inflows; Outflows
    JEL: E24 J63 J64
    Date: 2020–08–07
  21. By: Kumhof, Michael (Bank of England); Rungcharoenkitkul, Phurichai (Bank for International Settlements); Sokol, Andrej (European Central Bank)
    Abstract: Understanding gross capital flows is increasingly viewed as crucial for both macroeconomic and financial stability policies, but theory is lagging behind many key policy debates. We fill this gap by developing a two-country DSGE model that tracks domestic and cross-border gross positions between banks and households, with explicit settlement of all transactions through banks. We formalise the conceptual distinction between cross-border saving and financing, which often move in opposite directions in response to shocks. This matters for at least four policy debates. First, current accounts are poor indicators of financial vulnerability, because in a crisis, creditors stop financing debt rather than current accounts, and because following a crisis, current accounts are not the primary channel through which balance sheets adjust. Second, we reinterpret the global saving glut hypothesis by arguing that US households do not finance current account deficits with foreigners’ physical saving, but with digital purchasing power, created by banks that are more likely to be domestic than foreign. Third, Triffin’s current account dilemma is not in fact a dilemma, because the creation of additional US dollars requires dollar credit creation by US and non-US banks rather than US current account deficits. Finally, we demonstrate that the observed high correlation of gross capital inflows and outflows is overwhelmingly an automatic consequence of double entry bookkeeping, rather than the result of two separate sets of economic decisions.
    Keywords: Bank lending; money creation; money demand; uncovered interest parity; exchange rate determination; international capital flows; gross capital flows
    JEL: E44 E51 F41 F44
    Date: 2020–08–21
  22. By: Corina Boar; Virgiliu Midrigan
    Abstract: We ask: what are the most efficient means of redistribution in an unequal society? We answer this question by characterizing the optimal shape of non-linear income and wealth taxes in a dynamic general equilibrium model with uninsurable idiosyncratic risk. Our analysis reproduces the distribution of income and wealth in the United States and explicitly takes into account the long-lived transition dynamics after policy reforms. We find that a uniform flat tax on capital and labor income combined with a lump-sum transfer is nearly optimal. Though taxing wealth and allowing for increasing marginal income tax schedules raises utilitarian welfare, the incremental gains from doing so are small. This result is robust to changing household preferences, the distribution of ability, the planner's preference for redistribution, as well as to explicitly modeling private business ownership and the ensuing heterogeneity in rates of return across financially constrained entrepreneurs.
    JEL: E2 E6 H2
    Date: 2020–07
  23. By: Xiaoshan Chen; Eric M. Leeper; Campbell B. Leith
    Abstract: We estimate a model in which fiscal and monetary policy behavior arise from the optimizing behavior of distinct policy authorities, with potentially different welfare functions. Optimal time-consistent policy behavior fits U.S. time series at least as well as rules-based behavior. American policies often do not conform to the conventional mix of conservative monetary policy and debt-stabilizing fiscal policy. Even after the Volcker disinflation, policies did not achieve that conventional mix, as fiscal policy did not act to stabilize debt until the mid 1990s. A credible conservative central bank that follows a time-consistent fiscal policy leader would come close to mimicking the cooperative Ramsey policy. Had that strategic policy mix been in place, American might have avoided the Great Inflation. Enhancing cooperation between policy makers without an ability to commit may be detrimental to welfare.
    JEL: E31 E32 E52 E61 E62 E63
    Date: 2020–07
  24. By: Paul Jackson (National University of Singapore); Victor Ortego-Marti (Department of Economics, University of California Riverside)
    Abstract: We integrate the SIR epidemiology model into a search and matching framework in which workers lose human capital during unemployment. As the number of infections rises, fewer jobs are created, the unemployment rate increases and the composition of skills among the unemployed deteriorates, thereby reducing TFP. We calibrate the model to quantify the effect of a three month lockdown on TFP through loss of skill during unemployment. Sixty-two weeks after the pandemic begins, TFP reaches its lowest value with a decline of 0.56%, which is nearly 50% of the productivity losses typically seen in recessions.
    Keywords: COVID-19; Skill loss; TFP; Search and matching; Unemployment; Pandemics
    JEL: E2
    Date: 2020–09
  25. By: Satyajit Chatterjee; Dean Corbae; Kyle P. Dempsey; José-Víctor Ríos-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.
    JEL: D82 E21
    Date: 2020–08
  26. By: Valerie A. Ramey
    Abstract: Can greater investment in infrastructure raise U.S. long-run output? Are infrastructure projects a good short-run stimulus to the economy? This paper uses insights from the macroeconomics literature to address these questions. I begin by analyzing the effects of government investment in both a stylized neoclassical model and a medium-scale New Keynesian model, highlighting the economic mechanisms that govern the strength of the short-run and long-run impacts. The analysis confirms earlier findings that the implementation delays inherent in infrastructure projects reduce short-run multipliers in most cases. In contrast, long-run multipliers can be sizable when government capital is productive. Moreover, these multipliers are greater if the economy starts from a point below the socially optimal amount of public capital. Turning to empirical estimation, I use the theoretical model to explain the econometric challenges to estimating the elasticity of output to public infrastructure. Using both artificial data generated by simulations of the model and extensions of existing empirical work, I demonstrate how both general equilibrium effects and optimal choice of public capital are likely to impart upward biases to output elasticity estimates. Finally, I review and extend some empirical estimates of the short-run effects, focusing on infrastructure spending in the ARRA.
    JEL: E62 H41 H54
    Date: 2020–07
  27. By: Matteo Bobba
    Abstract: We develop a search and matching model where firms and workers are allowed to form matches (jobs) that can be formal or informal. Workers optimally choose the level of schooling acquired before entering the labor market and whether searching for a job as unemployed or as self-employed. Firms optimally decide the formality status of the job and bargain with workers over wages. The resulting equilibrium size of the informal sector is an endogenous function of labor market parameters and institutions. We focus on an increasingly important institution: a “dual” social protection system whereby contributory benefits in the formal sector coexist with non-contributory benefits in the informal sector. We estimate preferences for the system - together with all the other structural parameters of the labor market -using labor force survey data from Mexico and the time-staggered entry across municipalities of a non-contributory social program. Policy experiments show that informality may be reduced by either increasing or decreasing the payroll tax rate in the formal sector. They also show that a universal social security benefit system would decrease informality, incentivize schooling, and increase productivity at a relative fiscal cost that is similar to the one generated by the current system.
    JEL: Q
    Date: 2018–09–27
  28. By: Jean-Bernard Chatelain (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); Kirsten Ralf (Ecole Supérieure du Commerce Extérieur - ESCE, INSEEC U. Research Center - International business school)
    Abstract: With non-controllable auto-regressive shocks, the welfare of Ramsey optimal policy is the solution of a single Riccati equation of a linear quadratic regulator. The existing theory by Hansen and Sargent (2007) refers to an additional Sylvester equation but miss another equation for computing the block matrix weighting the square of non-controllable variables in the welfare function. There is no need to simulate impulse response functions over a long period, to compute period loss functions and to sum their discounted value over this long period, as currently done so far. Welfare is computed for the case of the new-Keynesian Phillips curve with an auto-regressive cost-push shock. JEL classi…cation numbers: C61, C62, C73, E47, E52, E61, E63.
    Keywords: augmented linear quadratic regulator,forcing variables,algorithm,Stackelberg dynamic game,Ramsey optimal policy,new-Keynesian Phillips curve
    Date: 2020–06–24
  29. By: Tanaka, Yasuhito
    Abstract: We show the existence of involuntary unemployment based on consumers' utility maximization and firms' profit maximization behavior under monopolistic competition with increasing, decreasing or constant returns to scale technology using a three-periods overlapping generations (OLG) model with a childhood period as well as younger and older periods. We also analyze the effects of fiscal policy financed by tax and budget deficit (or seigniorage) to realize full-employment under a situation with involuntary unemployment. We show the following results. 1) In order to maintain the steady state where employment increases at some positive rate, we need a budget deficit. Therefore, we need budget deficit to realize full-employment from a state with involuntary unemployment (Proposition 1). 2) If the full-employment state is realized, we do not need budget deficit to maintain full-employment (Proposition 2). Additionally we present a game-theoretic interpretation of involuntary unemployment and full-employment.
    Keywords: Involuntary unemployment, Three-periods overlapping generations model, Monopolistic competition, Nash equilibrium
    JEL: E12 E24
    Date: 2020–08–19
  30. By: Nicola Fuchs-Schündeln (Goethe University Frankfurt); Dirk Krueger (University of Pennsylvania); Alexander Ludwig (SAFE, University of Mannheim); Irina Popova (Goethe University Frankfurt)
    Abstract: Using a structural life-cycle model, we quantify the long-term impact of school closures during the Corona crisis on children affected at different ages and coming from households with different parental characteristics. In the model, public investment through schooling is combined with parental time and resource investments in the production of child human capital at different stages in the children's development process. We quantitatively characterize both the long-term earnings consequences on children from a Covid-19 induced loss of schooling, as well as the associated welfare losses. Due to self-productivity in the human capital production function, skill attainment at a younger stage of the life cycle raises skill attainment at later stages, and thus younger children are hurt more by the school closures than older children. We find that parental reactions reduce the negative impact of the school closures, but do not fully offset it. The negative impact of the crisis on children's welfare is especially severe for those with parents with low educational attainment and low assets. The school closures themselves are primarily responsible for the negative impact of the Covid-19 shock on the long-run welfare of the children, with the pandemic-induced income shock to parents playing a secondary role.
    Keywords: COVID-19, school closures, Inequality, intergenerational persistence
    JEL: D31 E24 I24
    Date: 2020–08

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