nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2020‒12‒14
sixteen papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Complementaries and Tensions between Monetary and Macroprudential Policies in an Estimated DSGE Model (Application to Slovenia) By Lenarčič, Črt
  2. The neoclassical model and the welfare costs of selection By Fabrice Collard; Omar Licandro
  3. Policy effects of international taxation on firm dynamics and capital structure By Adam Hal Spencer
  4. On the Purchasing Power of Money in an Exchange Economy By Radwanski, Juliusz
  5. Switching-track after the Great Recession By Francesca Vinci; Omar Licandro
  6. The Stabilizing Effects of Economic Policies in Spain in Times of COVID-19 By José E. Boscá; Rafael Doménech; Javier Ferri; José R. García; Camilo Ulloa
  7. Impact of fiscal measures in response to the COVID-19 pandemic on small-open economies: lessons from Slovenia By Arigoni, Filippo; Breznikar, Miha; Lenarčič, Črt; Maletič, Matjaž
  8. Sudden Stops, Productivity and the Optimal Level of International Reserves for Small Open Economies By Alexander Mihailov; Harun Nasir
  9. Sovereign Capital, External Balance, and the Investment-Based Balassa-Samuelson Effect in a Global Dynamic Equilibrium By Alexis Derviz
  10. De-globalisation, welfare state reforms and labour market outcomes By Hassan Molana; Catia Montagna; George E. Onwordi
  11. The Role of Credit on the Evolution of Wealth Inequality in the USA By Oviedo Moguel Rodolfo
  12. Job Stability, Earnings Dynamics, and Life-Cycle Savings By Kuhn, Moritz; Ploj, Gasper
  13. Federal Unemployment Reinsurance and Local Labor-Market Policies By Ignaszak, Marek; Jung, Philip; Kuester, Keith
  14. The emergence of money: a dynamic analysis By Maurizio Iacopetta
  15. Twin peaks: COVID-19 and the labour market By Jake Bradley; Alessandro Ruggieri; Adam Spencer
  16. Preference Heterogeneity and Optimal Monetary Policy By Uras, Burak; van Buggenum, Hugo

  1. By: Lenarčič, Črt
    Abstract: Recent financial crisis has shown that the prior belief that the active monetary policy in pursuing price stability may not be sufficient enough to maintain financial stability as well as macroeconomic stability in an economy. Introducing a new economic policy, the macroprudential policy gave space to a complete new sphere of a�ecting an economy through a policy maker's perspective. Constructing a dynamic stochastic general equilibrium model, which incorporates a banking sector block, enables us to study the effects of financial frictions on the real economy. Taking the case of Slovenia, the simulation results show that taking into account the interplay between the monetary and macroprudential policies in a form of financial shocks matter in the economy.
    Keywords: monetary policy, macroprudential policy, DSGE model, banking sector
    JEL: E30 E32 E52
    Date: 2019–07
  2. By: Fabrice Collard; Omar Licandro
    Abstract: This paper embeds firm dynamics into the Neoclassical model and provides a simple framework to evaluate the welfare cost of selection in the transition to steady state. As in the Neoclassical model, markets are perfectly competitive, there is only one good and two production factors (capital and labor). At equilibrium, aggregate technology is Neoclassical, but the average quality of capital and the depreciation rate are both endogenous and positively related to selection. At steady state, output per capita and welfare both raise with selection. However, initial capital destruction due to selection generates transitional welfare losses that may reduce in around 85% long term welfare gains. The same property is shown to be true in a standard general equilibrium model with entry and fixed production costs.
    Keywords: Firm dynamics, Entry and exit, Selection, Neoclassical model, Ramsey, Hopenhayn, Scrapping, Capital irreversibility, Investment distortions, Transitional dynamics, Welfare gains
    Date: 2020
  3. By: Adam Hal Spencer
    Abstract: This paper develops a quantitative open economy framework with dynamics, firm heterogeneity and financial frictions to study the impact of corporate tax reforms targeted at multinationals. The model quantities their impact on productivity, GDP and welfare. Firms draw idiosyncratic shocks, invest in capital, choose optimal financing and select endogenously into servicing an overseas market, either through exporting or FDI. I apply this framework to the removal of the U.S. repatriation tax, an aspect of the Tax Cuts and Jobs Act. The reform's impact trades-off two selection effects more offshoring versus greater business dynamism from increased proftability. The reform leads to higher U.S. welfare and revenue neutrality. A series of exercises illustrate that the novel features of this framework have signifcant quantitative implications. The reform's beneficial effects are mitigated considerably when financial frictions are removed and it appears to be welfare reducing when using a static analogue of the model.
    Keywords: Dynamics, Financial Frictions, Productivity, Corporate Tax, Firm Heterogeneity, FDI, Repatriation Tax
    Date: 2020
  4. By: Radwanski, Juliusz
    Abstract: A model is constructed in which completely unbacked fiat money, issued by generic supplier implementing realistically specified monetary policy designed to obey certain sufficient conditions, is endogenously accepted by rational individuals at uniquely determined price level. The model generalizes Lucas (1978) to an economy with frictions and specialization in production, without imposing the cash-in-advance constraint. The uniqueness of equilibrium is the consequence of complete characterization of both the environment, and the equilibrium concept. The results challenge the doctrine that equilibria of monetary economies are inherently indeterminate, and that money can become worthless only due to self-fulfilling expectations. The paper shows that monetary policy canonically features two dimensions, one of which corresponds to nominal interest rate, and the other to continuous helicopter drop of net worth, which in the model takes the form of universal basic income.
    Keywords: fiat money, monetary policy, Hahn problem, price level, inflation, sunspots, helicopter drop, universal basic income
    JEL: E10 E31 E41 E51 E52 E58 G12 G21
    Date: 2020–11–19
  5. By: Francesca Vinci; Omar Licandro
    Abstract: Data suggests that the level of GDP shifted to a permanently lower trend following the Great Recession for most advanced countries, and researchers have not yet reached a consensus concerning the drivers of this phenomenon. We contribute to this literature by suggesting a DSGE model with financial frictions and endogenous growth through learning-by-doing. With an aggregate AK technology, a negative shock to the capital stock has the effect of moving the economy to a lower trend. A Taylor rule policy designed to reduce the output gap may counterbalance the shock, bringing the economy back to the past trend. However, when the recession is deep and persistent and the ZLB binds, a revision of potential output measures may weaken the recovering role of monetary policy, making the economy converge to a lower trend. We calibrate the model to the U.S. economy and find that GDP can fully recover from a textbook TFP shock under a standard Taylor rule, whilst large demand shocks can affect the supply side permanently. Our framework is thus consistent with episodes of economic recovery as well as episodes of no-recovery. Results rely on the observation that the measurement of U.S. potential output switched track as the Great Recession unfolded, because the severe and prolonged slump put downward pressure on estimates. As a consequence, the output gap closed following the switching-track of potential output, rather than faster GDP growth.
    Keywords: Great Recession, Economic Recovery, Endogenous Growth, Hysteresis, Trend Shift, Switching-track
    Date: 2020
  6. By: José E. Boscá; Rafael Doménech; Javier Ferri; José R. García; Camilo Ulloa
    Abstract: In this article we analyse the stabilizing role of economic policies during the COVID-19 crisis in Spain. First, we estimate the contribution of the structural shocks that explain the behaviour of the main macroeconomic aggregates during 2020, using a DSGE model estimated for the Spanish economy. Our results highlight the importance of supply and demand shocks in explaining the COVID-19 crisis. Second, we have simulated a counterfactual scenario for GDP in absence of the COVID-19 economic policy measures. According to our results, the annual fall in GDP moderates at least by 7.6 points in the most intense period of the crisis, thanks to these stabilizing policies. Finally, we have estimated the potential effects of Next Generation EU in the Spanish economy. Assuming that Spain may receive from the EU between 1.5 and 2.25 percentage points of GDP in grants and loans from 2021 to 2024, to finance mainly public investment, GDP could increase between 2 and 3 pp in 2024. All these results show the usefulness of a DSGE model like EREMS, as a practical tool for the applied economic analysis and understanding of the Spanish economy.
    Date: 2020–12
  7. By: Arigoni, Filippo; Breznikar, Miha; Lenarčič, Črt; Maletič, Matjaž
    Abstract: We estimate the impact of the fiscal expansion due to the COVID-19 outbreak on the Slovene economy using two models. First, we simulate fiscal shocks in 3-scenarios in a calibrated large-scale DSGE model. Second, we employ a small-scale VAR model to check the robustness of the theoretical results. The findings suggest a significant response of GDP, private consumption, and imports to fiscal shocks. In particular, the outcomes highlight that compared to other unanticipated fiscal developments a government consumption shock explains the lion's share of domestic fluctuations. The main transmission channel is high complementarity between private and government consumption.
    Keywords: Fiscal shocks, Fiscal multipliers, DSGE model, VAR model.
    JEL: C32 E32 E62
    Date: 2020–12–02
  8. By: Alexander Mihailov (Department of Economics, University of Reading); Harun Nasir (Department of Economics, Zonguldak Bülent Ecevit University)
    Abstract: This paper contributes to the theory of optimal international reserves by extending the Jeanne and Rancière (2011) endowments mall open economy (SOE) model to a SOE with capital and production that explicitly accounts for the main sources of economic growth. A first version of our set-up considers capital as the sole factor of production in the spirit of the AK model of endogenous growth with constant population, implying increasing returns to scale and justified on the grounds of its ability to generate sustained long-run growth, as observed empirically. Under a plausible calibration for typical emerging market countries facing the risk of sudden stops in capital inflows, we find that the optimal ratio of international reserves to output is 1.7%, which is quite lower than that in Jeanne and Rancière (2011), of 9.1%, even if calibrated to the same sample of 34 middle-income countries. A richer version then introduces also labour as a second factor in a conventional labour- augmenting Cobb-Douglas production function with constant returns to scale and exogenous population growth, consistent with a long-run balanced growth path and the sustained per capita income growth in the data. Under this alternative technology and the same calibration, we similarly find that the optimal reserves-to-output ratio for emerging market SOEs decreases - but not as much, being 5.5% - relative to the endowment case. We conclude that our results are explained by the role of capital accumulation as precautionary saving: the accumulated capital stock can potentially be used as a pledge to external creditors in obtaining borrowing, therefore insuring better a SOE against sudden stops.
    Keywords: optimal international reserves, small open economies, sudden stops,production technology, capital accumulation, precautionary saving, insurance contracts
    JEL: E21 E23 F32 F34 F41 O40
    Date: 2020–12–03
  9. By: Alexis Derviz
    Abstract: We develop a two-country dynamic optimization model with investment and labor mobility and calculate its full-distribution Markov solution without relying on non-stochastic steady-state shortcuts. Agents have access to so-called sovereign capital (an extension of the inside equity notion) as well as the usual outside equity in their own country, but only to outside equity in the other country. This friction creates two distinct categories of partially non-tradable investment goods. Their price ratio can be viewed as an analogue of the real exchange rate in the Balassa-Samuelson model, but with consumption goods replaced by assets. In equilibrium, this asset-based real exchange rate is more sensitive to the stock ownership split between residents and non-residents in each country's production capacity than to the ratio of national physical capital stocks. In a similar model without sovereign capital exclusivity, the order of the sensitivity is reversed. Along with the real exchange rate, we also analyze equilibrium net investment positions and financial account levels as functions of the physical capital ratio and the stock ownership splits. This allows us, in the dynamic equilibrium environment modeled, to point at the underlying regularities behind the seemingly irregular interplay between the external balance and the exchange rate.
    Keywords: Capital, dynamic optimization, real exchange rate, sovereignty, tradability
    JEL: C61 C63 F36 F41 F65
    Date: 2020–11
  10. By: Hassan Molana; Catia Montagna; George E. Onwordi
    Abstract: Within an open economy framework characterised by vertical linkages in production and search frictions and two-sided heterogeneity in the labour market, raising trade barriers is shown to increase unemployment across skill levels, and to reduce labour market participation and aggregate income. These effects are not necessarily moderated by maintaining frictionless mobility of capital across borders. We find that a flexicurity reform of a liberal welfare state can dampen the adverse effects of de-globalisation.
    Keywords: Flexicurity; Welfare State; Globalisation; Participation; Unemployment.
    Date: 2020
  11. By: Oviedo Moguel Rodolfo
    Abstract: In the USA, the share of household wealth held by the richest 1% increased from 23.5% in 1980 to 41.8% in 2012. This paper contributes to understanding the causes behind this increase. First, using an accounting decomposition, I show that more than half of the increase in the share of the top 1% can be attributed to a decrease in the saving rate of the bottom 99%. Second, using a heterogeneous agent model, I show that the decrease in the saving rate of the bottom groups cannot be rationalized by the reduction in the progressively of taxation or changes in the volatility and concentration of labor earnings. Lastly, I introduce a shock to the credit market into the model in the form of loosening the borrowing constraints of the economy. This shock can simultaneously match the increase in wealth concentration and the decrease of the saving rate of the economy.
    JEL: D14 D31 D33 E21 E62 G51
    Date: 2020–11
  12. By: Kuhn, Moritz (University of Bonn); Ploj, Gasper (University of Bonn)
    Abstract: Labor markets are characterized by large heterogeneity in job stability. Some workers hold lifetime jobs, whereas others cycle repeatedly in and out of employment. This paper explores the economic consequences of such heterogeneity. Using Survey of Consumer Finances (SCF) data, we document a systematic positive relationship between job stability and wealth accumulation. Per dollar of income, workers with more stable careers hold more wealth. We also develop a life-cycle consumption-saving model with heterogeneity in job stability that is jointly consistent with empirical labor market mobility, earnings, consumption, and wealth dynamics. Using the structural model, we explore the consequences of heterogeneity in job stability at the individual and macroeconomic level. At the individual level, we find that a bad start to the labor market leaves long-lasting scars. The income and consumption level for a worker who starts working life from an unstable job is, even 25 years later, 5 percent lower than that of a worker who starts with a stable job. For the macroeconomy, we find welfare gains of 1.6 percent of lifetime consumption for labor market entrants from a secular decline in U.S. labor market dynamism.
    Keywords: employment risk, job stability, consumption-saving behavior
    JEL: J64 E21 E24
    Date: 2020–11
  13. By: Ignaszak, Marek (Goethe University Frankfurt); Jung, Philip (TU Dortmund); Kuester, Keith (University of Bonn)
    Abstract: Consider a union of atomistic member states, each faced with idiosyncratic business-cycle shocks. Private cross-border risk-sharing is limited, giving a role to a federal unemployment-based transfer scheme. Member states control local labor-market policies, giving rise to a trade-off between moral hazard and insurance. Calibrating the economy to a stylized European Monetary Union, we find notable welfare gains if the federal scheme's payouts take the member states' past unemployment level as a reference point. Member states' control over policies other than unemployment benefits can limit generosity during the transition phase.
    Keywords: unemployment reinsurance, labor-market policy, fiscal federalism, search and matching
    JEL: E32 E24 E62
    Date: 2020–11
  14. By: Maurizio Iacopetta (Observatoire français des conjonctures économiques)
    Abstract: This paper studies the role of liquidity in triggering the emergence of money in a Kiyotaki-Wright economy. A novel method computes the dynamic Nash equilibria of the economy by setting up an iteration of the agents' profile of (pure) strategies and of the distribution of commodities across agents. The analysis shows that the evolving state of liquidity can spark the acceptance of a high-cost-storage commodity as money or cause the disappearance of a commodity money. It also reveals the existence of multiple dynamic equilibria with pure strategies. Several simulations clarify how history and the coordination of beliefs matter for the selection of a particular equilibrium.
    Keywords: Money; Strategies; Simulations
    Date: 2019–10
  15. By: Jake Bradley; Alessandro Ruggieri; Adam Spencer
    Abstract: This paper develops a choice-theoretic equilibrium model of the laboUr market in the presence of a pandemic. It includes heterogeneity in productivity, age and the ability to work at home. Worker and firm behaviour changes in the presence of the virus, which itself has equilibrium consequences for the infection rate. The model is calibrated to the UK and counterfactual lockdown measures are evaluated. We find a different response in both the evolution of the virus and the labour market with different degrees of severity of lockdown. We use these insights to make a laboor market policy prescription to be used in conjunction with lockdown measures. Finally we find that, while the pandemicand ensuing policies impact the majority of the population negatively, consistent with recent studies, the costs are not borne equally. While the elderly face the highest health risks, it is the young low wage workers who suffer the most income and employment risk.
    Keywords: COVID-19; pandemic, labour market, worker and firm behavour
    Date: 2020
  16. By: Uras, Burak (Tilburg University, School of Economics and Management); van Buggenum, Hugo (Tilburg University, School of Economics and Management)
    Date: 2020

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