nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2021‒01‒11
thirteen papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Fiscal DSGE Model for Latvia By Ginters Buss; Patrick Gruning
  2. Fiscal spending multipliers over the household leverage cycle By KLEIN, Mathias; POLATTIMUR, Hamza; WINKLER, Roland
  3. Wealth distribution and monetary policy By Ludmila Fadejeva; Zeynep Kantur
  4. Rare disasters, the natural interest rate and monetary policy. By Alessandro Cantelmo
  5. Taking off into the Wind: Unemployment Risk and State-Dependent Government Spending Multipliers By Julien ALBERTINI; Stéphane AURAY; Hafedh BOUAKEZ; Aurélien EYQUEM
  6. Revisiting the Hypothesis of High Discounts and High Unemployment By Paolo Martellini; Guido Menzio; Ludo Visschers
  7. TFPR: Dispersion and Cyclicality By Russell Cooper; Özgen Öztürk
  8. Prevention and mitigation of epidemics:Biodiversity conservation and confinement policies By Emmanuelle Augeraud-Véron; Giorgio Fabbri; Katheline Schubert
  9. Volatile Hiring: Uncertainty in Search and Matching Models By Den Haan, W.; Freund, L. B.; Rendahl, P.
  10. DYNIMO - Version III. A DSGE model of the Icelandic economy By Stefán Thórarinsson
  11. On the long-run fluctuations of inheritance in two-sector OLG models By Florian Pelgrin; Alain Venditti
  12. An Equilibrium Model for the Cross-Section of Liquidity Premia By Johannes Muhle-Karbe; Xiaofei Shi; Chen Yang
  13. The Costs of Mismatch By Richard Holt

  1. By: Ginters Buss (Latvijas Banka); Patrick Gruning (CEFER, Lietuvos Bankas)
    Abstract: We develop a fiscal dynamic stochastic general equilibrium (DSGE) model for policy simulation and scenario analysis purposes tailored to Latvia, a small open economy in a monetary union. The fiscal sector elements comprise government investment, government consumption, government transfers that are asymmetrically directed to both optimizing and hand-to-mouth households, cyclical unemployment benefits, foreign ownership of government debt, import content in public consumption and investment, and fiscal rules for each fiscal instrument. The model features a search-and-matching labour market friction with pro-cyclical labour costs, a financial accelerator mechanism, and import content in final goods. We estimate the model using Latvian data, study the new channels in the model, and provide a comprehensive analysis on the macroeconomic effects of the fiscal elements. A particular finding is that having foreign ownership of government debt generally breaks the Ricardian equivalence paradigm.
    Keywords: small open economy, fiscal policy, fiscal rules, Bayesian estimation
    JEL: E0 E2 E3 F4 H2 H3 H6
    Date: 2020–12–15
  2. By: KLEIN, Mathias; POLATTIMUR, Hamza; WINKLER, Roland
    Abstract: This paper investigates household leverage-dependent fiscal policy effects in a twoagent New Keynesian DSGE model with occasionally binding borrowing constraints. Our model successfully replicates empirical evidence showing that fiscal policy’s effectiveness differs significantly across the household leverage cycle. Fiscal multipliers are persistently above unity when government spending rises at the peak of the household leverage cycle. In contrast, increases in government spending at the trough of the household leverage cycle imply fiscal multipliers below unity. We test the model’s predictions on post-WWII U.S. data.
    Keywords: Occasionally Binding Constraints, Government Spending Multiplier, Household Leverage Cycle, State-Dependence
    JEL: E32 E44 E62 H31
    Date: 2020–11
  3. By: Ludmila Fadejeva (Bank of Latvia); Zeynep Kantur
    Abstract: We observe differences in the net wealth distribution by age among European countries. The net wealth distribution in Western EU countries is consistent with the life cycle hypothesis. However, in Eastern EU countries, the wealth distribution is skewed towards younger ages. The aim of the paper is twofold: first, we study the characteristics of economies leading to differences in the net wealth distribution by age; second, we evaluate the impact of these differences on the transmission of monetary policy. To do so, we develop a modified New Keynesian model where the demand side is represented by a multi-period overlapping generation setup, and the supply side of the economy follows the New Keynesian framework. The model is used to analyse the interaction between monetary policy and wealth accumulation originated by demographics and the productivity gap among generations in a coherent general equilibrium model. The HFCS database is used to calibrate the model for two groups of European countries. We find that the shape of net wealth distribution by age has an important bearing on the effectiveness and hence conduct of monetary policy.
    Keywords: overlapping generations model, New Keynesian model, wealth distribution, monetary policy
    JEL: E32 E52 J11
    Date: 2020–09–16
  4. By: Alessandro Cantelmo (Bank of Italy)
    Abstract: This paper evaluates the impact of rare disasters on the natural interest rate and macroeconomic conditions by simulating a nonlinear New-Keynesian model. The model is calibrated using data on natural disasters in OECD countries. From an ex-ante perspective, disaster risk behaves as a negative demand shock and lowers the natural rate and inflation, even if disasters hit only the supply side of the economy. These effects become larger and nonlinear if extreme natural disasters become more frequent, a scenario compatible with climate change projections. From an ex-post perspective, a disaster realization leads to temporarily higher natural rate and inflation if supply-side effects prevail. If agents' risk aversion increases temporarily, disasters may generate larger demand effects and lead to a lower natural rate and inflation. If supply-side effects dominate, the central bank could mitigate output losses at the cost of temporarily higher inflation in the short run. Conversely, under strict inflation targeting, inflation is stabilized at the cost of larger output losses.
    Keywords: rare disasters, natural disasters, natural interest rate, climate change, DSGE, monetary policy
    JEL: E4 E5
    Date: 2020–12
  5. By: Julien ALBERTINI (Univ Lyon, Université Lumière Lyon 2, GATE UMR 5824, F-69130 Ecully, France); Stéphane AURAY (CREST-ENSAI and ULCO); Hafedh BOUAKEZ (Department of Applied Economics and CIREQ, HEC Montréal, 3000 chemin de la Côte-Sainte-Catherine,Montréal, Québec, Canada H3T 2A7); Aurélien EYQUEM (Univ Lyon, Université Lumière Lyon 2, GATE UMR 5824, F-69130 Ecully, France, and Institut Universitaire de France)
    Abstract: We propose a model within voluntary unemployment, incomplete markets, and nominal rigidity, in which the effects of government spending are state-dependent. An increase in government purchases raises aggregate demand, tightens the labor market and reduces unemployment. This in turn lowers unemployment risk and thus precautionary saving, leading to a larger response of private consumption than in a model with perfect insurance. The output multiplier is further amplified through a composition effect, as the fraction of high-consumption households in total population increases in response to the spending shock. These features, along with the matching frictions in the labor market, generate significantly larger multipliers in recessions than in expansions. As the pool of jobseekers is larger during down turns than during expansions, the concavity of the job-finding probability with respect to market tightness implies that an increase in government spending reduces unemployment risk more in the former case than in the latter, giving rise to counter cyclical multipliers.
    Keywords: Government spending, Multipliers, Precautionary saving, State dependence, Unemployment risk.
    JEL: D52 E21 E62
    Date: 2020–03–03
  6. By: Paolo Martellini; Guido Menzio; Ludo Visschers
    Abstract: We revisit the hypothesis that cyclical fluctuations in unemployment are caused by shocks to the discount rate. We use a rich search-theoretic model of the labor market in which the UE, EU and EE rates are all endogenous. Analytically, we show that an increase in the discount rate lowers the UE rate and, under some natural conditions, it lowers the EU rate. Quantitatively, we show that an increase in the discount rate from 4 to 10% generates a 3.5% decline in the UE rate and a 6% decline in the EU rate. The response of the unemployment rate is minuscule. These findings are at odds with the actual behavior of the US labor market over the business cycle, which features a negative comovement between the UE and EU rates and large unemployment fluctuations. We show that aggregate productivity shocks generate the correct comovement between the UE and EU rates, as well as large unemployment fluctuations.
    Keywords: Unemployment Fluctuations, Discount Rate, Human Capital, Lifecycle Earnings
    JEL: E24 J63 J64
    Date: 2020–06
  7. By: Russell Cooper; Özgen Öztürk
    Abstract: This paper studies the determinants of TFPR, a revenue based measure of total factor productivity. Recent business cycle models are built upon the countercyclical dispersion of TFPR. But, the distribution of TFPR is endogenous, dependent upon other exogenous shocks and the endogenous determination of prices. This paper studies the determination the distribution of TFPR is an overlapping generations model with monopolistic competition and state dependent pricing. Changes in the mean and the dispersion of a quantity based measure of total factor productivity, TFPQ, and monetary shocks are analyzed as exogenous variations that influence the distribution of TFPR. None of these shocks alone can generate countercyclical dispersion in TFPR and match observed countercyclical dispersion in price changes and countercyclical movements in the frequency of price changes. Large enough shocks to the dispersion in TFPQ along with an appropriately responsive monetary policy can match these facts. But the required monetary feedback does not reproduce the positive correlation between money innovations and the dispersion in TFPR seen in the data. In this framework, uncertainty per se plays a very limited role.
    JEL: E31 E32 L11
    Date: 2020–12
  8. By: Emmanuelle Augeraud-Véron (GREThA - Groupe de Recherche en Economie Théorique et Appliquée - UB - Université de Bordeaux - CNRS - Centre National de la Recherche Scientifique); Giorgio Fabbri (GAEL - Laboratoire d'Economie Appliquée de Grenoble - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement - Grenoble INP - Institut polytechnique de Grenoble - Grenoble Institute of Technology - UGA - Université Grenoble Alpes - CNRS - Centre National de la Recherche Scientifique - UGA - Université Grenoble Alpes); Katheline Schubert (PSE - Paris School of Economics)
    Abstract: This paper presents a first model integrating the relation between biodiversity loss and zoonotic pandemic risks in a general equilibrium dynamic economic set-up. The occurrence of pandemics is modeled as Poissonian leaps in economic variables. The planner can intervene in the economic and epidemiological dynamics in two ways: first (prevention), by deciding to conserve a greater quantity of biodiversity to decrease the probability of a pandemic occurring, and second (mitigation), by reducing the death toll through a lockdown policy, with the collateral effect of affecting negatively labor productivity. The policy is evaluated using a social welfare function embodying society's risk aversion, aversion to fluctuations, degree of impatience and altruism towards future generations. The model is explicitly solved and the optimal policy described. The dependence of the optimal policy on natural, productivity and preference parameters is discussed. In particular the optimal lockdown is more severe in societies valuing more human life, and the optimal biodiversity conservation is larger for more ``forward looking'' societies, with a small discount rate and a high degree of altruism towards future generations. Moreover, societies accepting a large welfare loss to mitigate the pandemics are also societies doing a lot of prevention. After calibrating the model with COVID-19 pandemic data we compare the mitigation efforts predicted by the model with those of the recent literature and we study the optimal prevention- mitigation policy mix.
    Keywords: Biodiversity,Covid-19,Prevention,Mitigation,Epidemics,Poisson Processes,Recursive Preferences
    Date: 2020–10
  9. By: Den Haan, W.; Freund, L. B.; Rendahl, P.
    Abstract: In search-and-matching models, the nonlinear nature of search frictions increases average unemployment rates during periods with higher volatility. These frictions are not, however, by themselves sufficient to raise unemployment following an increase in perceived uncertainty; though they may do so in conjunction with the common assumption of wages being determined by Nash bargaining. Importantly, option-value considerations play no role in the standard model with free entry. In contrast, when the mass of entrepreneurs is finite and there is heterogeneity in firm-specific productivity, a rise in perceived uncertainty robustly increases the option value of waiting and reduces job creation.
    Keywords: Uncertainty, search frictions, unemployment, option value
    JEL: E24 E32 J64
    Date: 2020–12–18
  10. By: Stefán Thórarinsson
    Abstract: This handbook describes the third version of DYNIMO, the Central Bank of Iceland’s dynamic stochastic general equilibrium model. Derivations from first principles to final equations are presented. In addition, the more advanced mathematical tools needed for the derivations are stated and their validity motivated. Subsequently, we estimate the model on Icelandic data over the period 2011Q1-2019Q4. Finally, evaluation of the model’s properties is performed.
    JEL: C32 C51 F41
    Date: 2020–12
  11. By: Florian Pelgrin (EDHEC Business School); Alain Venditti (Aix-Marseille Univ., CNRS, AMSE and EDHEC Business School)
    Abstract: This paper provides a long-run cycle perspective to explain the behavior of the annual flow of inheritance as identified by Piketty [51] for France and Atkinson [3] for the UK. Using a two-sector Barro-type [9] OLG model with non-separable preferences and bequests, we show that endogenous fluctuations are likely to occur through period-2 cycles or Hopf bifurcations. Two key mechanisms, which can generate independently or together quasi-periodic cycles, can be identified as long as agents are sufficiently impatient. The first mechanism relies on the elasticity of intertemporal substitution or equivalently the sign of the cross-derivative of the utility function whereas the second rests on sectoral technologies through the sign of the capital intensity difference across two sectors. Furthermore, building on the quasi-palindromic nature of the degree-4 characteristic equation, we derive some meaningful sufficient conditions associated to the occurrence of complex roots in a two-sector OLG model. Finally, we show that our theoretical results are consistent with some empirical evidence for medium- and long-run swings in the inheritance flows as a fraction of national income in France over the period 1896-2008.
    Keywords: two-sector overlapping generations model, optimal growth, endogenous fluctuations, quasi-palindromic polynomial, periodic and quasi-periodic cycles, altruism, bequest
    JEL: C62 E32 O41
    Date: 2020–12
  12. By: Johannes Muhle-Karbe; Xiaofei Shi; Chen Yang
    Abstract: We study a risk-sharing economy where an arbitrary number of heterogenous agents trades an arbitrary number of risky assets subject to quadratic transaction costs. For linear state dynamics, the forward-backward stochastic differential equations characterizing equilibrium asset prices and trading strategies in this context reduce to a system of matrix-valued Riccati equations. We prove the existence of a unique global solution and provide explicit asymptotic expansions that allow us to approximate the corresponding equilibrium for small transaction costs. These tractable approximation formulas make it feasible to calibrate the model to time series of prices and trading volume, and to study the cross-section of liquidity premia earned by assets with higher and lower trading costs. This is illustrated by an empirical case study.
    Date: 2020–11
  13. By: Richard Holt
    Abstract: I calibrate a model of vertical skill mismatch to US data and demonstrate that both high-skilled workers and low-skilled workers prefer mismatch to segmentation in a decentralised environment. Using this framework, I provide estimates of the output costs of skill-mismatch with reference to a natural benchmark - a labour market in which search is fully segmented by skill. Surprisingly, I find that, despite misallocation (due to highskilled workers undertaking low-complexity tasks), mismatch raises net output by around 7:5%. I show that mismatch is particularly beneficial for low-skilled workers and argue that a key mechanism underlying these net benefits is the (endogenous) response of job creation to the expanded pool of searchers under mismatch. These results call into question the view that mismatch should be seen as a form of misallocation that has deleterious effects on productivity.
    Keywords: -
    Date: 2020–12

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