nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2021‒05‒31
twenty papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. A Quantitative Model for the Integrated Policy Framework By Adrian, Tobias; Erceg, Christopher J.; Lindé, Jesper; Zabczyk, Pawel; Zhou, Jianping
  2. Liquidity Traps in a Monetary Union By Kollmann, Robert
  3. Financial Frictions: Macro vs Micro Volatility By Lee, Seungcheol; Luetticke, Ralph; Ravn, Morten O
  4. Estimating DSGE Models: Recent Advances and Future Challenges By Fernández-Villaverde, Jesús; Guerron-Quintana, Pablo A.
  5. The Macroeconomic Effects of a Carbon Tax to Meet the U.S. Paris Agreement Target: The Role of Firm Creation and Technology Adoption By Shapiro Finkelstein, Alan; Metcalf, Gilbert E.
  6. This Time It's Different: The Role of Women's Employment in a Pandemic Recession By Alon, Titan; Doepke, Matthias; Olmstead-Rumsey, Jane; Tertilt, Michèle
  7. The Long-Term Distributional and Welfare Effects of Covid-19 School Closures By Fuchs-Schündeln, Nicola; Krueger, Dirk; Ludwig, Alexander; Popova, Irina
  8. (Mis)Allocation Effects of an Overpaid Public Sector By Cavalcanti, Tiago; Dos Santos, Marcelo
  9. Expectations, Stagnation and Fiscal Policy: a Nonlinear Analysis By Evans, George W.; Honkapohja, Seppo; Mitra, Kaushik
  10. Uncertainty, Misallocation and the Life-cycle Growth of Firms By Eero Mäkynen; Oskari Vähämaa
  11. Italy in the Eurozone By Keuschnigg, Christian; Kirschner, Linda; Kogler, Michael; Winterberg, Hannah
  12. The Economic Outcomes of an Ethnic Minority: the Role of Barriers By Kasir (Kaliner), Nitsa; Yashiv, Eran
  13. Stock prices and monetary policy in Japan: An analysis of a Bayesian DSGE model By Satoshi Hoshino; Daisuke Ida
  14. Capital-Skill Complementarity and Inequality: Twenty Years After By Maliar, Lilia; Maliar, Serguei; Tsener, Inna
  15. Aging and Automation in Economies with Search Frictions By Zhang, Xiaomeng; Palivos, Theodore; Liu, Xiangbo
  16. Stabilization vs. Redistribution: the Optimal Monetary-Fiscal Mix By Bilbiie, Florin Ovidiu; Monacelli, Tommaso
  17. Corporate taxes, investment and the self-financing rate. The effect of location decisions and exports By Thomas von Brasch; Ivan Frankovic; Eero Tölö
  18. Economic Growth through Worker Reallocation: The Role of Knowledge Spillovers By Eero Mäkynen
  19. Investor Sophistication and Portfolio Dynamics By Buss, Adrian; Uppal, Raman; Vilkov, Grigory
  20. Why Do Couples and Singles Save During Retirement? By Mariacristina De Nardi; Eric French; John Bailey Jones; Rory McGee

  1. By: Adrian, Tobias; Erceg, Christopher J.; Lindé, Jesper; Zabczyk, Pawel; Zhou, Jianping
    Abstract: Many central banks have relied on a range of policy tools, including foreign exchange intervention (FXI) and capital flow management tools (CFMs), to mitigate the effects of volatile capital flows on their economies. We develop an empirically-oriented New Keynesian model to evaluate and quantify how using multiple policy tools can potentially improve monetary policy tradeoffs. Our model embeds nonlinear balance sheet channels and includes a range of empirically-relevant frictions. We show that FXI and CFMs may improve policy tradeoffs under certain conditions, especially for economies with less well-anchored inflation expectations, substantial foreign currency mismatch, and that are more vulnerable to shocks likely to induce capital outflows and exchange rate pressures.
    Keywords: Capital Flow Measures; DSGE model; emerging economies; FX intervention; monetary policy
    JEL: C54 E52 E58 F41
    Date: 2020–07
  2. By: Kollmann, Robert
    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: Euro Area; international fiscal spillovers; liquidity trap; monetary union; terms of trade; zero lower bound
    JEL: E3 E4 F2 F3 F4
    Date: 2020–08
  3. By: Lee, Seungcheol; Luetticke, Ralph; Ravn, Morten O
    Abstract: We examine the impact of frictional financial intermediation in a HANK model. An incentive problem restricts banking sector leverage and gives rise to an equilibrium spread between the returns on savings and debt. The size of this spread impacts on the wealth distribution and movements in it subject borrowers and savers to different intertemporal prices. The model generates a financial accelerator that is larger than in a representative agent setting, derives mainly from consumption rather than investment, and works through a countercyclical interest rate spread. Credit policy can mute this mechanism while stricter regulation of banking sector leverage inhibits households' ability to smooth consumption in response to idiosyncratic risk. Thus, although leverage restrictions stabilize at the aggregate level, we find substantial welfare costs.
    Keywords: business cycles; Financial Frictions; incomplete markets; macroprudential policy; monetary policy
    JEL: C11 D31 E32 E63
    Date: 2020–08
  4. By: Fernández-Villaverde, Jesús; Guerron-Quintana, Pablo A.
    Abstract: We review the current state of the estimation of DSGE models. After introducing a general framework for dealing with DSGE models, the state-space representation, we discuss how to evaluate moments or the likelihood function implied by such a structure. We discuss, in varying degrees of detail, recent advances in the field, such as the tempered particle filter, approximated Bayesian computation, the Hamiltonian Monte Carlo, variational inference, and machine learning, methods that show much promise, but that have not been fully explored yet by the DSGE community. We conclude by outlining three future challenges for this line of research.
    Keywords: Bayesian methods; DSGE models; estimation; MCMC; Variational Inference
    JEL: C11 C13 E30
    Date: 2020–08
  5. By: Shapiro Finkelstein, Alan; Metcalf, Gilbert E.
    Abstract: We analyze the quantitative labor market and aggregate effects of a carbon tax in a framework with pollution externalities and equilibrium unemployment. Our model incorporates endogenous labor force participation and two margins of adjustment influenced by carbon taxes: firm creation and green production-technology adoption. A carbon-tax policy that reduces carbon emissions by 35 percent - roughly the emissions reductions that will be required under the Biden Administration's new commitment under the Paris Agreement - and transfers the tax revenue to households generates mild positive long-run effects on consumption and output; a marginal increase in the unemployment and labor force participation rates; and an expansion in the number and fraction of firms that use green technologies. In the short term, the adjustment to higher carbon taxes is accompanied by gradual gains in output and consumption and a negligible expansion in unemployment. Critically, abstracting from endogenous firm entry and green-technology adoption implies that the same policy has substantial adverse short- and long-term effects on labor income, consumption, and output. Our findings highlight the importance of these margins for a comprehensive assessment of the labor market and aggregate effects of carbon taxes.
    Keywords: Environmental Economics and Policy
    Date: 2021–05–26
  6. By: Alon, Titan; Doepke, Matthias; Olmstead-Rumsey, Jane; Tertilt, Michèle
    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: Business cycle; childcare; COVID-19; Gender equality; gender wage gap; Pandemics; Recessions; School Closures
    JEL: D13 E32 J16 J20
    Date: 2020–08
  7. By: Fuchs-Schündeln, Nicola; Krueger, Dirk; Ludwig, Alexander; Popova, Irina
    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; inequality; Intergenerational Persistence; School Closures
    Date: 2020–08
  8. By: Cavalcanti, Tiago; Dos Santos, Marcelo
    Abstract: There is a large body of evidence showing that for many countries the structure of wages and pensions and the labor law legislation are different for public and private employees. Such differences affect the occupational choice of agents and might generate some type of misallocation. We develop a life-cycle model with endogenous occupational choice and heterogeneous agents to study the implications of an overpaid public sector. The model is estimated to be consistent with micro and macro evidence for Brazil, a country with a high public sector earnings premium. Our counterfactual exercises demonstrate that public-private earnings premium can generate important allocation effects and sizeable productivity losses. For instance, a reform that would decrease the public-private wage premium from its benchmark value of 19% to $15 and would align the pension of public sector workers with the one in place for private sector workers could increase aggregate output by 11.2% in the long-run without any decrease in the supply of public infrastructure. We provide a decomposition of the aggregate effect into changes in factors accumulation and changes in TFP and implement a welfare distributive analysis.
    Keywords: and development; Misallocation; Public Private earnings premium
    JEL: E6 H3 J2 O1
    Date: 2020–08
  9. By: Evans, George W.; Honkapohja, Seppo; Mitra, Kaushik
    Abstract: Stagnation and fiscal policy are examined in a nonlinear stochastic New-Keynesian model with adaptive learning. There are three steady states. The steady state targeted by policy is locally but not globally stable under learning. A severe pessimistic expectations shock can trap the economy in a stagnation regime, underpinned by a low-level steady state, with falling inflation and output. A large fiscal stimulus may be needed to avoid or emerge from stagnation, and the impacts of forward guidance, credit frictions, central bank credibility and policy delay are studied. Our model encompasses a wide range of outcomes arising from pessimistic expectations shocks.
    Keywords: Adaptive Learning; Expectations; Fiscal policy; New-Keynesian model; Stagnation Trap
    JEL: D84 E52 E62 E63 E71
    Date: 2020–08
  10. By: Eero Mäkynen (University of Turku, Finland.); Oskari Vähämaa (University of Helsinki, Finland.)
    Abstract: We develop a measure of static misallocation that separates uncertainty from misallocation generated by tax-like distortions. In the Finnish firm-level data, uncertainty accounts for the majority of ex post misallocation and explains a strong decreasing age-dependent trend in it. To understand these observations, we set up a life-cycle model of firm growth where new firms have to learn their productivity. We match our model with the salient features of the data and show that our model implies idiosyncratic distortions, in line with our accounting approach. According to our quantitative results, uncertainty suppresses output by 38%, while misallocation has a 26% negative effect on output.
    Keywords: firm dynamics, uncertainty, misallocation
    JEL: D24 E23 L11 O47
    Date: 2021–05
  11. By: Keuschnigg, Christian; Kirschner, Linda; Kogler, Michael; Winterberg, Hannah
    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: bad loans; Bank Recapitalization; competitiveness; eurozone crisis; Italy; Sovereign debt
    JEL: E42 E44 E60 F30 F36 F45 G15 G21
    Date: 2020–07
  12. By: Kasir (Kaliner), Nitsa; Yashiv, Eran
    Abstract: The Arab population in Israel constitutes an ethnic minority, at around 20% of the population. The economy of this minority is characterized by inferior outcomes relative to the Jewish majority by all indicators, including employment, wages, occupational status, social welfare, education, and housing. This paper reviews key data facts and presents a model of barriers to integration facing Arabs in Israel, taking it to the data. The empirical analysis, based on a general equilibrium model of occupational choice with optimizing agents and barriers, points to an increase over time in barriers to the acquisition of human capital in highly skilled occupations, and, concurrently, a reduction in labor market barriers in all occupations. The analysis offers insights relevant to other developed economies with large ethnic minorities.
    Keywords: ethnic minority; human capital barriers; labor market barriers; occupational choice
    Date: 2020–08
  13. By: Satoshi Hoshino (Faculty of Economics, Okayama Shoka University / Research Fellow, Graduate School of Economics, Kobe University); Daisuke Ida (Faculty of Economics, Momoyama Gakuin University / Research Fellow, Graduate School of Economics, Kobe University)
    Date: 2021–05
  14. By: Maliar, Lilia; Maliar, Serguei; Tsener, Inna
    Abstract: A seminal work of Krusell, Ohanian, Ríos-Rull and Violante (2000) demonstrated that the capital-skill-complementarity mechanism is capable of explaining a U-shaped skill premium pattern over the 1963-1992 period in the US economy. However, the world experienced an unprecedented technological change since then. In this paper, we ask how the finding of their article change if we consider more recent data. First, we find that over the 1992-2017 period, the skill premium pattern changed dramatically, from a U-shaped to monotonically increasing, however, the capital-skill complementarity framework remains remarkably successful in explaining the data. Second, we use this framework to construct a projection, and we conclude that the skill premium will continue to grow in the US economy.
    Keywords: capital-skill complementarity; CES production function; skill premium; skilled and unskilled labor
    JEL: C73 D90 E21
    Date: 2020–08
  15. By: Zhang, Xiaomeng; Palivos, Theodore; Liu, Xiangbo
    Abstract: This paper investigates the impact of an increase in life expectancy on the level and the distribution of income in the presence of skill heterogeneity and automation capital. It shows analytically that an increase in life expectancy induces the replacement of low-skilled workers by automation capital and high-skilled workers. It also raises the skill premium, but has an ambiguous effect on total income. When we perform a simulation exercise, based on US data, we find that an increase in life expectancy raises the level of income but exacerbates its distribution. For this reason, we also examine redistributive policies that can mitigate some of the negative effects that follow an increase in life expectancy.
    Keywords: Life Expectancy; Automation; Search and Matching; Skill Heterogeneity
    JEL: J11 J24 J64 O33
    Date: 2021–05–25
  16. By: Bilbiie, Florin Ovidiu; Monacelli, Tommaso
    Abstract: Stabilization and redistribution are intertwined in a model with heterogeneity, imperfect insurance, and nominal rigidity---making fiscal and monetary policy inextricably linked. Changes in government spending that are associated with changes in the distribution of taxes (progressive vs. regressive) induce a tradeoff for monetary policy: the central bank cannot stabilize real activity at its efficient level (including insurance) and simultaneously avoid inflation. Fiscal policy can be used in conjunction to monetary policy to strike the optimal balance between stabilization and insurance (redistribution) motives.
    Keywords: aggregate demand; inequality; Optimal Monetary-Fiscal Policy; redistribution; TANK
    JEL: D91 E21 E62
    Date: 2020–08
  17. By: Thomas von Brasch (Statistics Norway); Ivan Frankovic; Eero Tölö
    Abstract: In this paper, we study how lower corporate tax rates impact investment by including two novel channels into a DSGE model used for fiscal policy analysis in Norway. We capture both how foreign firms relocate and invest in the country when corporate taxes are reduced and how the inflow of FDI increase exports which spills over to domestic firms who then increase their investment further. We find that a one percentage point reduction in the corporate tax rate increases investment by 0.6%, most of which can be attributed to the FDI-export link. The corporate tax cut becomes self-financed when the FDI-export link is included, but only if other countries do not follow suit and also lower their corporate tax rates. When using the model to analyze the tax reform in Norway from 2014 to 2019, we find overall positive effects on investment and employment.
    Keywords: Corporate profit tax; Foreign direct investment; Exports; Imports; User cost of capital; Depreciation; Tax reform
    JEL: E62 H21 H25 H32
    Date: 2021–05
  18. By: Eero Mäkynen (University of Turku, Finland.)
    Abstract: An establishment can improve its productivity by hiring workers from more productive establishments. Then, how important is worker reallocation for aggregate productivity growth? To study this question, I develop a general equilibrium model where knowledge transmits as workers reallocate from one job to another. The calibrated model suggests that the knowledge diffusion mechanism increases the aggregate productivity growth by 0.14 percentage points and enhances welfare. Additionally, the mechanism significantly amplifies the adverse effect of firing costs on aggregate outcomes.
    Keywords: knowledge diffusion, firm dynamics, worker reallocation, economic growth
    JEL: D24 E23 E24 J62 O33 O47
    Date: 2021–05
  19. By: Buss, Adrian; Uppal, Raman; Vilkov, Grigory
    Abstract: We develop a dynamic general-equilibrium framework with multiple households and multiple risky assets to explain how less- and more-sophisticated households differ in their portfolio and wealth dynamics. Differences in sophistication are modeled via heterogeneous confidence about asset returns, coupled with Bayesian learning. Consistent with recent empirical evidence, less-sophisticated households overinvest in safe assets, hold underdiversified portfolios concentrated in familiar assets, are trend chasers, and earn lower absolute and risk-adjusted investment returns. Notably, this behavior is a consequence of optimal choices rather than investment mistakes. The model explains why this behavior, despite learning, persists for long periods, thereby exacerbating wealth inequality.
    Keywords: Belief formation; household finance; investors' expectations; trend chasing; Wealth Inequality
    JEL: D53 G11 G51 G53
    Date: 2020–07
  20. By: Mariacristina De Nardi; Eric French; John Bailey Jones; Rory McGee
    Abstract: While the savings of retired singles tend to fall with age, those of retired couples tend to rise. We estimate a rich model of retired singles and couples with bequest motives and uncertain longevity and medical expenses. Our estimates imply that while medical expenses are an important driver of the savings of middle-income singles, bequest motives matter for couples and high-income singles, and generate transfers to non-spousal heirs whenever a household member dies. The interaction of medical expenses and bequest motives is a crucial determinant of savings for all retirees. Hence, to understand savings, it is important to model household structure, medical expenses, and bequest motives.
    JEL: D1 D12 D15 E21
    Date: 2021–05

This nep-dge issue is ©2021 by Christian Zimmermann. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.