nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2021‒06‒21
thirty-two papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Switching-Track after the Great Recession By Francesca Vinci; Omar Licandro
  2. Nonlinear unemployment effects of the inflation tax By Mohammed Ait Lahcen; Garth Baughman; Stanislav Rabinovich; Hugo van Buggenum
  3. Demographics and the Evolution of Global Imbalances By Michael Sposi
  4. Risk-Taking, Capital Allocation and Optimal Monetary Policy By Joel M. David; David Zeke
  5. Optimal Monetary Policy in Production Networks By La'O, Jennifer; Tahbaz-Salehi, Alireza
  6. Assessing the (De)Stabilizing Effects of Unemployment Benefit Extensions By Alexey Gorn; Antonella Trigari
  7. Hysteresis and full employment in a small open economy By Timothy Watson; Juha Tervala
  8. Modelling and Estimating Large Macroeconomic Shocks During the Pandemic By Luisa Corrado; Stefano Grassi; Aldo Paolillo
  9. Aging and the Real Interest Rate in Japan: A Labor Market Channel By Shigeru Fujita; Ippei Fujiwara
  10. Environment, public debt and epidemics By Marion Davin; Mouez Fodha; Thomas Seegmuller
  11. The Liquidity Channel of Fiscal Policy By Bayer, Christian; Born, Benjamin; Luetticke, Ralph
  12. Trade Integration, Global Value Chains, and Capital Accumulation By Michael Sposi; Kei-Mu Yi; Jing Zhang
  13. Public Capital and Fiscal Constraint in Sovereign Debt Crises By Tamon Asonuma; Hyungseok Joo
  14. The Stable Transformation Path By Francisco J. Buera; Joseph P. Kaboski; Martí Mestieri; Daniel G. O'Connor
  15. Delay the Pension Age or Adjust the Pension Benefit? Implications for Labor Supply and Individual Welfare in China By Yuanyuan Deng; Hanming Fang; Katja Hanewald; Shang Wu
  16. International Capital Flows: Private Versus Public Flows in Developing and Developed Countries By Yun Jung Kim; Jing Zhang
  17. Revisiting Capital-Skill Complementarity, Inequality, and Labor Share By Lee E. Ohanian; Musa Orak; Shihan Shen
  18. Effects of Preferential Tax Treatment on German Homeownership By Stefanie Braun
  19. Capital Buffers in a Quantitative Model of Banking Industry Dynamics By Dean Corbae; Pablo D'Erasmo
  20. Determinacy without the Taylor Principle By George-Marios Angeletos; Chen Lian
  21. Memory, Multiple Equilibria and Emerging Market Crises By Damián Pierri; Kevin Reffett
  22. Sectoral comovement, monetary policy and the credit channel By Di Pace, Federico; Görtz, Christoph
  23. Optimal Unemployment Benefits in the Pandemic By Mitman, Kurt; Rabinovich, Stanislav
  24. A Macroeconomic Model of Healthcare Saturation, Inequality and the Output-Pandemia Tradeoff By Enrique G. Mendoza; Eugenio Rojas; Linda L. Tesar; Jing Zhang
  25. Epidemics in the Neoclassical and New-Keynesian Models By Eichenbaum, Martin; Rebelo, Sérgio; Trabandt, Mathias
  26. MPCs, MPEs and Multipliers: A Trilemma for New Keynesian Models By Auclert, Adrien; Bardóczy, Bence; Rognlie, Matthew
  27. Uncovered Interest Parity, Forward Guidance and the Exchange Rate By Galí, Jordi
  28. DGE model for assessing macro-fiscal vulnerabilities in Algeria By Emmanuel Pinto Moreira; Baris Alpaslan
  29. Real Estate and Rental Markets during Covid Times By Bertrand Achou; Hippolyte d'Albis; Eleni Iliopulos
  30. Optimal Taxation of Capital in the Presence of Declining Labor Share By Orhan Erem Atesagaoglu; Hakki Yazici
  31. Automation and Sectoral Reallocation By Dennis C. Hutschenreiter; Tommaso Santini; Eugenia Vella
  32. Das House Kapital By Grossmann, Volker; Larin, Benjamin; Steger, Thomas M.

  1. By: Francesca Vinci; Omar Licandro
    Abstract: We propose a theoretical framework to reconcile episodes of V-shaped and L-shaped recovery, encompassing the behaviour of the U.S. economy before and after the Great Recession. In a DSGE model with endogenous growth, negative demand shocks destroy productive capacity, moving GDP to a lower trajectory. A Taylor rule policy designed to reduce the output gap may counterbalance the shocks, preventing the destruction of economic capacity and inducing a V-shaped recovery. However, when shocks are deep and persistent enough, like during the Great Recession, they call for a downward revision of potential output measures, the so-called switching-track, weakening the recovering role of monetary policy and inducing an L-shaped recovery. When calibrated to the U.S. economy, the model replicates well the L-shaped recovery and switching-track that followed the Great Recession, as well as the V-shaped recoveries that followed the oil shock recessions.
    Keywords: Great Recession, economic recovery, endogenous growth, hysteresis, trend shift, switching-track, supply destruction prevention, economic capacity, monetary policy
    JEL: E12 E22 E32 O41 E52
    Date: 2021
  2. By: Mohammed Ait Lahcen; Garth Baughman; Stanislav Rabinovich; Hugo van Buggenum
    Abstract: We argue that long-run inflation has nonlinear and state-dependent e ects on unemployment, output, and welfare. Using panel data from the OECD, we document three correlations. First, there is a positive long-run relationship between anticipated inflation and unemployment. Second, there is also a positive correlation between anticipated inflation and unemployment volatility. Third, the long-run inflation-unemployment relationship is not only positive, but also stronger when unemployment is higher. We show that these correlations arise in a standard monetary search model with two shocks - productivity and monetary - and frictions in labor and goods markets. Inflation lowers the surplus from a worker-firm match, in turn making it sensitive to productivity shocks or to further increases in inflation. We calibrate the model to match the US postwar labor market and monetary data and show that it is consistent with observed cross-country correlations. The model implies that the welfare cost of inflation is nonlinear in the level of inflation and is amplified by the presence of aggregate shocks.
    Keywords: Money, search, inflation, unemployment, unemployment volatility, fundamental surplus, product-labor market interaction
    JEL: E24 E30 E40 E50
    Date: 2021–06
  3. By: Michael Sposi (Southern Methodist University)
    Abstract: The age distribution evolves asymmetrically across countries, influencing capital flows through differences in aggregate saving rates and labor supply. I build a general equilibrium model featuring overlapping generations and international trade where dynamics are driven by capital accumulation and borrowing and lending. The equilibrium can be replicated by a model in which every country is inhabited by a representative household that experiences an endogenous, time-varying discount factor reflecting the co-evolution of the entire age distribution and relevant prices. This equivalence affords computation of the exact transitional dynamics. I calibrate the model to match national accounts and bilateral trade data and quantify how demographic forces affected capital flows between 28 countries since 1970. On average, increasing a country's mean age by one year boosts its current account by 0.4 percent of GDP. Observed bilateral trade patterns dictate the cross-country dispersion and magnitude of capital flows in response to changes in any individual country's demographics.
    Keywords: Demographics; Global imbalances; Dynamics; International trade
    JEL: F11 F21 J11
    Date: 2021–03
  4. By: Joel M. David; David Zeke
    Abstract: We study the role of firm heterogeneity in affecting business cycle dynamics and optimal stabilization policy. Firms differ in their degree of cyclicality, and hence, exposure to aggregate risk, leading to firm-specific risk premia that influence resource allocations. The heterogeneous firm economy can be recast in a representative firm formulation, but where total factor productivity (TFP) is endogenous and depends on the resource allocation. The model uncovers a novel tradeoff between the long-run level and volatility of TFP. Inefficiencies distort this tradeoff and result in either excessive volatility or depressed output, implying a role for corrective policy. Embedding this mechanism into a workhorse New Keynesian model, we show that allocational considerations can strengthen the incentives for leaning against the wind, i.e., optimal policy is more strongly countercyclical than in an observationally equivalent economy that abstracts from heterogeneity. A quantitative exercise suggests that the losses from ignoring heterogeneity can be substantial, which stem largely from a less productive allocation of resources and so depressed TFP and output.
    Keywords: monetary policy; heterogeneous firms; misallocation; productivity
    JEL: D24 E23 E32 E44 E52 E62
    Date: 2021–01–13
  5. By: La'O, Jennifer; Tahbaz-Salehi, Alireza
    Abstract: This paper studies the optimal conduct of monetary policy in a multi-sector economy in which firms buy and sell intermediate goods over a production network. We first provide a necessary and sufficient condition for the monetary policy's ability to implement flexible-price equilibria in the presence of nominal rigidities and show that, generically, no monetary policy can implement the first-best allocation. We then characterize the constrained-efficient policy in terms of the economy's production network and the extent and nature of nominal rigidities. Our characterization result yields general principles for the optimal conduct of monetary policy in the presence of input-output linkages: it establishes that optimal policy stabilizes a price index with higher weights assigned to larger, stickier, and more upstream industries, as well as industries with less sticky upstream suppliers but stickier downstream customers. In a calibrated version of the model, we find that implementing the optimal policy can result in quantitatively meaningful welfare gains.
    Keywords: Misallocation; nominal rigidities; Optimal monetary policy; production networks
    JEL: D57 E52
    Date: 2020–06
  6. By: Alexey Gorn; Antonella Trigari
    Abstract: We study the stabilizing role of unemployment benefit extensions. We develop a tractable quantitative model with heterogeneous agents, search frictions, and nominal rigidities. The model allows for both a stabilizing aggregate demand channel and a destabilizing labor market channel of unemployment insurance. We characterize analytically the workings of each channel. Stabilizing aggregate demand effects marginally prevail in the U.S. economy and the unprecedented benefit extensions introduced during the Great Recession played a limited role for unemployment dynamics. Instead, unemployment from the model tracks actual unemployment with a combination of labor market shocks and a shock to the consumers’ borrowing capacity
    Keywords: Unemployment insurance; cyclical benefit extensions; heterogeneous agents; redistribution; precautionary motives; opportunity cost of employment; nominal rigidities; search frictions
    JEL: E24 E32 E52 J63 J64 J65
  7. By: Timothy Watson; Juha Tervala
    Abstract: We simulate a small open economy Two Agent New Keynesian (TANK) model featuring ‘learning by doing’ in production whereby changes in employment generate hysteresis in productivity and output. Credit constraints and hysteresis amplify the efficacy of Fiscal stimulus in a small open economy with a floating exchange rate and inflation-targeting central bank such that output multipliers can exceed unity; welfare multipliers can be positive; and the degree of hysteresis, output and employment multipliers match empirical evidence well. Fiscal stimulus helps reverse output hysteresis, and price-level targeting provides superior macroeconomic stabilisation compared to other simple monetary rules combined with fiscal stimulus.
    Keywords: Hysteresis, open economy macroeconomics, monetary policy, fiscal policy
    JEL: E32 E63 F41
    Date: 2021–06
  8. By: Luisa Corrado; Stefano Grassi; Aldo Paolillo
    Abstract: This paper proposes and estimates a new Two-Sector One-Agent model that features large shocks. The resulting medium-scale New Keynesian model includes the standard real and nominal frictions used in the empirical literature and allows for heterogeneous COVID-19 pandemic exposure across sectors. We solve the model nonlinearly and we propose a new nonlinear, non-Gaussian filter designed to handle large pandemic shocks to make inference feasible. Monte Carlo experiments show that it correctly identifies the source and time location of shocks with a massively reduced running time, making the estimation of macro-models with disaster shocks feasible. The estimation is carried out using the Sequential Monte Carlo sampler recently proposed by Herbst and Schorfheide (2014). Our empirical results show that the pandemic-induced economic downturn can be reconciled with a combination of large demand and supply shocks. More precisely, starting from the second quarter of 2020, the model detects the occurrence of a large negative demand shock in consuming all kinds of goods, together with a large negative demand shock in consuming contact-intensive products. On the supply side, our proposed method detects a large labor supply shock to the general sector and a large labor productivity shock in the pandemic-sensitive sector.
    Keywords: COVID-19, Nonlinear, Non-Gaussian, Large shocks, DSGE
    JEL: C11 C51 E30
    Date: 2021–06
  9. By: Shigeru Fujita; Ippei Fujiwara
    Abstract: This paper explores a causal link between aging of the labor force and declining trends in the real interest rate in Japan. We develop a search/matching model that features heterogeneous workers with respect to their ages and firm-specific skills. Using the model, we examine the long-run implications of the sharp drop in labor force entry in the 1970s. We show that the changes in the demographic structure induce significant low-frequency movements in per capita consumption growth and the real interest rate. The model suggests that aging of the labor force accounts for 40 percent or more of the declines in the real interest rate observed between the 1980s and 2000s in Japan. We also examine the impacts of other long-term developments such as a slowdown of TFP growth and higher shares of female and non-regular workers.
    Keywords: Aging; Real interest rate; Japan
    JEL: E24 E43
    Date: 2021–06–08
  10. By: Marion Davin (CEE-M - Centre d'Economie de l'Environnement - Montpellier - UMR 5211 - UM - Université de Montpellier - CNRS - Centre National de la Recherche Scientifique - Montpellier SupAgro - Institut national d’études supérieures agronomiques de Montpellier - Institut Agro - Institut national d'enseignement supérieur pour l'agriculture, l'alimentation et l'environnement - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement); Mouez Fodha (CES - Centre d'économie de la Sorbonne - UP1 - Université Paris 1 Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique, PSE - Paris School of Economics - ENPC - École des Ponts ParisTech - ENS Paris - École normale supérieure - Paris - PSL - Université Paris sciences et lettres - UP1 - Université Paris 1 Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique - EHESS - École des hautes études en sciences sociales - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement); Thomas Seegmuller (AMSE - Aix-Marseille Sciences Economiques - EHESS - École des hautes études en sciences sociales - AMU - Aix Marseille Université - ECM - École Centrale de Marseille - CNRS - Centre National de la Recherche Scientifique)
    Abstract: We study whether fiscal policies, especially public debt, can help to curb the macroeconomic and health consequences of epidemics. Our approach is based on three main features: we introduce the dynamics of epidemics in an overlapping generations model to take into account that old people are more vulnerable; people are more easily infected when pollution is high; public spending and public debt can be used to tackle the effects of epidemics. We show that fiscal policies can promote the convergence to a stable steady state with no epidemics. When public policies are not able to permanently eradicate the epidemic, public debt and income transfers could reduce the number of infected people and increase capital and GDP per capita. As a prerequisite, pollution intensity should not be too high. Finally, we define a household subsidy policy which eliminates income and welfare inequalities between healthy and infected individuals.
    Keywords: overlapping generations,public debt,pollution,epidemics
    Date: 2021–05–07
  11. By: Bayer, Christian; Born, Benjamin; Luetticke, Ralph
    Abstract: We provide evidence that expansionary fiscal policy lowers the return difference between more and less liquid assets---the liquidity premium. We rationalize this finding in an estimated heterogeneous-agent New-Keynesian (HANK) model with incomplete markets and portfolio choice, in which public debt affects private liquidity. In this environment, the short-run fiscal multiplier is amplified by the countercyclical liquidity premium. This liquidity channel stabilizes investment and crowds in consumption. We then quantify the long-run effects of higher public debt, and find a sizable decline of the liquidity premium, increasing the fiscal burden of debt, but little crowding out of capital.
    Keywords: Bayesian estimation; business cycles; Fiscal policy; HANK; incomplete markets; liquidity premium
    JEL: C11 D31 E32 E63
    Date: 2020–06
  12. By: Michael Sposi; Kei-Mu Yi; Jing Zhang
    Abstract: Motivated by increasing trade and fragmentation of production across countries since World War II, we build a dynamic two-country model featuring sequential, multi-stage production and capital accumulation. As trade costs decline over time, global-value-chain (GVC) trade expands across countries, particularly more in the faster growing country, consistent with the empirical pattern. The presence of GVC trade boosts capital accumulation and economic growth and magnifies dynamic gains from trade. At the same time, endogenous capital accumulation shapes comparative advantage across countries, impacting the dynamics of GVC trade: a country becoming more capital abundant concentrates more on the capital-intensive stage of the production.
    Keywords: Multistage production; International trade; Capital accumulation
    JEL: F10 F43 E22
    Date: 2020–11–13
  13. By: Tamon Asonuma (IMF); Hyungseok Joo (University of Surrey)
    Abstract: Sovereigns' public capital and fiscal constraint influence sovereign debt crises and resolution. We compile a dataset on public expenditure composition around restructurings with private external creditors. We show that during restructurings, public investment (i) experiences severe decline and slow recovery, (ii) differs from public consumption and transfers, and (iii) relates with restructuring delays. We develop a theoretical model of defaultable debt that embeds endogenous public capital accumulation, expenditure composition, production and multi-round debt renegotiations. The model quantitatively shows public investment dynamics and tight fiscal constraint delay debt settlement - †capital accumulation delays" and “fiscal delays†. Data support these theoretical predictions.
    JEL: F34 F41 H63
    Date: 2021–06
  14. By: Francisco J. Buera; Joseph P. Kaboski; Martí Mestieri; Daniel G. O'Connor
    Abstract: Standard dynamic models of structural transformation, without knife-edge and counterfactual parameter values, preclude balanced growth path (BGP) analysis. This paper develops a dynamic equilibrium concept for a more general class of models | an alternative to a BGP, which we coin a Stable Transformation Path (STraP). The STraP characterizes the medium-term dynamics of the economy in a turnpike sense; it is the path toward which the economy (quickly) converges from an arbitrary initial capital stock. Calibrated simulations demonstrate that the relaxed parameter values that the STraP allows have important quantitative implications for structural transformation, investment, and growth. Indeed, analyzing the dynamics along the STraP, we show that the modern dynamic model of structural transformation makes progress over the Neoclassical growth model in matching key growth and capital accumulation patterns in cross-country data, including slow convergence.
    Keywords: Growth; Investment Dynamics; Non-balanced Growth
    JEL: E13 E21 E22 E23
    Date: 2020–10–23
  15. By: Yuanyuan Deng; Hanming Fang; Katja Hanewald; Shang Wu
    Abstract: We develop and calibrate a life-cycle model of labor supply and consumption to quantify the implications of alternative pension reforms on labor supply, individual welfare, and government budget for China’s basic old-age insurance program. We focus on urban males and distinguish low-skilled and high-skilled individuals, who differ in their preferences, health and labor income dynamics, and medical expense processes. We use the calibrated model to evaluate three potential pension reforms: (i) increasing the pension eligibility age from 60 to 65, but keeping the current pension benefit rule unchanged; (ii) keeping the pension eligibility age at 60, but proportionally lowering pension benefits so that the pension program’s budget is the same as under Reform (i); and (iii) increasing the pension eligibility age to 65 and simultaneously increasing the pension benefits so that individuals of both skill types attain the same individual welfare levels as in the status quo. We find that relative to the baseline, both Reforms (i) and (ii) can substantially improve the budgets of the pension system, but at the cost of substantial individual welfare loss for both skill types. In contrast, we find that Reform (iii) can modestly improve the budget of the pension system while ensuring that both skill types are as well off as in the status quo. We find that Reforms (i) and (ii) slightly increases, but Reform (iii) slightly decreases, the overall labor supply.
    JEL: D14 D15 H55 J22
    Date: 2021–06
  16. By: Yun Jung Kim; Jing Zhang
    Abstract: Empirically, net capital inflows are pro-cyclical in developed countries and counter-cyclical in developing countries. That said, private inflows are pro-cyclical and public in flows are counter-cyclical in both groups of countries. The dominance of private (public) in flows in developed (developing) countries drives the difference in total net inflows. We rationalize these patterns using a dynamic stochastic two-sector model of a small open economy facing borrowing constraints. Private agents over-borrow because of the pecuniary externality arising from constraints. The government saves abroad to reduce aggregate debt, making the economy resilient to adverse shocks. Differences in borrowing constraints and shock processes across countries explain the empirical patterns of capital inflows.
    Keywords: reserves; pecuniary externality; cyclicality of net capital ows
    JEL: E44 F32 F34 F41
    Date: 2020–11–13
  17. By: Lee E. Ohanian; Musa Orak; Shihan Shen
    Abstract: This paper revisits capital-skill complementarity and inequality, as in Krusell, Ohanian, Rios-Rull and Violante (KORV, 2000). Using their methodology, we study how well the KORV model accounts for more recent data, including the large changes in the labor's share of income that were not present in KORV. We study both labor share of gross income (as in KORV), and income net of depreciation. We also use nonfarm business sector output as an alternative measure of production to real GDP. We find strong evidence for continued capital-skill complementarity in the most recent data, and we also find that the model continues to closely account for the skill premium. The model captures the average level of labor share, though it overpredicts its level by 2-4 percentage points at the end of the period.
    Keywords: Capital-skill complementarity; Elasticity of substitution; Inequality; Labor share; Skill premium; Technological change
    JEL: E13 E25 J23 J30 J68
    Date: 2021–05–19
  18. By: Stefanie Braun
    Abstract: The paper analyzes the effects of mortgage interest deductibility and untaxed imputed rental income on the German homeownership. I use a general equilibrium life-cycle framework, where a minimum down-payment constraint on purchases of housing capital is the critical element of the model framework. I find that both tax policies would increase Germany's low homeownership rate. However, these tax policies would entail substantial welfare losses for individuals of all income quintiles in the long run. Finally, wealth e ects are relatively small and the welfare analysis shows that individuals would prefer to live in an economy without preferential tax treatment of housing.
    Keywords: German homeownership rate; Housing taxation; Imputed rents; Mortgage deductibility; Capital accumulation
    JEL: E62 H3
    Date: 2021–06
  19. By: Dean Corbae; Pablo D'Erasmo
    Abstract: We develop a model of banking industry dynamics to study the quantitative impact of regulatory policies on bank risk taking and market structure as well as the feedback effect of market structure on the efficacy of policy. Since our model is matched to U.S. data, we propose a market structure where big banks with market power interact with small, competitive fringe banks. Banks face idiosyncratic funding shocks in addition to aggregate shocks which affect the fraction of performing loans in their portfolio. A nontrivial bank size distribution arises out of endogenous entry and exit, as well as banks’ buffer stock of net worth. We show the model predictions are consistent with untargeted business cycle properties, the bank lending channel, and empirical studies of the role of concentration on financial stability. We then conduct a series of policy counterfactuals motivated by those proposed in the Dodd-Frank Act (size and state dependent capital requirements and liquidity requirements). We find that regulatory policies can have an important impact on banking market structure, which, along with selection effects, can generate changes in allocative efficiency and stability.
    Keywords: macroprudential policy; bank size distribution; industry dynamics with imperfect competition.
    JEL: E44 G21 L11
    Date: 2021–06–11
  20. By: George-Marios Angeletos; Chen Lian
    Abstract: A long-standing issue in the theory of monetary policy is that the same path for the interest rate can be associated with multiple bounded equilibrium paths for inflation and output. We show that a small friction in memory and intertemporal coordination can remove this indeterminacy. This leaves no space for equilibrium selection by means of either the Taylor Principle or the Fiscal Theory of the Price Level. It reinforces the logical foundations of the New Keynesian model’s conventional solution (a.k.a. its fundamental or MSV solution). And it liberates feedback rules to serve only one function: stabilization.
    JEL: D8 E4 E5 E7
    Date: 2021–06
  21. By: Damián Pierri (Universidad Carlos III Madrid & IIEP-BAIRES (UBA-CONICET)); Kevin Reffett (Arizona State University)
    Abstract: We present a new Generalized Markov Equilibrium (GME) approach to studying sudden stops and financial crises in emerging countries in small open economies with price dependent equilibrium collateral constraints. These models are known to have multiple equilibria. Our approach to characterizing and computing stochastic equilibrium dynamics is global, encompasses recursive equilibrium as a special case, yet allows for a much more flexible approach to modeling memory and multiple equilibrium in models with equilibrium price-dependent collateral constraints. We construct ergodic GME selections from the sequential competitive equilibrium that at the same time can replicate all the observed phases of the macro crises associated with a sudden stop (boom, collapse, spiralized recession, recovery) while still being able to capture the long-run stylized behavior of the data. We also compute stochastic equilibrium dynamics associated with stationary and a non-stationary GME selections, and we find that a) the ergodic GME selectors generate stochastic dynamics which are less financially constrained, b) non-stationary GME selections exhibit a great range of fluctuations in macroeconomic aggregates compared to the stationary selections. Finally, from a theoretical perspective, we prove the existence of both sequential competitive equilibrium and (minimal state space) recursive equilibrium, and provide a complete constructive qualitative theory of recursive equilibrium comparative statics in deep parameters of these economies. Consistent with recent results in the literature, relative to the set of recursive equilibrium, we find 2 stationary equilibrium: one with high/over borrowing, the other with low/under borrowing. These equilibrium are extremal and self-fulfilling under rational expectations.
    Date: 2021–06
  22. By: Di Pace, Federico (Bank of England); Görtz, Christoph (University of Birmingham)
    Abstract: Using a structural vector autoregression, we document that a contractionary monetary policy shock triggers a decline in durable and non-durable outputs as well as a contraction in bank equity and a rise in the excess bond premium. The latter points to an important transmission channel of monetary policy via financial markets. It has long been recognized that a standard two-sector New Keynesian model, where durable goods prices are flexible and non-durable and services sticky, does not generate the empirically observed sectoral comovement across expenditure categories in response to a monetary policy shock. We show that introducing financial frictions in a two-sector New Keynesian model can resolve its disconnect with the empirical evidence: a monetary tightening generates not only comovement, but also a rise in credit spreads and a deterioration in bank equity.
    Keywords: Financial intermediation; sectoral comovement; monetary policy; financial frictions; credit spreads
    JEL: E22 E32 E44 E52
    Date: 2021–06–11
  23. By: Mitman, Kurt; Rabinovich, Stanislav
    Abstract: How should unemployment benefits vary in response to the economic crisis induced by the COVID-19 pandemic? We answer this question by computing the optimal unem- ployment insurance response to the COVID-induced recession. We compare the optimal policy to the provisions under the CARES Act-which substantially expanded unemployment insurance and sparked an ongoing debate over further increases-and several alternative scenarios. We find that it is optimal first to raise unemployment benefits but then to begin lowering them as the economy starts to reopen - despite unemployment remaining high. We also find that the $600 UI supplement payment implemented under CARES was close to the optimal policy. Extending this UI supplement for another six months would hamper the recovery and reduce welfare. On the other hand, a UI extension combined with a re-employment bonus would further increase welfare compared to CARES alone, with only minimal effects on unemployment.
    Keywords: COVID-19; Epidemic; optimal policy; Unemployment insurance
    JEL: E6 H1 J65
    Date: 2020–06
  24. By: Enrique G. Mendoza; Eugenio Rojas; Linda L. Tesar; Jing Zhang
    Abstract: Covid-19 became a global health emergency when it threatened the catastrophic collapse of health systems as demand for health goods and services and their relative prices surged. Governments responded with lockdowns and increases in transfers. Empirical evidence shows that lockdowns and healthcare saturation contribute to explain the cross-country variation in GDP drops even after controlling for Covid-19 cases and mortality. We explain this output-pandemia tradeoff as resulting from a shock to subsistence health demand that is larger at higher capital utilization in a model with entrepreneurs and workers. The health system moves closer to saturation as the gap between supply and subsistence narrows, which worsens consumption and income inequality. An externality distorts utilization, because firms do not internalize that lower utilization relaxes healthcare saturation. The optimal policy response includes lockdowns and transfers to workers.
    Keywords: Covid-19; lockdowns; externality; transfers
    JEL: E13 H23 I14
    Date: 2021–02–22
  25. By: Eichenbaum, Martin; Rebelo, Sérgio; Trabandt, Mathias
    Abstract: We analyse the effects of an epidemic in three standard macroeconomic models. We Ã?nd that the neoclassical model does not rationalize the positive comovement of consumption and investment observed in recessions associated with an epidemic. Intro- ducing monopolistic competition into the neoclassical model remedies this shortcoming even when prices are completely áexible. Finally, sticky prices lead to a larger recession but do not fundamentally alter the predictions of the monopolistic competition model.
    Keywords: comovement; Epidemic; investment; Recession
    JEL: E1 H0 I1
    Date: 2020–06
  26. By: Auclert, Adrien; Bardóczy, Bence; Rognlie, Matthew
    Abstract: We establish an impossibility result for New Keynesian models with a frictionless labor market: these models cannot simultaneously match plausible estimates of marginal propensities to consume (MPCs), marginal propensities to earn (MPEs), and fiscal multipliers. Sticky wages provide a solution to this trilemma.
    Keywords: Fiscal multipliers; HANK; MPC; MPE
    JEL: D52 E52 E62 H31
    Date: 2020–06
  27. By: Galí, Jordi
    Abstract: Under uncovered interest parity (UIP), the size of the effect on the real exchange rate of an anticipated change in real interest rate differentials is invariant to the horizon at which the change is expected. Empirical evidence using US, euro area and UK data points to a substantial deviation from that invariance prediction: expectations of interest rate differentials in the near (distant) future are shown to have much larger (smaller) effects on the real exchange rate than is implied by UIP. Some possible explanations are discussed.
    Keywords: forward guidance puzzle; open economy New Keynesian model; unconventional monetary policies; uncovered interest rate parity
    JEL: E43 E58 F41
    Date: 2020–06
  28. By: Emmanuel Pinto Moreira; Baris Alpaslan
    Abstract: In this paper, we present a Dynamic General Equilibrium (DGE) model to address the macro-fiscal vulnerabilities and the effects of fiscal policy on growth and employment in Algeria. We first discuss a baseline scenario throughout the projection period, 2021-2040 and then conduct several experiments; an increase in the efficiency of public spending on infrastructure investment, a gradual reduction in the share of noninterest government spending in GDP, the same gradual reduction in spending with a permanent increase in the share of investment in infrastructure in total noninterest government expenditure, and a composite fiscal reform program, respectively. The results show that with a well-designed fiscal program, there may be no trade-off between fiscal consolidation and economic growth.
    Keywords: DGE model, macro-fiscal vulnerabilities, fiscal policy, Algeria
    JEL: C68 E62 O23
    Date: 2021–03
  29. By: Bertrand Achou (HEC Montréal - HEC Montréal); Hippolyte d'Albis (PSE - Paris School of Economics - ENPC - École des Ponts ParisTech - ENS Paris - École normale supérieure - Paris - PSL - Université Paris sciences et lettres - UP1 - Université Paris 1 Panthéon-Sorbonne - CNRS - Centre National de la Recherche Scientifique - EHESS - École des hautes études en sciences sociales - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement, PJSE - Paris Jourdan Sciences Economiques - UP1 - Université Paris 1 Panthéon-Sorbonne - ENS Paris - École normale supérieure - Paris - PSL - Université Paris sciences et lettres - 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); Eleni Iliopulos (EPEE - Centre d'Etudes des Politiques Economiques - UEVE - Université d'Évry-Val-d'Essonne - Université Paris-Saclay)
    Abstract: In this work we introduce a general equilibrium model with landlords, indebted owner-occupiers and renters to study housing markets' dynamics. We estimate it by using standard Bayesian methods and match the US data of the last decades. This framework is particularly suited to explain current trends on housing markets. We highlight the crucial relationship between interest rates, house prices and rents, and argue that it helps understanding the main driving forces. Our analysis suggests that current developments on housing markets can play a role for a recovery from the Covid pandemic as they have an expansionary effect on aggregate output. Moreover, we account for the heterogeneous impact of crisis-induced policies depending on agents' status on the housing market. We show how, despite an increase in housing prices, the welfare of landlords has been negatively hit. This is associated to the joint decrease in returns on housing and financial assets that reduces their financial incomes.
    Keywords: Housing,Rental Markets,Collateral Constraints,Financial Frictions,HANK Models
    Date: 2021–05
  30. By: Orhan Erem Atesagaoglu; Hakki Yazici
    Abstract: We analyze the implications of the decline in labor’s share in national income for optimal Ramsey taxation. It is optimal to accompany the decline in labor share by raising capital taxes only if the labor share is falling because of a decline in competition or other mechanisms that raise the share of pure profits. This result holds under various alternative institutional arrangements that are relevant for optimal taxation of capital income. A quantitative application to the U.S. economy shows that soaring profit shares since the 1980's can justify a significantly increasing path of capital income taxes.
    Keywords: capital income tax, labor share, profit share, market power
    JEL: E60 E61 E62
    Date: 2021
  31. By: Dennis C. Hutschenreiter; Tommaso Santini; Eugenia Vella
    Abstract: Empirical evidence in Dauth et al. (2021) suggests that industrial robot adoption in Germany has led to a sectoral reallocation of employment from manufacturing to services, leaving total employment unaffected. We rationalize this evidence through the lens of a general equilibrium model with two sectors, matching frictions, and endogenous participation. Automation induces firms to create fewer vacancies and job seekers to search less in the automatable sector (manufacturing). The service sector expands due to the sectoral complementarity in the production of the final good and a positive wealth effect for the household. Analysis across steady states shows that the reduction in manufacturing employment can be offset by the increase in service employment. The model can also replicate the magnitude of the decline in the ratio of manufacturing employment to service employment in Germany between 1994 and 2014.
    Keywords: automation, manufacturing, services, sectoral reallocation, participation, matching frictions, vacancy creation, productivity
    JEL: E24 O14 O33 J22
    Date: 2021–06–12
  32. By: Grossmann, Volker; Larin, Benjamin (University of St. Gallen); Steger, Thomas M.
    Abstract: The housing wealth-to-income ratio has been increasing in most developed economies since the 1950s. We provide a novel theory to explain this long-term pattern. We show analytically that house prices grow in the steady state if i) the housing sector is more land-intensive than the non-housing sector. Despite growing house prices and housing wealth, the housing wealth-to income ratio is constant in steady state. We hence study the dynamics in the housing wealth-to-income ratio by computing transitions. The model is calibrated separately to the US, UK, France, and Germany. On average, we replicate 89 percent of the observed increase in the housing wealth-to-income ratio. The key for replicating the data is the differentiation between residential land as a non-reproducible factor and residential structure as reproducible factor. The transition process from the calibrated model points to two driving forces of an increasing housing wealth-to-income ratio: i) A long-lasting construction boom that brought about a pronounced build-up in the stock of structures and ii) an increase in the demand for residential land that resulted in surging residential land prices.
    Keywords: Housing Wealth; Economie Growth; Wealth-to-Income Ratio; House Price; Land Price
    JEL: E10 E20 O40
    Date: 2021–06–11

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