nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2022‒02‒07
nineteen papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Evaluation and Indirect Inference Estimation of Inattentive Features in a New Keynesian Framework By Chou, Jenyu; Cao, Yifei; Minford, Patrick
  2. Too Many Shocks Spoil the Interpretation By Adrian Pagan; Tim Robinson
  3. A Structural Investigation of Israeli Labor Market Dynamics: A DSGE-Based Analysis By Alon Binyamini
  4. Expectations, Stagnation and Fiscal Policy: a Nonlinear Analysis By George W. Evans; Seppo Honkapohja; Kaushik Mitra
  5. Consumption taxation to finance pension payments By Ruppert, Kilian; Schön, Matthias; Stähler, Nikolai
  6. Monetary Policy and Determinacy: An Inquiry in Open Economy New Keynesian Framework By William Barnett; Unal Eryilmaz
  7. Aging, Fertility and Macroeconomic Dynamics By Aurelien Eyquem; Masahige Hamano
  8. Controlling Chaos in New Keynesian Macroeconomics By William Barnett; Giovanni Bella; Taniya Ghosh; Paolo Mattana; Beatrice Venturi
  9. A Three-Period Extension of The CAPM By Habis, Helga; Perge, Laura
  10. Trade, Misallocation, and Capital Market Integration By Laszlo Tetenyi
  11. Policies for Early Childhood Skills Formation: Accounting for Parental Choices and Noncognitive Skills By Iacopo Morchio
  12. Intermediation via Credit Chains By Zhiguo He; Jian Li
  13. Using energy and emissions taxation to finance labor tax reductions in a multi-sector economy: An assessment with EMuSe By Hinterlang, Natascha; Martin, Anika; Röhe, Oke; Stähler, Nikolai; Strobel, Johannes
  14. Sticky Wages in a World of Ideas By Kevin X. D. Huang; Munechika Katayama; Mototsugu Shintani; Takayuki Tsuruga
  15. An economic model of the Covid-19 pandemic with young and old agents: Behavior, testing and policies By Brotherhood, Luiz; Kircher, Philipp; Santos, Cezar; Tertilt, Michele
  16. Cross-country differences in the long-run economic impacts of increased fertility By Davoine, Thomas
  17. Collateral, Household Borrowing, and Income Distribution By Luisa Corrado; Aicha Kharazi
  18. US trade policy and the US dollar By Khalil, Makram; Strobel, Felix
  19. Macroeconomic Research, Present and Past By Philip J. Glandon; Kenneth Kuttner; Sandeep Mazumder; Caleb Stroup

  1. By: Chou, Jenyu (School of Economics, University of Nottingham Ningbo China); Cao, Yifei; Minford, Patrick (Cardiff Business School)
    Abstract: We test the standard New Keynesian (NK) Dynamic Stochastic General Equilibrium (DSGE) model under the condition with and without inattentive features, where inattentiveness is modelled in the form of sticky information and imperfect information data revision. All models are tested with the Indirect Inference method, and our test result based on real-time data suggests that the model with sticky information passes the test and consistently outperforms the baseline NK model with full information and rational expectation, while the model with imperfect information data revision fails to pass the test. Furthermore, we show that none of the models passes the test when Survey of Professional Forecaster data are used for model evaluation. Overall, our findings provide important implications on the modelling of expectation formation in the DSGE framework.
    Keywords: Forecasting Popular Votes Shares; Electoral Poll; Forecast combination, Hybrid model; Support Vector Machine
    Date: 2022–01
  2. By: Adrian Pagan (School of Economics, University of Sydney; CAMA, Australian National University); Tim Robinson (Melbourne Institute: Applied Economic & Social Research, The University of Melbourne)
    Abstract: We show that when a model has more shocks than observed variables the estimated filtered and smoothed shocks will be correlated. This is despite no correlation being present in the data generating process. Additionally the estimated shock innovations may be autocorrelated. These correlations limit the relevance of impulse responses, which assume uncorrelated shocks, for interpreting the data. Excess shocks occur frequently, e.g. in UnobservedComponent (UC) models, filters, including Hodrick-Prescott (1997), and some Dynamic Stochastic General Equilibrium (DSGE) models. Using several UC models and an estimated DSGE model, Ireland (2011), we demonstrate that sizable correlations among the estimated shocks can result.
    Keywords: Partial Information; Structural Shocks; Kalman Filter; Measurement Error; DSGE.
    JEL: E37 C51 C52
    Date: 2020–02
  3. By: Alon Binyamini (Bank of Israel)
    Abstract: Global Financial Crisis, to 3.5 percent in 2019, just before the global COVID-19 crisis. Using an empirically oriented DSGE model, with a focus on the labor market, I estimate and analyze the main contributions to that decline. The model departs from the neoclassical approach to the labor market by including search and matching frictions, endogenous participation, nominal wage rigidity, salaried employees, e¢ cient bargaining over hours worked and coexistence of both marginsâ extensive (employment) and intensive (hours worked). The model is estimated, based on the Bayesian approach, using quarterly data of the Israeli economy from 1992 to 2019. It generates labor-share dynamics which, although supported by robust empirical evidence, are not replicated by standard models. A model-based analysis sheds light on a positive trend in productivity, and a negative one in employeesâ bargaining power, as two dominant contributions to the boom in the Israeli labor marketâ a boom that was interrupted by the outbreak of the global COVID-19 crisis in 2020. Finally, accounting for possible reallocation e¤ect of the COVID-19 crisis, the model is employed to discuss policy considerations related to unemployment beneffits
    Date: 2021–09
  4. By: George W. Evans (University of Oregon); Seppo Honkapohja (Aalto University School of Business); Kaushik Mitra (University of Birmingham)
    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: Stagnation Trap, Expectations, Fiscal Policy, Adaptive Learning, New-Keynesian Model
    JEL: E62 E63 E52 D84 E71
    Date: 2022–01
  5. By: Ruppert, Kilian; Schön, Matthias; Stähler, Nikolai
    Abstract: This paper assesses how a permanent shift from financing a public pay-as-you-go pension by direct (labour income) taxation towards financing it by indirect(consumption) taxation affects the economy and welfare. To this end, we use anoverlapping-generations-augmented two-region general equilibrium framework withsearch frictions on the labour market. The analysed tax reform partially shifts thetax burden from domestic to foreign producers and lowers marginal costs of domes-tic production and generates positive domestic macroeconomic effects. In addition,the partial postponement of a household's tax burden to retirement leads to highersavings and increases domestic assets. However, for some time after implementationof the tax reform, the policy-induced increase in consumption costs makes retireesand households close to retirement worse off. Moreover, the increase in domesticnet foreign assets implies that consumption of foreign households eventually falls,which stands in contrast to what is commonly found in models without an endoge-nous savings motive.
    Keywords: Fiscal devaluation,OLG models,Pension system,Optimal taxation
    JEL: E24 E62 H21 H55 J26
    Date: 2021
  6. By: William Barnett (Department of Economics, University of Kansas and Center for Financial Stability, New York City); Unal Eryilmaz (Ministry of Treasury and Finance, Ankara, Turkey)
    Abstract: We analyze determinacy in the baseline open-economy New Keynesian model developed by Gali and Monacelli (2005). We find that the open economy structure causes multifaceted behaviors in the system creating extra challenges for policy making. The degree of openness significantly affects determinacy properties of equilibrium under various forms and timing of monetary policy rules. Conditions for the uniqueness and local stability of equilibria are established. Determinacy diagrams are constructed to display the regions of unique and multiple equilibria. Numerical analyses are performed to confirm the theoretical results. Limit cycles and periodic behaviors are possible, but in some cases only for unrealistic parameter settings. Complex structures of open economies require rigorous policy design to achieve optimality.
    Keywords: Bifurcation; Determinacy; Dynamic systems; New Keynesian; Stability; Open economy; Taylor Principle
    JEL: C14 C22 C52 C61 C62 E32 E37 E61 L16
    Date: 2022–01
  7. By: Aurelien Eyquem (Univ Lyon, Université Lumière Lyon 2, GATE UMR 5824, F-69130 Ecully, France; Institut Universitaire de France.); Masahige Hamano (Faculty of Political Science and Economics, Waseda University, 1-6-1 Nishiwaseda Shinjuku-ku, Tokyo 169-8050, Japan.)
    Abstract: A tractable model with heterogeneous households is proposed to analyze the two-way interactions between demographic and macroeconomic variables. Total population and labor market participation are both endogenous and affected by economic as well as demographic factors.In addition, demographic factors have direct effects on aggregate productivity through selection effects on the labor market. We show that aging and negative fertility shocks have opposite predictions in terms of their effects on GDP per capita and aggregate productivity.A quantitative exercise based on Japanese data suggests that an aging shock alone has relatively little effects and falls short in replicating the data, while considering negative fertility shocks fits the data much better.
    Keywords: Heterogeneous workers, Aging, Productivity, Labor markets.
    JEL: E20 J11 J13 J21
    Date: 2021–02
  8. By: William Barnett (Department of Economics, University of Kansas and Center for Financial Stability, New York City); Giovanni Bella (University of Cagliari, Italy); Taniya Ghosh (Indira Gandhi Institute of Development Research, Mumbai, India); Paolo Mattana (University of Cagliari, Italy); Beatrice Venturi (University of Cagliari, Italy)
    Abstract: In a New Keynesian model, it is believed that combining active monetary policy using a Taylor rule with a passive fiscal rule can achieve local equilibrium determinacy. However, even with such policies, indeterminacy can occur from the emergence of a Shilnikov chaotic attractor in the region of the feasible parameter space. That result, shown by Barnett et al. (2021), implies that the presence of the Shilnikov chaotic attractor can cause the economy to drift towards and finally become stuck in the vicinity of lower-than-targeted inflation and nominal interest rates. The result can become the source of a liquidity trap phenomenon. We propose policy options for eliminating or controlling Shilnikov chaotic dynamics to help the economy escape from the liquidity trap or avoid drifting into it in the first place. We consider ways to eliminate or control the chaos by replacing the usual Taylor rule by an alternative policy design without interest rate feedback, such as a Taylor rule with monetary quantity feedback, an active fiscal policy rule with passive monetary rule, or an open loop policy without feedback. We also consider approaches that retain the Taylor rule with interest rate feedback and the associated Shilnikov chaos, while controlling the chaos through a well-known engineering algorithm using a second policy instrument. We find that a second instrument is needed to incorporate a long-run terminal condition missing from the usual myopic Taylor rule.
    Keywords: Shilnikov chaos criterion, Global indeterminacy, Long-term un-predictability, Liquidity trap, Long-run anchor.
    JEL: C61 C62 E12 E52 E63
    Date: 2022–01
  9. By: Habis, Helga; Perge, Laura
    Abstract: In this paper, we show that the capital asset pricing model can be derived from a three-period general equilibrium model. We show that our extended model yields a Pareto efficient outcome. This result indicates that the beta pricing formula could be applied in a long term model settings as well.
    Keywords: general equilibrium, CAPM, intertemporal choice, Pareto efficiency
    JEL: D15 D53 G12
    Date: 2022–01–18
  10. By: Laszlo Tetenyi
    Abstract: Developing countries typically integrate into the world economy by first opening up to trade and then later, if at all, by integrating their capital markets. I study the effects of postponing the opening of capital markets in a standard trade model with financial frictions and firm dynamics. As trade barriers fall, the model predicts that capital misallocation declines in the aggregate, but increases among exporters. Allowing capital inflows helps all firms but it also magnifies the losses from misallocation. In the quantitative experiment calibrated to the Hungarian integration episode of the 90s, the benefit of cheaper capital dominates the adverse effect of growing capital misallocation on productivity, leading to higher output, consumption, and welfare than under closed capital markets. Moreover, Hungary could have gained an extra 1 % in welfare, on top of the overall gain of 7 %, by immediately allowing capital inflows after the reduction in trade barriers.
    JEL: F15
    Date: 2021
  11. By: Iacopo Morchio
    Abstract: What are the returns in terms of children's skills development to child allowance policies? Answering this question requires a theory of the tradeoffs faced by households, as well as a realistic technology of skills formation. I build a model of parental choices which embeds the technology of cognitive and noncognitive skills formation estimated by Cunha et al. (2010), featuring risky investment in children, time use trade-offs, idiosyncratic income risk and borrowing constraints. Accounting for noncognitive skills implies higher effectiveness of parental investments, and therefore higher policy returns than previously estimated in the literature.
    Date: 2022–01–21
  12. By: Zhiguo He; Jian Li
    Abstract: The modern financial system features complicated financial intermediation chains, with each layer performing a certain degree of credit/maturity transformation. We develop a dynamic model in which an entrepreneur borrows from overlapping-generation households via layers of funds, forming a credit chain. Each intermediary fund in the chain faces rollover risks from its lenders, and the optimal debt contracts among layers are time invariant and layer independent. The model delivers new insights regarding the benefits of intermediation via layers: the chain structure insulates interim negative fundamental shocks and protects the underlying cash flows from being discounted heavily during bad times, resulting in a greater borrowing capacity. We show that the equilibrium chain length minimizes the run risk for any given contract and find that restricting credit chain length can improve total welfare once the available funding from households has been endogenized.
    JEL: D85 E44 E51 G21 G23 G33
    Date: 2022–01
  13. By: Hinterlang, Natascha; Martin, Anika; Röhe, Oke; Stähler, Nikolai; Strobel, Johannes
    Abstract: In this paper, we introduce a closed-economy version of the dynamicenvironmental multi-sector general equilibrium modelEMuSeto analyze the effects of financing a labor tax reduction through higher consumption, energy or emissions taxation.We find that, for sufficiently high environmental damage, using energy and emission taxes as the financing instrument eventually outperforms the use of consumption taxes due to a positive productivity-like shock. However, it takes time for the positive effects to materialize. Manufacturing, transportation and energy production sectors tend to lose (or gain only a little) while administration, services and research sectors tend to benefit from the implementation of an environmental taxation as a financing instrument. As demand shifts towards sectors less affected by the tax shift, the aggregate economic effects are different in the multi-sector economy compared to a conventional one-sector-economy framework.
    Keywords: EMuSe,Dynamic General Equilibrium Model,Sectoral Heterogeneity,Environmental Tax Policy,Input-Output Matrix
    JEL: E32 E50 E62 H32 Q58
    Date: 2021
  14. By: Kevin X. D. Huang; Munechika Katayama; Mototsugu Shintani; Takayuki Tsuruga
    Abstract: The search for new ideas by profit-seeking firms and knowledge spillovers are well-known and fundamental sources of modern economic growth. This paper examines the implications of idea production and knowledge capital for monetary business cycles. We construct a sticky-wage model where workers produce goods based on firm-specific knowledge capital and researchers develop new ideas aided by the economywide stock of knowledge. As a quantitatively small group in the economy, researchers are inconsequential for the real effects of monetary shocks when the returns to research are low. However, this intuitive conclusion can be overturned when the returns to research are high. In this situation, monetary shocks can have significant real effects as long as wages are sticky for researchers, even if wages are perfectly flexible for workers, who are quantitatively dominant in the economy.
    Date: 2022–02
  15. By: Brotherhood, Luiz; Kircher, Philipp (Université catholique de Louvain, LIDAM/CORE, Belgium); Santos, Cezar; Tertilt, Michele
    Abstract: This paper investigates the importance of the age composition in the Covid-19 pandemic. We augment a standard SIR epidemiological model with individual choices on work and non-work social distancing. Infected individuals are initially uncertain unless they are tested. We find that older individuals socially distance themselves substantially in equilibrium. An optimal lockdown then confines the young more. The strictness and economic costs of the optimal lockdown depend on whether or not individuals can telework. Testing and quarantines save lives, even if conducted just on the young. When some testing is available, the optimal lockdown is much lighter and GDP rises even compared with a no-policy benchmark.
    Keywords: Covid-19 ; testing ; social distancing ; age ; age-specific policies
    JEL: E17 C63 D62 I10 I18
    Date: 2021–04–01
  16. By: Davoine, Thomas (University of Applied Sciences Western Switzerland and Institute for Advanced Studies (IHS), Vienna, Austria)
    Abstract: Higher fertility slowly increases the workers-to-retirees ratio over the long run, which can ease the pension financing challenge brought about by population aging. It may or may not increase production per capita. Existing simulation studies all find a positive impact on public finances over the long run. They however differ on the impact on output per capita. Whether differences are due to model designs or country characteristics is unknown. Using the same macroeconomic model for a sample of 14 European countries, I find that the long-run pension deficits are reduced 27% on average, if one woman out of five had one more child in her lifetime. Variations across countries are small. On the other hand, I find that output per capita increases in all countries from my sample, with one exception. Differences in population structures, age-productivity profiles and pension systems can explain the exception. Fertility-promoting policies will always ease the public finance challenge due to population aging, but may worsen output per capita if pension payments are too loosely connected to earnings histories or if age-productivity profiles are very steep.
    Keywords: ertility, population aging, pensions, productivity profiles, computable general equilibrium
    JEL: C68 H55 J11 J13
    Date: 2022–02
  17. By: Luisa Corrado (University of Rome Tor Vergata, Italy); Aicha Kharazi (Free University of Bozen-Bolzano, Italy)
    Abstract: In this article, we integrate a collateral constraint into a model with heterogeneous agents to study the effect of collateral on wealth inequality. We use estimates from US microeconomic data and the simulated time series from our macro model to predict the wealth accumulation response at the top and bottom of the personal income distribution. Debt is modelled as collateral-dependent and its concentration poses a serious concern. Our results indicate that high collateral requirements benefit high-income more than low-income households.
    Keywords: Income distribution, household loans, collateral, inequality.
    JEL: E21 E25 D31 H31
    Date: 2022–01
  18. By: Khalil, Makram; Strobel, Felix
    Abstract: We investigate the extent to which the effect of the 2018/2019 US import tariff hikes on US (post-tariff) import prices was offset by the concurrent appreciation of the US dollar and trace the source of the appreciation back to US trade policy itself. The dollar response to trade policy uncertainty (TPU) is key to assessing the overall impact of trade policies. Within a SVAR framework, identified TPU shocks account for a sizable fraction of the USD appreciation - against a broad currency basket, but also against the Chinese yuan. To rationalize the SVAR evidence, we build an open economy NK model featuring financial frictions, which accounts for uncertainty regarding future trade policy. In the model, an increase in TPU raises the relative demand for safer US assets, triggering an appreciation of the US dollar. Moreover, in assessing the offsetting effects from the exchange rate,we use detailed product data on unit values of manufacturing imports and document that Chinese exporters react to an USD appreciation by markedly lowering their US dollar-denominated export prices. This holds in particular for intermediate goods producers, which had been the main target of US trade policy in 2018 and 2019. Overall, we find that offsetting effects on the newly imposed tariffs were substantial.
    Keywords: Trade policy uncertainty,safe-asset currency,two-country model with financial frictions,exchange rate pass-through to import prices,tariffs
    JEL: F31 F13 F14 F41 E31
    Date: 2021
  19. By: Philip J. Glandon; Kenneth Kuttner; Sandeep Mazumder; Caleb Stroup
    Abstract: How is macroeconomic research conducted and what is it trying to accomplish? We explore these questions using information gleaned from 1,894 articles published in ten leading journals. We find that over the past 40 years there has been a growing emphasis on increasingly sophisticated quantitative theory, such as DSGE modeling, and papers employing these methods now account for the majority of articles in macro journals. The shift towards quantitative theory is mirrored by a decline in the use of econometric methods to test economic hypotheses. Econometric techniques borrowed from applied microeconomics have to a large extent displaced time series methods, and empirical papers increasingly rely on micro and proprietary data sources. Market imperfections are pervasive, and the amount of research involving financial frictions has increased significantly in the past ten years. The frequency with which non-macro JEL codes appear in macro articles indicates a great deal of overlap between macroeconomics and other fields.
    JEL: A11 A14 B22 B41 E00
    Date: 2022–01

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