nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2022‒05‒02
fourteen papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. When Household Heterogeneity Matters Optimal Fiscal Policy in a Medium-Scale TANK Model By François Courtoy
  2. Misallocation and Inequality By Guner, Nezih; Ruggieri, Alessandro
  3. Welfare Effects of Health Insurance Reform: The Role of Elastic Medical Demand By Reona Hagiwara
  4. A benefit of monetary policy response to inequality By Kengo NUTAHARA
  5. Inclusive Monetary Policy: How Tight Labor Markets Facilitate Broad-Based Employment Growth By Nittai K. Bergman; David Matsa; Michael Weber; Michael Weber
  6. The Lifetime Costs of Bad Health By De Nardi, Mariacristina; Pashchenko, Svetlana; Porapakkarm, Ponpoje
  7. Dynamic spatial general equilibrium By Kleinman, Benny; Liu, Ernest; Redding, Stephen J.
  8. The Alpha Beta Gamma of the Labor Market By Victoria Gregory; Guido Menzio; David Wiczer
  9. To freeze or not to freeze? Epidemic prevention and control in the DSGE model with agent-based epidemic component By Jagoda Kaszowska-Mojsa; Przemyslaw Wlodarczyk
  10. Rescue policies for small businesses in the COVID-19 recession By Di Nola, Alessandro; Kaas, Leo; Wang, Haomin
  11. Who killed business dynamism in the U.S.? By Bianca Barbaro; Giorgio Massari; Patrizio Tirelli
  12. Fast Simulation-Based Bayesian Estimation of Heterogeneous and Representative Agent Models using Normalizing Flow Neural Networks By Cameron Fen
  13. Discussion of estimating linearized heterogeneous agent models using panel data By Den Haan, Wouter J.
  14. The Incredible Taylor Principle By Pablo Andrés Neumeyer; Juan Pablo Nicolini

  1. By: François Courtoy (UNIVERSITE CATHOLIQUE DE LOUVAIN, Institut de Recherches Economiques et Sociales (IRES))
    Abstract: We investigate the role of household heterogeneity in terms of marginal propensity to consume and of labor income for the design of optimal fiscal policy over the business cycle. We estimate a two agent New-Keynesian (TANK) medium scale model introducing aggregate shocks as in Smets and Wouters (2007) and allowing idiosyncratic shocks to impact household behavior. We further ensure that the government can set lump sum transfers and distortionary taxes to redistribute across households and finance deficit fluctuations across the business cycle. Estimating the model with US data on household earnings shows limited influence on the estimated parameters of the model, however it identifies heterogeneity across household types as a key driving force of the business cycle. Using the estimated model we solve an optimal fiscal policy problem assuming that a benevolent government sets taxes and transfers under commitment. Under optimal policy, fiscal variables display considerable volatility and respond considerably to shocks to labor income at the low end of the distribution. These shocks are also important for the optimal policy model to match the properties of fiscal variables seen in the US data.
    Keywords: Optimal taxation, marginal propensity to consume, DSGE models, Bayesian estimation, Household Heterogeneity
    JEL: E32 E62 H21 H23 H31
    Date: 2022–04–05
  2. By: Guner, Nezih (Universitat Autònoma de Barcelona); Ruggieri, Alessandro (University of Nottingham)
    Abstract: For a large set of countries, we document how the labor earnings inequality varies with GDP per capita. As countries get richer, the mean-to-median ratio and the Gini coefficient decline. Yet, this decline masks divergent patterns: while inequality at the top of the earnings distribution falls, inequality at the bottom increases. We interpret these facts within a model economy with heterogeneous workers and firms, featuring industry dynamics, search and matching frictions, and skill accumulation of workers through learning-by-doing and on-the-job training. The benchmark economy is calibrated to the UK. We then study how the earnings distribution changes with distortions that penalize high-productivity firms and frictions that reduce match formation. Distortions and frictions reduce employment, average firm size, and GDP per capita. They also affect how much firms are willing to pay workers, how well high-skill workers are matched with high-productivity firms, and how much training workers receive. The model generates the observed cross-country relation between GDP per capita and earnings inequality, as well as a host of cross-country facts on firm size distribution, firms' training decisions, and workers' life-cycle and job tenure earnings profiles.
    Keywords: earnings inequality, labor market frictions, correlated distortions, human capital, on-the-job training, productivity, firm size, life-cycle earning proles
    JEL: E23 E24 J24 O11
    Date: 2022–03
  3. By: Reona Hagiwara (Economist, Institute for Monetary and Economic Studies, Bank of Japan (E-mail:
    Abstract: Some medical demand is inelastic to price changes, but not all. In assessing the effects of public health insurance reform on welfare, I examine the role of medical demand elasticity by developing a computational general equilibrium life-cycle model of the Japanese economy. The model features individual heterogeneity in health, income, and wealth. If all medical demand is inelastic, reforming public health insurance by increasing copayments reduces welfare for all current generations. However, if some medical demand is elastic, as is empirically observed, such a reform would improve welfare for current young generations, including those with poor health and low income. Furthermore, future generations benefit from the reform and their welfare increases significantly.
    Keywords: Copayment Increase, Price Elasticity of Medical Demand, Welfare Effects, Overlapping Generations
    JEL: E21 H51 I13 I31
    Date: 2022–04
  4. By: Kengo NUTAHARA
    Abstract: The main objective of this paper is to investigate a monetary policy response to inequality in a Two-Agent New Keynesian (TANK) model with hand-to-mouth households. I derive the analytical condition for equilibrium determinacy and show that a monetary policy response to inequality is helpful in achieving equilibrium de terminacy. On the other hand, the impulse responses to structural shocks show that a monetary policy response to inequality does not necessarily reduce the volatilities of both inflation and output although it mitigates the volatility of inequality.
    Keywords: Inequality; monetary policy; TANK; hand-to-mouth; equilibrium in determinacy JEL classifications: E25; E31; E32; E52; E58
    Date: 2022–04
  5. By: Nittai K. Bergman; David Matsa; Michael Weber; Michael Weber
    Abstract: This paper analyzes the heterogeneous effects of monetary policy on workers with differing levels of labor force attachment. Exploiting variation in labor market tightness across metropolitan areas, we show that the employment of populations with lower labor force attachment—Blacks, high school dropouts, and women—is more responsive to expansionary monetary policy in tighter labor markets. The effect builds up over time and is long lasting. We develop a New Keynesian model with heterogeneous workers that rationalizes these results. The model shows that expansionary monetary shocks lead to larger increases in the employment of less attached workers when the central bank follows an average inflation targeting rule and when the Phillips curve is flatter. These findings suggest that, by tightening labor markets, the Federal Reserve’s recent move from a strict to an average inflation targeting framework especially benefits workers with lower labor force attachment.
    Keywords: monetary policy, labor markets, heterogeneous agents, federal reserve
    JEL: E12 E24 E31 E43 E52 E58 J24
    Date: 2022
  6. By: De Nardi, Mariacristina; Pashchenko, Svetlana; Porapakkarm, Ponpoje
    Abstract: What generates the observed differences in economic outcomes by health? How costly it is to be unhealthy? We show that health dynamics are largely driven by ex-ante fixed heterogeneity, or health types, even when controlling for one’s past health history. In fact, health types are the key driver of long spells of bad health. We incorporate these rich health dynamics in an estimated structural model and show that health types and their correlation with other fixed characteristics are important to account for the observed gap in economic outcomes by health. Monetary and welfare losses due to bad health over the life cycle are large, concentrated, and to a large extent due to factors pre-determined earlier in life. A large portion of the related monetary costs is due to income losses, especially for people of working age, while a substantial portion of the welfare losses arises because health affects life expectancy.
    Keywords: health, health insurance, medical spending, wealth-health gradient, life-cycle models
    JEL: E21 I14
    Date: 2022–03–19
  7. By: Kleinman, Benny; Liu, Ernest; Redding, Stephen J.
    Abstract: We develop a dynamic spatial general equilibrium model with forward-looking investment and migration decisions. We characterize analytically the transition path of the spatial distribution of economic activity in response to shocks. We apply our framework to the re-allocation of US economic activity from the Rust Belt to the Sun Belt from 1965-2015. We find slow convergence to steady-state, with US states closer to steady-state at the end of our sample period than at its beginning. We find substantial heterogeneity in the effects of local shocks, which depend on capital and labor dynamics, and the spatial and sectoral incidence of these shocks.
    Keywords: spatial dynamics; economic geography; trade; migration
    JEL: F14 F15 F50
    Date: 2021–07–28
  8. By: Victoria Gregory; Guido Menzio; David Wiczer
    Abstract: Using a large panel dataset of US workers, we calibrate a search-theoretic model of the labor market, where workers are heterogeneous with respect to the parameters governing their employment transitions. We first approximate heterogeneity with a discrete number of latent types, and then calibrate type-specific parameters by matching type-specific moments. Heterogeneity is well approximated by 3 types: as, ßs and ?s. Workers of type a find employment quickly because they have large gains from trade, and stick to their jobs because their productivity is similar across jobs. Workers of type ? find employment slowly because they have small gains from trade, and are unlikely to stick to their job because they keep searching for jobs in the right tail of the productivity distribution. During the Great Recession, the magnitude and persistence of aggregate unemployment is caused by ?s, who are vulnerable to shocks and, once displaced, they cycle through multiple unemployment spells before finding stable employment.
    Keywords: Search frictions, Unemployment, Business Cycles
    JEL: E24 O40 R11
    Date: 2022–04
  9. By: Jagoda Kaszowska-Mojsa (Institute of Economics Polish Academy of Sciences); Przemyslaw Wlodarczyk (University of Lodz)
    Abstract: The ongoing epidemic of COVID-19 raises numerous questions concerning the shape and range of state interventions, that are aimed at reduction of the number of infections and deaths. The lockdowns, which became the most popular response worldwide, are assessed as being an outdated and economically inefficient way to fight the disease. However, in the absence of efficient cures and vaccines they lack viable alternatives. In this paper we assess the economic consequences of epidemic prevention and control schemes that were introduced in order to respond to the COVID-19 outburst. The analyses report the results of epidemic simulations obtained with the agent-based modeling methods under different response schemes and use them in order to provide conditional forecasts of standard economic variables. The forecasts are obtained from the DSGE model with labour market component.
    Keywords: COVID-19, agent-based modelling, dynamic stochastic general equilibrium models, scenario analyses
    JEL: C6 D5
    Date: 2020–11–10
  10. By: Di Nola, Alessandro; Kaas, Leo; Wang, Haomin
    Abstract: While the COVID-19 pandemic had a large and asymmetric impact on firms, many countries quickly enacted massive business rescue programs which are specifically targeted to smaller firms. Little is known about the effects of such policies on business entry and exit, factor reallocation, and macroeconomic outcomes. This paper builds a general equilibrium model with heterogeneous and financially constrained firms in order to evaluate the short- and long-term consequences of small firm rescue programs in a pandemic recession. We calibrate the stationary equilibrium and the pandemic shock to the U.S. economy, taking into account the factual Paycheck Protection Program (PPP) as a specific grant policy. We find that the policy has only a small impact on aggregate employment because (i) jobs are saved predominately in less productive firms that account for a small share of employment and (ii) the grant induces a reallocation of resources away from larger and less impacted firms. Much of this reallocation happens in the aftermath of the pandemic episode. While a universal grant reduces the firm exit rate substantially, a targeted policy is not only more cost-effective, it also largely prevents the creation of "zombie firms" whose survival is socially inefficient.
    Keywords: COVID-19,Heterogeneous Firms,Business Subsidies,Paycheck Protection Program
    JEL: E22 E65 G38 H25
    Date: 2022
  11. By: Bianca Barbaro; Giorgio Massari; Patrizio Tirelli
    Abstract: We estimate a business cycle model with endogenous firm dynamics and stochastic growth. The decline in the entry rate was essentially the consequence of a persistent combination of adverse (favorable) productivity shocks to potential entrants (incumbents). The model-predicted long-term increase in price markups did not play a significant role. The extensive margin allows to rationalize the procyclical pattern of TFP growth and its long-term decline. In spite of the "Schumpeterian" structure of the model, not all recessions had a "cleansing" effect, because the combination of shocks associated to the specific episodes had different effects on TFP dispersion.
    Date: 2022–03
  12. By: Cameron Fen
    Abstract: This paper proposes a simulation-based deep learning Bayesian procedure for the estimation of macroeconomic models. This approach is able to derive posteriors even when the likelihood function is not tractable. Because the likelihood is not needed for Bayesian estimation, filtering is also not needed. This allows Bayesian estimation of HANK models with upwards of 800 latent states as well as estimation of representative agent models that are solved with methods that don't yield a likelihood--for example, projection and value function iteration approaches. I demonstrate the validity of the approach by estimating a 10 parameter HANK model solved via the Reiter method that generates 812 covariates per time step, where 810 are latent variables, showing this can handle a large latent space without model reduction. I also estimate the algorithm with an 11-parameter model solved via value function iteration, which cannot be estimated with Metropolis-Hastings or even conventional maximum likelihood estimators. In addition, I show the posteriors estimated on Smets-Wouters 2007 are higher quality and faster using simulation-based inference compared to Metropolis-Hastings. This approach helps address the computational expense of Metropolis-Hastings and allows solution methods which don't yield a tractable likelihood to be estimated.
    Date: 2022–03
  13. By: Den Haan, Wouter J.
    Abstract: The techniques proposed in Papp and Reiter (2020) allow the use of cross-sectional and aggregate data observed at different frequencies in the estimation of dynamic stochastic macroeconomic models. However, the question is whether technique is getting ahead of what is sensible in terms of currently available empirical strategies to estimate macroeconomic models which are – without exception – misspecified.
    Keywords: heterogeneous agents; misspecification; solution techniques
    JEL: J1
    Date: 2020–06–01
  14. By: Pablo Andrés Neumeyer; Juan Pablo Nicolini
    Abstract: This note addresses the role of the Taylor principle to solve the indeterminacy of equilibria in economies in which the monetary authority follows an interest rate rule. We first study the role of imposing two additional ad-hoc restrictions on the definition of equilibrium. Imposing the equilibrium to be locally unique never delivers a unique outcome. Imposing the equilibrium to be bounded, renders the outcome unique only if the inflation target is the Friedman rule. Second, we show that the Taylor principle is strongly time inconsistent - in a sense we make very precise - and that policies that implement the Friedman rule are the only sustainable policies.
    Keywords: Taylor principle; Uniqueness of equilibrium; Time consistency
    JEL: E40 E50
    Date: 2022–01–28

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