nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2022‒05‒09
eighteen papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Job Search Intensity and Wage Rigidity in Business Cycles By Yuki Uemura
  2. Constrained Efficient Borrowing with Sovereign Default Risk By Juan Carlos Hatchondo; Leonardo Martinez; Francisco Roch
  3. Dynamic and Stochastic Search Equilibrium By Camilo Morales-Jimenez
  4. The Inverted Leading Indicator Property and Redistribution Effect of the Interest Rate By Patrick A. Pintus; Yi Wen; Xiaochuan Xing
  5. Macroeconomic Drivers and the Pricing of Uncertainty, Inflation, and Bonds By Brandyn Bok; Thomas M. Mertens; John C. Williams
  6. Fiscal policy shocks and international spillovers By Sarah Brown; Ayobami E. Ilori; Juan Paez-Farrell; Christoph Thoenissen
  7. Intergenerational Risk Sharing with Market Liquidity Risk By Daniel Dimitrov
  8. The Ramsey Steady State Conundrum in Heterogeneous-Agent Economies By YiLi Chien; Yi Wen
  9. The Macroeconomic Effects of Funding U.S. Infrastructure By James Malley; Apostolis Philippopoulos; Jim Malley
  10. Causal Discovery of Macroeconomic State-Space Models By Emmet Hall-Hoffarth
  11. Optimal Unemployment Insurance Requirements By Gustavo de Souza; Andre Luduvice
  12. A Cautionary Tale of Fat Tails By Dave, Chetan; Dressler, Scott; Malik, Samreen
  13. Can the Stochastic Discount Factor Explain Unemployment Fluctuations? By Bingsong Wang
  14. Automation, Market Concentration, and the Labor Share By Hamid Firooz; Zheng Liu; Yajie Wang
  15. Fiscal Consolidation Plans with Underground Economy By Maria Ferrara; Elisabetta Marzano; Monica Varlese
  16. Heterogeneous Paths to Stability By Edoardo Di Porto; Cristina Tealdi
  17. Sources of Wage Growth By Adda, Jérôme; Dustmann, Christian
  18. Energy Efficiency and Directed Technical Change: Implications for Climate Change Mitigation By Gregory P. Casey

  1. By: Yuki Uemura (Graduate School of Economics, Kyoto University)
    Abstract: This paper examines the job search behavior of unemployed workers over the business cycle. The paper first constructs a standard search and matching model with endogenous search efforts, wage rigidity, and a generalized matching function. Contrary to the existing literature, the proposed model generates both procyclical and countercyclical search intensity, depending on the degree of wage rigidity and the elasticity parameter of the matching function. The paper then calibrates the model to the U.S. economy and provides various impulse response analyses. The numerical exercises show that the model successfully and simultaneously reproduces countercyclical search efforts and sizable labor market fluctuations.
    Keywords: search intensity; business cycles; wage rigidity; unemployment fluctuations
    JEL: E24 E32 J64
    Date: 2022–04
  2. By: Juan Carlos Hatchondo (University of Western Ontario); Leonardo Martinez (IMF); Francisco Roch (IMF)
    Abstract: Using a quantitative sovereign default model, we characterize constrained efficient borrowing by a Ramsey government that commits to income-history-contingent borrowing paths taking as given ex-post optimal future default decisions. The Ramsey government improves upon the Markov government because it internalizes the effects of borrowing decisions in period t on borrowing opportunities prior to t. We show the effect of borrowing decisions in t on utility flows prior to t can be encapsulated by two single dimensional variables. Relative to a Markov government, the Ramsey government distorts borrowing decisions more when bond prices are more sensitive to borrowing, and changes in bond prices have a larger effect on past utility. In a quantitative exercise, more than 80% of the default risk is eliminated by a Ramsey government, without decreasing borrowing. The Ramsey government also has a higher probability of completing a successful deleveraging (without defaulting), while smoothing out the fiscal consolidation.
    Keywords: Sovereign Default, Long-term Debt, Time Inconsistency, Dbt Dilution, Deleveraging, Austerity, Debt Management, Fiscal Rules
    JEL: F34 F41
    Date: 2022–03
  3. By: Camilo Morales-Jimenez
    Abstract: I study the business cycle properties of wage posting models with random search, for which the distributions of employment and wages play a nontrivial role for the equilibrium path. In fact, the main result of this paper is that the distribution of firms is one of the most important elements to understand business cycle fluctuations in the labor market. The distribution of firms (1) determines which shocks are relevant for the labor market, (2) implies that wage rigidity does not significantly amplify shocks, and (3) puts discipline on the relative value of the flow opportunity cost of employment. To assess these type of models quantitatively, I propose a new algorithm that finds the steady state and computes transitional dynamics rapidly. Hence, integrating wage posting models with random search to larger models becomes possible (and easy) with this new algorithm.
    Keywords: Wage Posting; Search and Matching; Stochastic Simulations
    JEL: E24 E25 E32 J31
    Date: 2022–03–31
  4. By: Patrick A. Pintus (Aix Marseille Univ, CNRS, AMSE, Marseille, France); Yi Wen (Shanghai Jiao Tong University Antai College of Economics and Management: Shanghai, Xuhui District, CN); Xiaochuan Xing (Yale University)
    Abstract: The interest rate at which US firms borrow funds has two features: (i) it moves in a countercyclical fashion and (ii) it is an inverted leading indicator of real economic activity: low interest rates today forecast future booms in GDP, consumption, investment, and employment. We show that a Kiyotaki-Moore model accounts for both properties when interest-rate movements are driven, in a significant way, by self-fulfilling belief shocks that redistribute income away from lenders and to borrowers during booms. The credit-based nature of such self-fulfilling equilibria is shown to be essential: the dynamic correlation between current loanable funds rate and future aggregate economic activity depends critically on the property that the interest rate is state-contingent. Bayesian estimation of our benchmark DSGE model on US data shows that the model driven by redistribution shocks results in a better fit to the data than both standard RBC models and Kiyotaki-Moore type models with unique equilibrium.
    Keywords: endogenous collateral constraints, state-contingent interest rate, redistribution shocks, multiple equilibria
    JEL: E21 E22 E32 E44 E63
    Date: 2022–04
  5. By: Brandyn Bok; Thomas M. Mertens; John C. Williams
    Abstract: This paper analyzes a new stylized fact: The correlation between uncertainty shocks and changes in inflation expectations has declined and turned negative over the past quarter century. It rationalizes this fact within a standard New Keynesian model with a lower bound on interest rates combined with a decline in the natural rate of interest. With a lower natural rate, the likelihood of the lower bound binding increased and the effects of uncertainty on the economy became more pronounced. In such an environment, increases in uncertainty raise the possibility that the central bank will be unable to eliminate inflation shortfalls following negative demand shocks. As a result, the observed decline in the correlation between uncertainty and inflation expectations emerges. Average-inflation targeting policies can mitigate the longer-run effects of increases in uncertainty on the real economy.
    Keywords: interest; uncertainty; inflation; equilibrium; lower bound; shocks; liquidity
    JEL: E52
    Date: 2022–04–01
  6. By: Sarah Brown (Department of Economics, University of Sheffield, UK and IZN Bonn); Ayobami E. Ilori (University of East Anglia.); Juan Paez-Farrell (Department of Economics, University of Sheffield, UK); Christoph Thoenissen (Department of Economics, University of Sheffield, UK and CAMA)
    Abstract: The domestic and international transmission mechanism of fiscal policy shocks are analysed in large developed economies. Using a Bayesian VAR approach, we find that fiscal expansions are associated with increases in output, private consumption and, in many cases, with an in- crease in private investment. The terms of trade, which affect the international transmission of fiscal policy shocks, are found to depreciate in response to a fiscal expansion, thus transferring some of the increased domestic purchasing power abroad. A US government spending shock is expansionary for all non-US G7 members. A German government spending shock is expansion- ary for most, but not all European economies, both within and outside the Euro Area. The dynamics of the BVAR are rationalised using a dynamics stochastic general equilibrium model where heterogeneous households and firms face borrowing constraints.
    Keywords: Fiscal policy, Bayesian VAR, DSGE modelling, International business cycles, spillovers
    JEL: E62 F41 F42
    Date: 2020–11
  7. By: Daniel Dimitrov (University of Amsterdam)
    Abstract: This paper examines the optimal allocation of risk across generations whose savings mix is subject to illiquidity in the form of uncertain trading costs. We use a stylised two-period OLG framework, where each generation makes a portfolio allocation decision for retirement, and show that illiquidity reduces the range of transferable shocks between generations and thus lowers the benefits of risk-sharing. Higher illiquidity then may justify higher levels of risk sharing to compensate for the trading friction. We still find that a contingent transfers policy based on a reasonably parametrised savings portfolio with liquid and illiquid assets increased aggregate welfare.
    Keywords: intergenerational risk sharing, (il)liquidity, stochastic overlapping generations, funded pension plan
    JEL: G11 G23 E21 H55
    Date: 2022–03–30
  8. By: YiLi Chien; Yi Wen
    Abstract: In infinite horizon, heterogeneous-agent and incomplete-market models, the existence of an interior Ramsey steady state is often assumed instead of proven. This paper demonstrates the critical importance of proving the existence of the Ramsey steady state when conducting theoretical or numerical analysis on optimal fiscal policies. We use an analytically tractable heterogeneous-agent model to make our point by showing that the conditions for the existence of an interior Ramsey steady state are quite sensitive to structural parameter values. In particular, we show that researchers may draw fundamentally misleading conclusions from their analysis when an interior Ramsey steady state does not exist but is erroneously assumed to exist.
    Keywords: Optimal Fiscal Policy; Ramsey Problem; Incomplete Markets; Heterogeneous Agents
    JEL: E13 E62 H21 H30
    Date: 2022–04–14
  9. By: James Malley; Apostolis Philippopoulos; Jim Malley
    Abstract: This paper quantitatively assesses the macroeconomic effects of the recently agreed U.S. bipartisan infrastructure spending bill in a neoclassical growth model. We add to the literature by considering a more detailed tax structure, different types of infrastructure spending and linkages between the final and intermediate goods sectors. We find that infrastructure spending cannot fully pay for itself despite public and private capital being underprovided. We further find long-run output multipliers above unity if infrastructure spending and rising public debt are financed by consumption, dividend and labour income taxes and below one for corporate taxes. We also show that except for the consumption tax, the size of the multipliers critically depends on the Frisch labour supply elasticity. Finally, when we compute differences in welfare across different public financing regimes, the net welfare gains and losses are relatively minor.
    Keywords: infrastructure investment, public capital, fiscal multipliers, taxation
    JEL: E62 H41 H54
    Date: 2022
  10. By: Emmet Hall-Hoffarth
    Abstract: This paper presents a set of tests and an algorithm for agnostic, data-driven selection among macroeconomic DSGE models inspired by structure learning methods for DAGs. As the log-linear state-space solution to any DSGE model is also a DAG it is possible to use associated concepts to identify a unique ground-truth state-space model which is compatible with an underlying DGP, based on the conditional independence relationships which are present in that DGP. In order to operationalise search for this ground-truth model, the algorithm tests feasible analogues of these conditional independence criteria against the set of combinatorially possible state-space models over observed variables. This process is consistent in large samples. In small samples the result may not be unique, so conditional independence tests can be combined with likelihood maximisation in order to select a single optimal model. The efficacy of this algorithm is demonstrated for simulated data, and results for real data are also provided and discussed.
    Date: 2022–04
  11. By: Gustavo de Souza; Andre Luduvice
    Abstract: In the US, unemployed workers must satisfy two requirements to receive unemployment insurance (UI): a tenure requirement that stipulates the minimum qualifying work spell and a monetary requirement that determines a past minimum wage. This paper develops a heterogeneous agents model with history-dependent UI benefits in order to quantitatively obtain an optimal UI program design. We first conduct an empirical analysis using the discontinuity of UI rules at state borders and find that both the monetary and the tenure requirement reduce unemployment. The monetary requirement decreases the number of employers and the share of part-time workers, while the tenure requirement has the opposite effect. We then use a quantitative model to rationalize these results. When the tenure requirement is long, workers tend to accept more low paying jobs to become eligible for UI sooner and to protect themselves from risk, while the monetary requirement works conversely. We show that, because it mitigates moral hazard, the monetary requirement can generate higher welfare levels than an increase in the length of the tenure requirement.
    Keywords: Unemployment Insurance; UI Eligibility; Optimal UI
    JEL: E24 E61 J65
    Date: 2022–04–19
  12. By: Dave, Chetan (University of Alberta, Department of Economics); Dressler, Scott (Villanova University); Malik, Samreen (New York University Abu Dhabi)
    Abstract: Several macroeconomic time series exhibit excess kurtosis or “Fat Tails” possibly due to rare but large shocks (i.e., tail events). We document the extent to which tail events are attributable to long-run growth shocks. We show that excess kurtosis is not a uniform characteristic of postwar US data, but attributable to episodes containing well-documented growth shocks. A general equilibrium model captures these observations assuming Gaussian business-cycle shocks and a single growth shock from various sources. The model matches the data best with a growth shock to labor productivity while investment-specific technology shocks drive cycles.
    Keywords: fat tails; growth shocks; real business cycles
    JEL: E00 E30
    Date: 2022–03–24
  13. By: Bingsong Wang (Department of Economics, University of Sheffield, UK)
    Abstract: Recent developments in Macro-labor show that discount rates may play an important role in unemployment fluctuations. This paper examines this hypothesis by using a standard search model of equilibrium unemployment with the canonical consumption-based stochastic discount factor. When the discount rate is inferred from data on real consumption in the U.S., little fluctuations in unemployment are generated from the model. Moreover, a counterfactual positive correlation between consumption growth and unemployment emerges from the model. This contradicts the post-war U.S. data. Those results hold even if the model contains habit formation in consumption and the wage is assumed to be invariant to discounts. The paper also studies the role of other factors in amplifying the impact of the discount rate shock, including endogenous job separation, variations in firms’ profit per worker and the risk premium.
    Keywords: search frictions; discount rates; unemployment fluctuations
    JEL: E23 E24 E32 J24 J31 J41 J63
    Date: 2022–04
  14. By: Hamid Firooz; Zheng Liu; Yajie Wang
    Abstract: Since the early 2000s, a rising share of production has been concentrated in a small number of superstar firms. We argue that the rise of automation technologies and the cross-sectional variation of robot use rates have contributed to the increases in industrial concentration. Motivated by empirical evidence, we build a general equilibrium model with heterogeneous firms, endogenous automation decisions, and variable markups. Firms choose between two types of technologies, one uses workers only and the other uses both workers and robots subject to an idiosyncratic fixed cost of robot operation. Larger firms are more profitable and are thus more likely to choose the automation technology. A decline in the cost of robot adoption increases the relative automation usage by large firms, raising their market share of sales. However, the employment share of large firms does not increase as much as the sales share because the expansion of large firms relies more on robots than on workers. Our calibrated model predicts a cross-sectional distribution of automation usage in line with firm-level data. The model also implies that a decline in automation costs reduces the labor income share and raises the average markup, both driven by between-firm reallocation, consistent with empirical evidence.
    Keywords: automation; market concentration; labor share; markup; reallocation; heterogeneous firms
    JEL: E24 L11 O33
    Date: 2022–04–01
  15. By: Maria Ferrara; Elisabetta Marzano; Monica Varlese
    Abstract: Fiscal consolidation literature often neglects that there are economies with a sizable underground sector and that most of time it is accounted in GDP statistics. This produces non negligible effects on fiscal multipliers. This paper explores a fiscal consolidation plan calling for a downsizing of the underground sector as well. The analysis refers to the Italian economy that, among European countries, is the second for high public debt and has one of the highest size of tax evasion. Results show that it is possible to both reduce public debt and tax evasion through a temporary cut in public spending associated with a permanent drop in tax rates. In this context a reallocation of resources from the underground to market sector operates.
    Keywords: fiscal consolidation plans, underground economy, DSGE modelling
    JEL: E26 E32 E62 E63 H26
    Date: 2022
  16. By: Edoardo Di Porto (CSEF, INPS DCSR, Università di Napoli Federico II, and UCFS University of Uppsala.); Cristina Tealdi (Heriot-Watt University and IZA Institute of Labor)
    Abstract: We investigate how the flexibility of temporary contracts affects the probability of young workers to be upgraded into permanent employment. Theoretically, we explore the workers’ career development in response to the change in flexibility within a search and matching model; empirically, we exploit an Italian labour market reform which increased flexibility in a difference in differences framework. We find that new entrants in the labour market who have been affected by the reform experienced a decrease in the conversion rate of approximately 12.5 percentage points in the first months after the reform, and of 5.1 percentage points over a year, compared to unaffected peers. This effect is particularly strong among women and low-educated workers employed in low productive firms in the Center/South of Italy. Worryingly, the lower conversion rate leads to a 25% wage penalty even two years down the workers’ career paths.
    Keywords: temporary contracts, young workers, flexibility, institutional reforms, employment protection legislation.
    JEL: J41 J63 J64
    Date: 2022–04–27
  17. By: Adda, Jérôme (Bocconi University); Dustmann, Christian (University College London)
    Abstract: This paper investigates the sources of wage growth over the life cycle, where individuals have the possibility to acquire vocational training at the start of their career. Wage growth is determined by sectoral and firm mobility, unobserved ability and the accumulation of human capital. Workers may move between two occupational sectors that require cognitive-abstract (CA) and routine-manual (RM) skills, and job mobility is induced by non-pecuniary job attributes and persistent firm-worker productivity matches. Estimating this model using longitudinal administrative data over three decades, we show that RM skills are a key driver of early wage growth while CA skills become important later on. Moreover, job amenities are an important determinant of mobility decisions. Vocational training has long term effects on career outcomes, affecting the type and quality of matches, with substantial internal rates of return both to the individual as well as society.
    Keywords: wage determination, learning by doing, job mobility, apprenticeship training
    JEL: J2 J3 J6
    Date: 2022–03
  18. By: Gregory P. Casey
    Abstract: I build a quantitative model of economic growth that can be used to evaluate the impact of environmental policy interventions on final-use energy consumption, an important driver of carbon emissions. In the model, energy demand is driven by directed technical change. Energy supply is subject to increasing extraction costs. The model is consistent with aggregate evidence on energy use, efficiency, and prices in the United States, as well as the standard balanced growth facts. I use the model to conduct several policy analyses. First, I examine the impact of energy taxes and compare the results to the standard Cobb-Douglas approach used in the environmental macroeconomics literature. Second, I investigate how the government can use energy taxes and R&D policy to implement the least-cost path that achieves an environmental target. Finally, I study the dynamic impacts of exogenous improvements in energy efficiency and R&D subsidies for energy efficiency, focusing on the role of rebound. All analyses highlight the importance of transition dynamics.
    Keywords: energy, climate change, directed technical change, growth
    JEL: H23 O33 O44 Q43 Q55
    Date: 2022

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