nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2022‒09‒26
eight papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. On the macroeconomic and distributional effects of federal estate tax reforms in the United States By Pieter Van Rymenant; Freddy Heylen; Dirk Van de gaer
  2. Existence of Monetary Equilibrium for Overlapping Generations Economies with Satiated Agents By Ken Urai; Hiromi Murakami; Takahiro Moriya
  3. Consumption and Hours in the United States and Europe By Lei Fang; Fang Yang
  4. On the optimal design of transfers and income-tax progressivity By Axelle Ferrière; Philipp Grübener; Gaston Navarro; Oliko Vardishvili
  5. Infinite Debt Rollover in Stochastic Economies By Narayana R. Kocherlakota
  6. Flexible Average Inflation Targeting: How Much Is U.S. Monetary Policy Changing? By Jarod Coulter; Roberto Duncan; Enrique Martinez-Garcia
  7. Valuing Life over the Life Cycle By Pascal St-Amour
  8. Trade Credit and Sectoral Comovement during Recessions By Jorge Miranda-Pinto; Gang Zhang

  1. By: Pieter Van Rymenant; Freddy Heylen; Dirk Van de gaer (-)
    Abstract: This paper studies the effects of the sharp decline since 1980 in U.S. federal estate taxes on the past and future evolution of per capita growth, labor supply, the wealth-to-GDP ratio (capital-output ratio), the real interest rate, and cross-sectional wealth inequality and concentration. To do so, we construct, calibrate, and simulate a dynamic general equilibrium model featuring firms, a fiscal government, and overlapping generations of heterogeneous households connected via bequests and inter-vivos transfers. The model includes crucial elements in the debate on the effects of estate tax changes and accounts for structural developments in recent decades, such as demographic change and ‘skill-biased’ technological progress. It replicates key U.S. data since the 1960s quite well. We find that the studied estate tax reforms have not generated the desired positive effects on labor supply, private capital formation, and economic activity. Rather, they have contributed considerably to rising aftertax wealth inequality and concentration and explain a fraction of the long-term decline in the real interest rate. The key underlying result from our simulations is that the aggregate stocks of pre-tax wealth and pre-tax bequests are insensitive to changes in the estate tax, even when all households have an after-tax bequest motive. As a result, the foregone estate tax revenues are large.
    Keywords: Wealth inequality, economic growth, bequests, estate tax, OLG model
    JEL: E17 E21 E27 E62
    Date: 2022–09
  2. By: Ken Urai (Graduate School of Economics, Osaka University); Hiromi Murakami (Faculty of Economics, Otemon Gakuin University); Takahiro Moriya (Department of Economics, Stony Brook University)
    Abstract: This paper treats a general equilibrium existence problem on overlapping generations (OLG) economies with satiated agents and fiat money. The setting is important because it allows the analysis to incorporate Pareto optimality problems of the type where the value functions do not necessarily converge. For example, this is the case for optimal allocations such as a basic income under a budget deficit, which can only be realized with policies that require non-negative wealth transfers for all agents. Because of the existence of satiated agents, our argument can be identified with a dividend equilibrium (Aumann and Dreze 1986) or an equilibrium with slack (Mas-Colell 1992). For OLG settings, however, some conditions (like arguments for strictly positive endowments, resource relatedness and minimum wealth conditions with negative prices, and limit arguments for dividends) must be reconsidered. We note that by considering the OLG framework together with satiated agents, not only can the existence of a monetary equilibrium be assumed in advance, but the existence of a monetary equilibrium based on an arbitrary money supply is guaranteed. Taking into account that our setting includes production (without discount factor), the model here provides a basis for a wide range of difficult problems, including the player’s (equilibrium-dependent) survival problem, multi-sectoral capital accumulation, bequests, firm formation, and so on.
    Keywords: Dividend Equilibrium, Monetary Equilibrium, Overlapping Generations Economy, Satiation, Basic Income.
    JEL: C62 D51 E40
    Date: 2022–08
  3. By: Lei Fang; Fang Yang
    Abstract: We document large differences between the United States and Europe in allocations of expenditures and time for both market and home activities. Using a life-cycle model with home production and endogenous retirement, we find that the cross-country differences in consumption tax, social security system, income tax and TFP together can account for 68-95 percent of the cross-country variations and more than half of the average differences between Europe and the United States in aggregate hours and expenditures. These factors can also account well for the cross-country differences in allocations by age and generate substantially lower market hours in Europe for the age group of sixty and above as in the data. All the factors, except income tax, are quantitatively important for determining cross-country differences in expenditure allocations. While the differences in social security system and income tax are crucial in explaining the difference in market hours around retirement ages, TFP and consumption tax are more important for the difference in market hours for prime ages.
    Keywords: Consumption expenditure; home production; labor supply; fiscal policy
    JEL: E21 E62 J22 O57 H31
    Date: 2022–09–08
  4. By: Axelle Ferrière; Philipp Grübener; Gaston Navarro; Oliko Vardishvili
    Abstract: We study the optimal design of means-tested transfers and progressive income taxes. In a simple analytical model, we demonstrate an optimally negative relation between transfers and income-tax progressivity due to efficiency and redistribution concerns. In a rich dynamic model, we quantify the optimal plan with flexible tax-and-transfer functions. Transfers should be larger than currently in the U.S. and financed with moderate income-tax progressivity. Transfers are key to implement higher progressivity in average than in marginal tax-and-transfer rates, achieving redistribution while preserving efficiency. Quantitatively, the left tail of the income distribution determines optimal transfers, whereas the right tail determines income-tax progressivity.
    Keywords: Heterogeneous Agents; Fiscal Policy; Optimal Taxation; Redistribution
    JEL: E21 E62 H21 H23 H53
    Date: 2022–08–01
  5. By: Narayana R. Kocherlakota
    Abstract: This paper shows that there is more scope for a borrower to engage in a sustainable infinite debt rollover (a “Ponzi scheme”) when interest/growth rates are stochastic. In this context, I prove that the relevant “r vs. g” comparison uses the yield r_{long} to an infinite-maturity zero-coupon bond. I show that r_{long} is lower than the (risk-neutral) expectation of the short-term yield when it is variable, and that r_{long} is close to the minimal realization of the short-term yield when it is highly persistent. The paper applies these results to illustrative heterogeneous agent dynamic stochastic general equilibrium models to obtain weak sufficient conditions for the existence of public debt bubbles.
    JEL: E43 E52 E62
    Date: 2022–08
  6. By: Jarod Coulter; Roberto Duncan; Enrique Martinez-Garcia
    Abstract: One major outcome of the Federal Reserve’s 2019–20 framework review was the adoption of a Flexible Average Inflation Targeting (FAIT) strategy in August 2020. Using synthetic control methods, we document that U.S. inflation rose post-FAIT considerably more than predicted had the strategy not changed (an average of 1.18 percentage points during 2020:M8-2022:M2). To explore the extent to which targeting average inflation delayed the Fed’s response and contributed to post-FAIT inflation, we adopt a version of the open-economy New Keynesian model in Martínez-García (2021) and document the economic consequences of adopting alternative measures of average inflation as policy objectives. We document three additional major findings using this general equilibrium setup: First, depending on how far back and how much weight is assigned to past inflation misses, the policy outcomes under FAIT are similar to those under the pre-FAIT regime. Secondly, we find that the implementation of FAIT can have large effects over short periods of time as it tends to delay action. However, over longer periods of time—such as the 1984:Q1-2019:Q4 pre-FAIT period—its effects wash out and appear negligible. Finally, we find that different average inflation measures explain an average of 0.5 percentage points per quarter of the post-FAIT inflation surge, indicating that targeting average inflation by itself can only explain part of the inflation spike since August 2020.
    Keywords: Open-Economy New Keynesian Model; Monetary Policy; Flexible Average Inflation Targeting; Survey Expectations
    JEL: F41 F42 F47 E52 E58 E65
    Date: 2022–07–30
  7. By: Pascal St-Amour (University of Lausanne - School of Economics and Business Administration (HEC-Lausanne); Swiss Finance Institute)
    Abstract: The twin arguments of (i) protecting society's most vulnerable members (e.g. agents with pre-existing medical conditions, elders) from life-threatening complications and (ii) avoiding delicate medical triage decisions were often used to warrant the substantial reallocation of economic and health care resources during the COVID-19 pandemic. These justifications raise the non-trivial arbitrage between the value of lives saved by intervention vs (i) the opportunity cost of engaged resources and vs (ii) other present or future lives affected by prioritizing a single illness. This paper solves in closed- form a flexible life cycle (LC) model of consumption, leisure and health choices to characterize the shadow value of life along the (i) person-specific (age, health, labour income, wealth, preferences) and (ii) mortality risk-specific (beneficial vs detrimental, temporary vs permanent changes) dimensions. The model is calibrated to reproduce observed household LC dynamics and yields plausible out-of-sample life values with a quality-adjusted life year (QALY) estimates between 95 and 115K$ and a Value of Statistical Life (VSL) close to 6.0M$. It identifies symmetric willingness to pay (WTP) and to accept (WTA) compensation for one-shot beneficial vs detrimental changes in longevity. Permanent changes yield asymmetric responses with larger willingness in the gains relative to loss domain and larger selling (WTA) relative to buying (WTP) prices for longevity. Ageing lowers both the value of and responsiveness to changes in longevity via falling resources and health and marginal continuation utility of living.
    Keywords: Value of Human Life, Value of Statistical Life, Gunpoint Value, Deterministic Longevity Value, Hicksian Compensating and Equivalent Variations, Willingness to Pay, Willingness to Accept Compensation, Mortality, Longevity, Non-Expected Utility.
    JEL: J17 D15 G11
    Date: 2022–08
  8. By: Jorge Miranda-Pinto; Gang Zhang
    Abstract: We show that sectoral comovement did not change for any post-war US recession, with the only exception of the Great Recession. Using sector-level and firm-level data, we argue that this large increase was driven mainly by the endogenous response of firm-to-firm credit (trade credit). We then develop a multisector model with inputoutput linkages, financial frictions, and endogenous supply of trade credit and show that the financial shocks after Lehman Brothers’ collapse triggered a response of trade credit that can qualitatively and quantitatively account for the large shift in comovement. A model with fixed trade-credit, subject to the same productivity and financial shocks, generates no increase in comovement and implies a 20% smaller decline in GDP than in the endogenous case. In contrast, we show that trade credit in the other previous recessions acted as a cushion that mitigated negative sectoral spillovers.
    Date: 2022–08

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