nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2023‒03‒06
ten papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. Unemployment Risk and Discretionary Fiscal Spending By Alex Grimaud
  3. Debt targets and fiscal consolidation in a two-country HANK model for the Euro Area By Xiaoshan Chen; Spyridon Lazarakis; Petros Varthalitis
  4. Effects of the fiscal rule and model assumptions on the response of inflation in the aftermath of a terms-of-trade shock By Mikhail Andreyev
  5. Toward a green economy: the role of central bank’s asset purchases By Ferrari, Alessandro; Landi, Valerio Nispi
  6. Labour Market Power and the Dynamic Gains to Openness Reforms By Priyaranjan Jha; Antonio Rodriguez-Lopez; Adam Hal Spencer
  7. Empirical DSGE model evaluation with interest rate expectations measures and preferences over safe assets By Gregory de Walque; Thomas Lejeune; Ansgar Rannenberg
  8. Back to the 1980s or Not? The Drivers of Inflation and Real Risks in Treasury Bonds By Carolin Pflueger
  9. Distortions, Producer Dynamics, and Aggregate Productivity: A General Equilibrium Analysis By Stephen Ayerst; Loren Brandt; Diego Restuccia
  10. Labor Supply Shocks and Capital Accumulation: The Short and Long Run Effects of the Refugee Crisis in Europe By Lorenzo Caliendo; Luca David Opromolla; Fernando Parro; Alessandro Sforza

  1. By: Alex Grimaud (Department of Economics, Vienna University of Economics and Business)
    Abstract: This paper studies the effects of discretionary fiscal policy responses to adverse aggregate shocks. For this, I build a tractable model where households face idiosyncratic unemployment risk in a Search-and-Matching (SaM) labor market with explicit intensive and extensive employment margins. Focusing on the spending side of fiscal stimuli, I investigate transitory increases in Unemployment Insurance (UI) benefits and public purchases. I show that the effects of transitory increases in fiscal spending largely depend on the state of the labor market and the type of adverse shock hitting the economy. At the aggregate level, the most welfare-improving fiscal stimuli appear to be rather small and over a long period. At the idiosyncratic level, welfare improvements are very unequally distributed. Front-loaded increases in fiscal spending may run into supply constraints and have important undesirable consequences. Fiscal stimuli through UI transfers are never Pareto efficient whereas fiscal stimuli through public purchases can be.
    Keywords: Search and matching, heterogeneous agents, UI transfers, unemployment risk, and fiscal spending
    JEL: E21 E24 E32 E62
    Date: 2023–02
  2. By: Xavier Ragot (ECON - Département d'économie (Sciences Po) - Sciences Po - Sciences Po - CNRS - Centre National de la Recherche Scientifique, OFCE - Observatoire français des conjonctures économiques (Sciences Po) - Sciences Po - Sciences Po)
    Abstract: This paper derives the optimal money injection at the Zero Lower Bound (ZLB), in a tractable model where households hold heterogeneous money holdings due to explicit financial frictions, such as limited participation and temporary binding credit constraints. This framework is motivated by recent empirical findings. A deleveraging shock generates deflationary pressure and a fall in the real interest rate, pushing the economy to the ZLB. The main result is that open-market operations can stabilize the economy at the ZLB whereas lump-sum money transfers cannot. Moreover, an optimal money injection does not avoid the economy being at the ZLB.
    Keywords: liquidity trap, zero lower bound, heterogeneous agents, optimal policy
    Date: 2023
  3. By: Xiaoshan Chen; Spyridon Lazarakis; Petros Varthalitis
    Abstract: This paper builds a two-country Heterogenous Agents New Keynesian (HANK) model for the Euro Area (EA). The two countries differ in the degree of public indebtedness, i.e., the Periphery has a relatively higher public debt-output ratio vis-Ã -vis the Core. The model captures some key features of the EA's cross- and within-country heterogeneity over the 2010-2020 period. We use this model as a vehicle to study fiscal consolidation policy and reforms of EA fiscal targets. We find that public debt asymmetry can explain qualitatively, and to some extent quantitatively, EA macroeconomic imbalances and within-country disparities. We find that a fiscal consolidation scenario that mimics the current EA institutional arrangements, i.e., the Maastricht Treaty and the Stability Growth Pact Agreement, would result in significant welfare losses, especially for the wealth-poor and wealth-median in the Periphery; the welfare losses amount to 2.42% and 2.21% of their lifetime consumption in the status quo stationary equilibrium, respectively. A revision of EA fiscal targets closer to their current values, e.g., 100% for the Periphery and 70% for the Core, does not generate a conflict of interest between wealth-rich and -poor households across and within countries. Thus, our analysis provides a strong rationale for reforming EA debt targets. Such reform could make more affordable fiscal consolidation for the large proportion of households in the Periphery, e.g., it reduces the welfare losses from 2.42% to 1.24% for the wealth-poor households in the Periphery. Surprisingly, a Core expansion (i.e., a higher public debt-output ratio) while the Periphery consolidates would not benefit a large proportion of households in the Periphery, especially those with relatively fewer asset holdings in the status quo stationary equilibrium. Such a reform generates a conflict of interest between the Core's households and the wealth-poor/median households in the Periphery. Furthermore, a hawkish monetary policy reaction against inflation during fiscal consolidation generates a conflict of interest between the wealth-rich in the union and the wealth-poor households in the Periphery. Such policy disproportionately benefits households who hold more assets in the status quo equilibrium. Regarding fiscal policy mix, fiscal consolidation via spending cuts instead of tax hikes disproportionally harms the households with relatively higher asset holdings in the status quo stationary equilibrium, but it is less harmful for the wealth-poor households in the Periphery.
    Keywords: Fiscal Consolidation, Debt Targets, Monetary Policy, Inequality, Welfare
    JEL: E21 H31 E52 E62 H50
    Date: 2023
  4. By: Mikhail Andreyev (Bank of Russia, Russian Federation)
    Abstract: Does a stabilization fiscal rule based on long-term resource prices and the formation of a sovereign wealth fund effectively reduce volatility of output, inflation, and exchange rate? Given that the previous fiscal rule in Russia has been violated since the beginning of 2022, what might the new fiscal rule look like and will it be effective? We tried to answer these questions using a dynamic stochastic general equilibrium model. A study shows that there are a number of economic parameters and types of fiscal rules under which the introduction of a mechanism for smoothing budget expenditures does not lead to a decrease in the volatility of some macroeconomic indicators. We have found that cases, when the introduction of a smoothing mechanism does not lead to a decrease in the volatility of output and the exchange rate, are rare and economically interpretable. As for the effect of the fiscal rule on inflation volatility, it turns out that it depends on many parameters such as such the design of the budget rule, the duration of price and wage contracts, and the presence of capital control. The fiscal rule, which operated until 2022 and used an external sovereign wealth fund, proved to be the most effective for stabilization purposes. In the new reality, with the impossibility of accumulating external reserves, the rule that saves additional oil and gas revenues within the country and uses the debt market to smooth budget revenues turned out to be the most effective and feasible.
    Keywords: DSGE model, fiscal rule, inflation, exchange rate pass-through, business cycle, commodity prices, fiscal policy, monetary policy
    JEL: D58 E47 E62 E63
    Date: 2022–12
  5. By: Ferrari, Alessandro; Landi, Valerio Nispi
    Abstract: We use a DSGE model to study the effectiveness of green-asset purchases by the central bank (Green QE), along the transition to a carbon-free economy driven by an emission tax, abstracting from price stability considerations. We find that Green QE helps to further reduce emissions, especially in the early stage of the transition. We find that a crucial parameter to determine the effectiveness of Green QE is the elasticity of substitution between the brown and the green good: the higher the elasticity the stronger the impact of the policy on emissions. JEL Classification: E52, E58, Q54
    Keywords: central bank, climate change, monetary policy, quantitative easing
    Date: 2023–02
  6. By: Priyaranjan Jha; Antonio Rodriguez-Lopez; Adam Hal Spencer
    Abstract: We develop a dynamic general equilibrium framework with firm heterogeneity and monopsonistic labour markets, for quantification of the impact of trade and FDI liberalisation episodes. Firms make standard extensive margin investment choices into exporting and multinational statuses. The labour market features upward-sloping supply curves and love of variety in employment. These features interact with the variable-fixed cost tradeoff of outward activity. We calibrate the model to U.S. data and study the effect of reductions in tariffs and outward FDI taxes in both bilateral and unilateral contexts, examining steady state and transitional effects. We compare the predictions of this model with a more standard version with perfectly competitive labour markets. Our headline finding is that the model with labour market power gives substantially different quantitative estimates to the perfectly competitive version. For instance, a bilateral trade liberalisation gives welfare gains that are over 10 times larger in the presence of monopsony power. Significant quantitative differences persist with a variety of robustness exercises.
    Keywords: monopsonistic labour market, trade liberalisation, love of firm variety, dynamics, foreign direct investment, corporate taxation
    JEL: F12 F13 F16 F23 F40 H25
    Date: 2023
  7. By: Gregory de Walque (Economics and Research Department, National Bank of Belgium); Thomas Lejeune (Economics and Research Department, National Bank of Belgium); Ansgar Rannenberg (Economics and Research Department, National Bank of Belgium)
    Abstract: We estimate a DSGE model with Preferences Over Safe Assets (POSA) on Euro Area macroeconomic data and interest rate expectations measures. The model with POSA has much better empirical fit than the otherwise identical model without, especially once interest rate expectations are added to the data set. Including measures interest rate expectations strongly improves the model forecast of GDP and its components, with the best forecast delivered by the POSA model. Finally, with POSA, ECB forward guidance increased GDP and inflation by 1.9 % and 0.1 percentage points by 2019Q4, respectively, much less than without POSA.
    Keywords: DSGE estimation with interest rate expectations in the data set, forecasting, forward guidance, preferences over safe assets
    JEL: E37 E43 E47 E52
    Date: 2023–02
  8. By: Carolin Pflueger
    Abstract: I use nominal and real bond risks as new moments to discipline a New Keynesian asset pricing model, where supply shocks, demand shocks, and monetary policy are the fundamental drivers of inflation. Endogenously time-varying risk premia imply that nominal bond risks—as measured by their stock market beta—are a forward-looking indicator of stagflation risks. Calibrating the model separately for the 1980s and the 2000s, I show that positive nominal bond betas in the 1980s resulted from a “perfect storm” of supply shocks and a reactive monetary policy rule, but not from either supply shocks or monetary policy in isolation.
    JEL: E0 E31 E40 G10 G12
    Date: 2023–02
  9. By: Stephen Ayerst; Loren Brandt; Diego Restuccia
    Abstract: The expansion in farm size is an important contributor to agricultural productivity in developed countries, but the reallocation process is hindered in less developed economies. How do distortions to factor reallocation affect farm dynamics and agricultural productivity? We develop a model of heterogeneous farms making cropping choices and investing in productivity improvements. We calibrate the model using detailed farm-level panel data from Vietnam, exploiting regional differences in agricultural institutions and outcomes. We focus on south Vietnam and quantify the effect of higher measured distortions in the North on farm choices and agricultural productivity. We find that the higher distortions in north Vietnam reduce agricultural productivity by 46%, accounting for around 70% of the observed 2.5-fold difference between regions. Moreover, two-thirds of the productivity loss is driven by farms' choice of lower productivity crops and reductions in productivity-enhancing investment, which more than doubles the productivity loss from factor misallocation.
    Keywords: Farm dynamics, productivity, size, distortions, misallocation, Vietnam.
    JEL: O11 O14 O4
    Date: 2023–02–16
  10. By: Lorenzo Caliendo; Luca David Opromolla; Fernando Parro; Alessandro Sforza
    Abstract: European countries experienced a large increase in labor supply due to the influx of Ukrainian refugees after the 2022 Russia invasion. We study its dynamic effects in a spatial model with forward-looking households of different skills, trade, and endogenous capital accumulation. We find that real GDP increases in Europe in the long term, with large distributional effects across countries and skill groups. In the short run, an increase in the supply of labor strains the use of capital structures that takes time to build. Over time, countries that build capital structures increase output, resulting in potential long run benefits.
    Date: 2023

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