nep-dge New Economics Papers
on Dynamic General Equilibrium
Issue of 2023‒03‒20
twelve papers chosen by
Christian Zimmermann
Federal Reserve Bank of St. Louis

  1. How well do DSGE models with real estate and collateral constraints fit the data? By Alban Moura; Olivier Pierrard
  2. How Do Adaptive Learning Expectations Rationalize Stronger Monetary Policy Response in Brazil? By Hou Wang; Allan Dizioli
  3. Aging Population and Technology Adoption By Daniele Angelini
  4. Effects of foreign and domestic central bank government bond purchases in a small open economy DSGE model: Evidence from Sweden before and during the coronavirus pandemic By Akkaya, Yildiz; Belfrage, Carl-Johan; Di Casola, Paola; Strid, Ingvar
  5. Monetary policy and the drifting natural rate of interest By Daudignon, Sandra; Tristani, Oreste
  6. Labour market power and the dynamic gains to openness reforms By Priyaranjan Jha; Antonio Rodriguez-Lope; Adam Hal Spencer
  7. Intermediate goods-skill complementarity and income distribution By Takeuchi, Fumihide
  8. World Prices and Business Cycles of a Small Open Input-Output Economy By Khelifi, Atef
  9. External constraint and procyclicality of monetary policy of the Bank of Central African States (BEAC) By Ngomba Bodi, Francis Ghislain
  10. Public Debt as Private Liquidity: Optimal Policy * By George-Marios Angeletos; Fabrice Collard; Harris Dellas
  11. Wage-Specific Search Intensity By Rendon, Silvio
  12. Support for small businesses amid COVID‐19 By Goodhart, Charles A.E.; Tsomocos, Dimitrios P.; Wang, Xuan

  1. By: Alban Moura (Banque centrale du Luxembourg, Département Economie et Recherche); Olivier Pierrard (Banque centrale du Luxembourg, Département Economie et Recherche)
    Abstract: Not so well. We reach this conclusion by evaluating the empirical performance of a benchmark DSGE model with real estate and collateral constraints. We estimate the model from U.S. data using Bayesian methods and assess its fit along various dimensions. We find that the model is strongly rejected when tested against unrestricted Bayesian VARs and cannot replicate the persistence of real estate prices and various comovements between aggregate demand, real estate prices, and debt. Performance does not improve with alternative definitions of real estate prices, estimation samples, or detrending approaches. Our results raise doubts about the ability of current DSGE models with real estate and collateral constraints to deliver credible policy insights and identify the dimensions in need of improvement.
    Keywords: real estate; housing; DSGE models; collateral constraints; model evaluation
    JEL: C52 E32 E44
    Date: 2023–02
  2. By: Hou Wang; Allan Dizioli
    Abstract: This paper estimates a standard Dynamic Stochastic General Equilibrium (DSGE) model that includes a wage and price Phillip's curves with different expectation formation processes for Brazil and the USA. Other than the standard rational expectation process, we also use a limited rationality process, the adaptive learning model. In this context, we show that the separate inclusion of a labor market in the model helps to anchor inflation even in a situation of adaptive expectations, a positive output gap and inflation above target. The estimation results show that the adaptive learning model does a better job in fitting the data in both Brazil and the USA. In addition, the estimation shows that expectations are more backward-looking and started to drift away sooner in 2021 in Brazil than in the USA. We then conduct optimal policy exercises that prescribe early monetary policy tightening in the context of positive output gaps and inflation far above the central bank target.
    Keywords: DSGE; Inflation dynamics; optimal monetary policy; Forecasting and Simulation; Bayesian estimation.; learning expectation; inflation expectation; wages expectation; Inflation; Output gap; Real wages; Wage gap; Central bank policy rate; Global
    Date: 2023–01–27
  3. By: Daniele Angelini (University of Konstanz)
    Abstract: Population aging affects the relative supply of inputs in the economy altering the in-centives to adopt different types of technology. Empirically, I document a hump-shaped relation between the age of the population and the adoption of new-technology proxied by the ICT capital share. To explain the non-monotonic relationship and identify the mech-anisms at play, I build a dynamic general equilibrium model with endogenous technology and R&D-driven technological progress. New-technology is defined as a labor-saving (capital-intensive) technology requiring skills to be used. An increase in the capital-to-labor ratio driven by population aging increases new-technology adoption while the increasing scarcity of young workers that have higher incentives to acquire the comple-mentary skills to new-technology reduces it. The model, calibrated to fit European data, shows that the demographic structure of the population is a major determinant of tech-nology adoption. Population aging explains almost half of the increase in new-technology adoption in the period 1995-2020 and it determines its reduction in the period 2020-2045. A decomposition exercise shows that population aging is a primary source of the increase in the skill premium explaining a larger share of its increase than technological progress.
    Keywords: Automation, Demographic change, Human capital, Inequality, R&D, OLG
    JEL: J11 J24 J26 J31 E25 H23 O31 O33
    Date: 2023–02–01
  4. By: Akkaya, Yildiz (Monetary Policy Department, Central Bank of Sweden); Belfrage, Carl-Johan (Monetary Policy Department, Central Bank of Sweden); Di Casola, Paola (European Central Bank); Strid, Ingvar (Monetary Policy Department, Central Bank of Sweden)
    Abstract: This paper evaluates the macroeconomic effects of foreign and domestic central bank government bond purchases on the Swedish economy before and during the Corona pandemic using a small open economy DSGE model with segmented asset markets. In this model, the effects of foreign and domestic quantitative easing on the Swedish economy occur mainly through the exchange rate channel. The calibrated model is able to broadly capture the movements in foreign and domestic bond yields, capital flows and the Krona exchange rate associated with QE since the global financial crisis in 2007-2009. We find that foreign quantitative easing strengthened the Krona exchange rate and had modestly negative effects on Swedish GDP and inflation. Domestic QE, on the other hand, depreciated the Krona and had modestly positive macroeconomic effects. In 2015-2019 the government bond purchases on average depreciated the Krona by 2.5 percent, increased GDP by 0.2 percent, and increased inflation by 0.2 percentage points. The government bond purchases following the pandemic, which were more limited in size, had roughly half of these effects.
    Keywords: Unconventional Monetary Policy; Quantitative Easing; Effective Lower Bound; International Spillovers; DSGE model
    JEL: E44 E52 F41
    Date: 2023–02–01
  5. By: Daudignon, Sandra; Tristani, Oreste
    Abstract: Empirical analyses starting from Laubach and Williams (2003) find that the natural rate of interest is not constant in the long-run. This paper studies the optimal response to stochastic changes of the long-run natural rate in a suitably modified version of the new Keynesian model. We show that, because of the zero lower bound (ZLB) on nominal interest rates, movements towards zero of the long-run natural rate cause an increasingly large downward bias in expectations. To offset this bias, the central bank should aim to keep the real interest rate systematically below the long-run natural rate, as long as policy is not constrained by the ZLB. The neutral rate – the level of the policy rate consistent with stable inflation and the natural rate at its long-run level – will be lower than the long-run natural rate. This is the case both under optimal policy, and under a price level targeting rule. In the latter case, the neutral rate is equal to zero as soon as the long-run natural rate falls below 1%. JEL Classification: C63, E31, E52
    Keywords: commitment, liquidity trap, New Keynesian, nonlinear optimal policy, zero lower bound
    Date: 2023–02
  6. By: Priyaranjan Jha; Antonio Rodriguez-Lope; 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
    Date: 2023
  7. By: Takeuchi, Fumihide
    Abstract: The income share disparity between skilled and unskilled labor has been previously analyzed in relation to the elasticity of substitution between these factors and capital and changes in skill-biased technological changes. This study analyzes how the expansion of intermediate inputs affects change in the shares of skilled and unskilled labor, which has not been sufficiently analyzed in previous studies. After estimating the elasticity of substitution between four production factors, skilled labor, unskilled labor, capital, and intermediate goods, an analysis using a four-factor dynamic stochastic general equilibrium (DSGE) model with a three-level nested constant elasticity of substitution (CES) production function and factor-biased technological changes was conducted. It demonstrated that the characteristic change in the labor share was mainly related to changes in relative prices between intermediate goods and other factors and the intermediate goods-skill complementarity, which reflects the low elasticity of substitution between intermediate goods and skilled labor. The change in relative prices among production factors and elasticities of substitution are the main drivers of changing income distribution. In contrast to previous studies, our model allows the gross output and value-added deflators to move differently and thus could clarify the mechanism of the changing labor shares.
    Keywords: Income disparity between skilled and unskilled labor; Elasticity of substitution; Intermediate goods; Three-level nested CES
    JEL: D33 D58
    Date: 2023–02–17
  8. By: Khelifi, Atef
    Abstract: The role of terms-of-trade shocks in driving economic fluctuations is revisited through a multisector small open economy (SOE) model, where the various types of goods can all be consumed and employed as inputs. Under this assumption, we show that contrary to conventional wisdom, terms-oftrade shocks may not necessarily trigger an economic boom for the exporting country, if its export goods are intensively employed or consumed domestically. We calibrate and estimate the proposed model using data from 15 emerging countries and find that it performs better than the standard model to explain the different impacts of terms-of-trade shocks across countries documented by Schmitt-Grohe and Uribe (2018).
    Keywords: Terms of trade; business cycles; microfounded dynamic Leontief input-output model; DSGE model
    JEL: E32 F41 F44
    Date: 2023–01
  9. By: Ngomba Bodi, Francis Ghislain
    Abstract: Monetary policies are known as procyclical in developing countries. For instance, there exists a consensus on the main factors of this monetary policy procyclicality: (i) procyclicality of capital flows in emerging markets, and (ii) weak institutional framework in Sub-Saharan African countries. However, hard peg regime requirements (in terms of FX reserves level to possess) and the importance of terms of trade shocks in Franc Zone countries prompts us to reconsider this debate and to explore other factors, especially for central African countries. In this paper, we analyse the important role of external constraint (FX reserves to imports ratio, the de facto nominal anchor) in the BEAC’s monetary policy procyclicality. Using a general equilibrium model with some structural features of central African economies, we demonstrate that: (i) a monetary shock has a more volatile effects on real variables in the current monetary policy framework than in an Inflation Targeting (IT) regime, (ii) the current monetary policy framework in Central Africa suggest a monetary tightening following a negative macroeconomic shock, and (iii) the delayed restrictive reaction of central bank following a negative oil shock induce additional macroeconomic costs. This results suggest: (i) to include the question of monetary policy procyclicality in the agenda of monetary reforms, and (ii) to consider the possibility of another nominal anchor for BEAC’s monetary policy which combines the monetary policy’s countercyclicality and the possibility to defend the currency.
    Keywords: procyclicality, monetary policy procyclicality, external constraint, business cycles fluctuations, DSGE, hard peg regime
    JEL: E32 E42 E52 E58
    Date: 2022–01–25
  10. By: George-Marios Angeletos (MIT Department of Economics - MIT - Massachusetts Institute of Technology); Fabrice Collard (TSE-R - Toulouse School of Economics - UT1 - Université Toulouse 1 Capitole - Université Fédérale Toulouse Midi-Pyrénées - EHESS - École des hautes études en sciences sociales - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement); Harris Dellas (University of Bern)
    Abstract: We study optimal policy in an economy in which public debt is used as collateral or liquidity buffer. Issuing more public debt raises welfare by easing the underlying financial friction; but this easing lowers the liquidity premium and increases the government's cost of borrowing. These considerations, which are absent in the basic Ramsey paradigm, help pin down a unique, long-run level of public debt. They require a front-loaded tax response to government-spending shocks, instead of tax smoothing. And they explain why a financial recession, more than a traditional one, makes government borrowing cheaper, optimally supporting larger fiscal stimuli. * This paper supersedes an earlier draft, entitled "Optimal Public Debt Management and Liquidity Provision", which was concerned with the same topic but did not contain the present paper's theoretical contribution. We are grateful to Behzad Diba for his collaboration on the earlier project; to Pedro Teles and Per Krusell for illuminating discussions; and to various seminar participants for their feedback. Angeletos also thanks the University of Bern, Study Center Gerzensee, and the Swiss Finance Institute for their hospitality.
    Date: 2023–01–02
  11. By: Rendon, Silvio (Inter-American Development Bank)
    Abstract: I propose a model in which agents decide on job search intensity for each possible wage, unlike the usual setup of constant search intensity over wage draws. The proposed framework entails efficiency gains in that agents do not waste effort to searching for low paying unacceptable jobs or less offered high paying jobs. The proposed framework generates accepted wages distributions that differ substantially from the truncated distributions stemming from the usual setup. These different empirical implications are exploited for building two nonparametric tests, which reject constant search intensity over wages, using NLSY97 data. I further estimate the identifiable structural parameters of the two models resulting in better fit for the wage-specific setup. I quantify the increased effectiveness of wage-specific search in more total search intensity, faster transitions to the upper tail of the wage distribution, and higher wages, in particular, more than 25% increase in accepted wages after unemployment.
    Keywords: job search, search intensity, unemployment
    JEL: J64 E24
    Date: 2023–02
  12. By: Goodhart, Charles A.E.; Tsomocos, Dimitrios P.; Wang, Xuan
    Abstract: How should the government support small and medium-sized enterprises amid a pandemic crisis while balancing the trade-off between short-run stabilization and long-run allocative efficiency? We develop a two-sector equilibrium model featuring small businesses with private information on their likely future success and a screening contract. Businesses in the sector adversely affected by a pandemic can apply for government loans to stay afloat. A pro-allocation government sets a harsh default sanction to deter entrepreneurs with poorer projects, thereby improving long-run productivity at the cost of persistent unemployment, whereas a pro-stabilization government sets a lenient default sanction. Interest rate effective lower bound leads to involuntary unemployment in the other open sector and shifts the optimal default sanction to a lenient stance. The rise in firm markups exerts the opposite effect. A high creative destruction wedge polarizes the government’s hawkish and dovish stances, and optimal default sanction is more lenient, exacerbating resource misallocation. The model illuminates how credit guarantees might be structured in future crises.
    JEL: J1
    Date: 2023–01–23

This nep-dge issue is ©2023 by Christian Zimmermann. It is provided as is without any express or implied warranty. It may be freely redistributed in whole or in part for any purpose. If distributed in part, please include this notice.
General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.