|
on Dynamic General Equilibrium |
|
Issue of 2024‒01‒08
twenty-two papers chosen by Christian Zimmermann, Federal Reserve Bank of St. Louis |
| By: | Kaas, Leo; Lalé, Etienne; Siassi, Nawid |
| Abstract: | This paper develops a macroeconomic model that combines an incomplete-markets overlapping-generations economy with a job ladder featuring sequential wage bargaining, endogenous search effort of employed and non-employed workers, and differences in match quality. The calibrated model offers a good fit to the empirical age profiles of search activity, job-finding rates, wages and savings, so that we use the model to examine the role of age and wealth for worker flows and for the consequences of job loss. We further analyze the impact of unemployment insurance and progressive taxation for labor market dynamics and aggregate economic activity via capital, employment and labor efficiency channels. Lower unemployment benefits or a less progressive tax schedule bring about welfare losses for a newborn worker household. |
| Keywords: | Search and matching, ob-to-job transitions, Incomplete markets, Overlapping generations, Wealth accumulation |
| JEL: | E21 E24 H24 J64 J65 |
| Date: | 2023 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:tuweco:280694&r=dge |
| By: | Suveg, Melinda (Research Institute of Industrial Economics (IFN)) |
| Abstract: | The New Keynesian model, augmented with the working capital channel, predicts that a rise in the policy rate causes firms that use more working capital to increase their prices more, and that the pass-through is gradual because of price rigidity. Using a unique dataset on firm-product-level price indices, I show that a one percentage point monetary policy shock leads to a 6 percent increase in the firm’s price and that the pass-through takes about 4 months. The pass-through in the microdata is 6 times larger than it is implemented in the supply-side block of standard New Keynesian DSGE models. |
| Keywords: | Working capital; Price setting; Inflation; Monetary policy; Pass-through |
| JEL: | E31 E37 E52 L11 |
| Date: | 2023–12–15 |
| URL: | http://d.repec.org/n?u=RePEc:hhs:iuiwop:1482&r=dge |
| By: | Anton Nakov (ECB and CEPR); Carlos Thomas (Banco de España) |
| Abstract: | We study the implications of climate change and the associated mitigation measures for optimal monetary policy in a canonical New Keynesian model with climate externalities. Provided they are set at their socially optimal level, carbon taxes pose no trade-offs for monetary policy: it is both feasible and optimal to fully stabilize inflation and the welfare-relevant output gap. More realistically, if carbon taxes are initially suboptimal, trade-offs arise between core and climate goals. These trade-offs however are resolved overwhelmingly in favor of price stability, even in scenarios of decades-long transitions to optimal carbon taxation. This reflects the untargeted, inefficient nature of (conventional) monetary policy as a climate instrument. In a model extension with financial frictions and central bank purchases of corporate bonds, we show that green tilting of purchases is optimal and accelerates the green transition. However, its effect on CO2 emissions and global temperatures is limited by the small size of eligible bonds’ spreads. |
| Keywords: | Ramsey optimal monetary policy, climate change externalities, Pigouvian carbon taxes, green QE |
| JEL: | E31 E32 Q54 Q58 |
| Date: | 2023–11 |
| URL: | http://d.repec.org/n?u=RePEc:bde:wpaper:2334&r=dge |
| By: | Patrick Macnamara (University of Manchester); Myroslav Pidkuyko (Banco de España); Raffaele Rossi (University of Birmingham) |
| Abstract: | This paper shows that linear consumption taxes are a powerful tool to implement efficient redistribution. We derive this result in a quantitative life-cycle model that reproduces the distribution of income and wealth in the United States. Optimal policy calls for raising all fiscal revenues from consumption, and providing redistribution via a highly progressive wage tax schedule. Capital income and wealth should not be taxed. This policy reduces inequality and increases productivity, and brings large welfare gains relative to the status quo. Around two-thirds of these gains are due to redistribution. Finally, our reform is also welfare improving in the short-run. |
| Keywords: | optimal policy, inequality, consumption taxation, life-cycle, entrepreneurs |
| JEL: | E62 H21 H24 |
| Date: | 2023–10 |
| URL: | http://d.repec.org/n?u=RePEc:bde:wpaper:2331&r=dge |
| By: | Beatriz González; Galo Nuño Barrau; Dominik Thaler; Silvia Albrizio |
| Abstract: | This paper analyzes the link between monetary policy and capital misallocation in a New Keynesian model with heterogeneous firms and financial frictions. In the model, firms with a high return to capital increase their investment more strongly in response to a monetary policy expansion, thus reducing misallocation. This feature creates a new time-inconsistent incentive for the central bank to engineer an unexpected monetary expansion to temporarily reduce misallocation. However, price stability is the optimal timeless response to demand, financial or TFP shocks. Finally, we present firm-level evidence supporting the theoretical mechanism. |
| Keywords: | monetary policy, firm heterogeneity, financial frictions, capital misallocation |
| JEL: | E12 E22 E43 E52 L11 |
| Date: | 2023–11 |
| URL: | http://d.repec.org/n?u=RePEc:bis:biswps:1148&r=dge |
| By: | Julian di Giovanni; Şebnem Kalemli-Özcan; Alvaro Silva; Muhammed A. Yildirim; Muhammed Ali Yildirim |
| Abstract: | We estimate a multi-country multi-sector New Keynesian model to quantify the drivers of domestic inflation during 2020–2023 in several countries, including the United States. The model matches observed inflation together with sector-level prices and wages. We further measure the relative importance of different types of shocks on inflation across countries over time. The key mechanism, the international transmission of demand, supply and energy shocks through global linkages helps us to match the behavior of the USD/Euro exchange rate. The quantification exercise yields four key findings. First, negative supply shocks to factors of production, labor and intermediate inputs, initially sparked inflation in 2020–2021. Global supply chains and complementarities in production played an amplification role in this initial phase. Second, positive aggregate demand shocks, due to stimulative policies, widened demand-supply imbalances, amplifying inflation further during 2021–2022. Third, the reallocation of consumption between goods and service sectors, a relative sector-level demand shock, played a role in transmitting these imbalances across countries through the global trade and production network. Fourth, global energy shocks have differential impacts on the US relative to other countries’ inflation rates. Further, complementarities between energy and other inputs to production play a particularly important role in the quantitative impact of these shocks on inflation. |
| Keywords: | inflation, international spillovers, global production network |
| JEL: | E20 E30 E60 F10 F40 |
| Date: | 2023 |
| URL: | http://d.repec.org/n?u=RePEc:ces:ceswps:_10789&r=dge |
| By: | Patrick Gruning (Latvijas Banka); Zeynep Kantur (Baskent University) |
| Abstract: | The most effective approach to tackling climate change is by decarbonising produc- tion processes. However, decarbonisation might render assets stranded, impacting not only the relevant sector but also causing a ripple effect across all sectors, thereby potentially destabilising macroeconomic stability. We develop a multi-sector New Keynesian model with two physical capital types (brown and green) and input- output linkages to examine the economic impact of sector-specific capital stranding. Stranded brown capital in the brown sector yields a relocation of economic ac- tivities to the green sector and thus environmental benefits with small aggregate consequences, while brown capital stranding in both sectors implies larger economic costs and smaller environmental benefits. Brown consumption taxes and green pro- ductivity shocks facilitate the green transition, while brown investment taxes or green investment subsidies turn out to be less favourable policies in this respect. However, a combination of these two investment policies yields favourable economic and environmental outcomes. Doubling the carbon tax in the brown sector yields significant relocation activities at relatively small economic costs. If the central bank responds strongly to short-run inflationary pressures of carbon tax increases, this leads to larger output losses in the short run and higher output gains in the long run. |
| Keywords: | capital utilization, stranded assets, production network, climate change, fiscal policy, monetary policy |
| JEL: | E22 E32 E52 E61 L14 |
| Date: | 2023–12–05 |
| URL: | http://d.repec.org/n?u=RePEc:ltv:wpaper:202306&r=dge |
| By: | Ross Batzer (Federal Housing Finance Agency) |
| Abstract: | This paper studies how mortgage debt shapes the consumption response to fiscal transfers using an incomplete markets model with housing and defaultable longterm debt. The model is estimated to match the share of households in the data whose spending is constrained by low liquidity. Among homeowners, the model predicts those with mortgage debt have an average response to transfers six times larger than those without debt. Spending responses are found to be poorly correlated with earnings. Unlike a standard model without mortgage debt, the model with mortgages predicts restricting transfers based on income may substantially reduce their efficacy in increasing aggregate spending. |
| Keywords: | mortgages, macro-policy, stimulus, marginal propensity to consume |
| JEL: | E21 H31 G21 G51 |
| Date: | 2023–12 |
| URL: | http://d.repec.org/n?u=RePEc:hfa:wpaper:23-07&r=dge |
| By: | Christian Bayer; Alexander Kriwoluzky; Gernot J. Müller; Fabian Seyrich |
| Abstract: | The distributional and disruptive effects of energy supply shocks are potentially large. We study the effectiveness of alternative fiscal responses in a two-country HANK model that we calibrate to the euro area. Energy subsidies can stabilize the domestic economy, but are fiscally costly and generate adverse spillovers to the rest of the monetary union: What the subsidizing country gains, the other countries lose. Transfers based on historical energy consumption in the form of a Hicks/Slutsky compensation are less effective domestically as subsidies but do not harm economic activity abroad. In addition, transfers increase welfare at Home while subsidies reduce welfare. |
| Keywords: | Energy crisis, subsidies, transfers, HANK2, monetary union, spillovers, heterogeneity, inequality, households |
| JEL: | D31 E64 F45 Q41 |
| Date: | 2023 |
| URL: | http://d.repec.org/n?u=RePEc:diw:diwwpp:dp2056&r=dge |
| By: | Marcos Chamon (IMF); Francisco Roldán (IMF) |
| Abstract: | We investigate the effect of uncertainty about the nature of output costs of sovereign default on debt tolerance. While the theoretical literature assumes output losses lasting until market access is restored, the empirical evidence points to persistent effects, and output may not return to its pre-default trend. We include such uncertainty in a model of sovereign default and find that it can significantly boost equilibrium debt levels. We also consider a government which is averse to this type of uncertainty and seeks robust decision rules. We calibrate the model to match evidence on the output trajectory around debt restructuring episodes and infer output costs of about the size found in the empirical literature, alongside significant uncertainty about their permanence and a strong desire for robustness. |
| Keywords: | Sovereign debt, default, debt tolerance, permanent costs, robustness |
| JEL: | E43 E44 F34 H63 |
| Date: | 2023–12 |
| URL: | http://d.repec.org/n?u=RePEc:aoz:wpaper:296&r=dge |
| By: | Marwil J. Dávila-Fernández; Germana Giombini; Edgar J. Sánchez-Carrera |
| Abstract: | Recent empirical evidence is challenging the conventional paradigm in macroeconomics, which assumes money is neutral in the long run. On the other hand, central banks are gradually acknowledging that climate change can potentially impact price stability, and the term climateflation has entered the vocabulary of policymakers. This paper contributes to current developments between these two major themes. We present an Overlapping Generations (OLG) model to study the interplay between conventional monetary policy and the environment in a context where the so-called “independence hypothesis” does not hold. Individuals are assumed to derive utility from consumption and environmental quality. Firms operate in a competitive market, but output is weighted by a damage function reflecting a negative externality from ecological degradation. We innovate by linking the environment to inflation through inflationary expectations in a modified Phillips curve. Central banks set the nominal interest rate using a generalised Taylor rule. They affect wealth composition via the individual’s intertemporal optimisation problem. Numerical experiments allow us to assess the robustness of the trade-off between environmental quality and economic activity when (i) expectations are more responsive to climateflation, (ii) the monetary authority is more inflation-averse, (iii) the central bank increases the inflation target, and (iv) fiscal policy is less stringent. |
| Keywords: | Monetary policy; Inflation targeting; Green transition; OLG. |
| JEL: | E52 E60 O44 |
| Date: | 2023–10 |
| URL: | http://d.repec.org/n?u=RePEc:usi:wpaper:905&r=dge |
| By: | Makoto WATANABE; Bo Hu; Jun Zhang |
| Abstract: | This article develops a model in which an intermediary uses a supply chain finance (SCF) program to fund suppliers. The SCF program pools liquidity from suppliers and meanwhile provides immediate payment to suppliers with pressing liquidity needs. We show that the intermediary optimally selects not only suppliers with positive profitability but also suppliers with negative profitability who, however, contribute to the liquidity pool. Inserting the model to an otherwise standard monetary framework, we show that with higher nominal interest rates, the SCF program emphasizes the liquidity contribution more and the profitability contribution less. Deviating from the Friedman rule, where only suppliers with positive profitability are selected, may lead to welfare gains. |
| Date: | 2023–11 |
| URL: | http://d.repec.org/n?u=RePEc:cnn:wpaper:23-018e&r=dge |
| By: | Nezih Guner (CEMFI, Centro de Estudios Monetarios y Financieros); Martin Lopez-Daneri (Virginia Commonwealth University); Gustavo Ventura (Arizona State University) |
| Abstract: | How should the U.S. confront the growing revenue needs driven by higher spending requirements? We investigate the mix of potential tax increases that generate a given revenue need at the minimum welfare cost and evaluate its macroeconomic impact. We do so in the context of a life-cycle growth model that captures key aspects of the earnings and wealth distributions and the non-linear shape of taxes and transfers in place. Our findings show that a proportional consumption tax combined with a lump-sum transfer to all households and a reduction in income tax progressivity consistently emerges as the best alternative to minimize welfare costs associated with a given increase in revenue. A 30% long-run increase in Federal tax revenue requires a consumption tax rate of 27.8%, a transfer of about 12% of mean household income to all households, and a reduction of top marginal income tax rates of more than 5 percentage points—output declines by 7.9% in the long run. While transfers are substantial, smaller transfers can accomplish most of the reduction in welfare costs. We find no role for wealth taxes in increasing revenues or minimizing welfare costs. |
| Keywords: | Taxation, progressivity, tax revenue. |
| JEL: | E6 H2 |
| Date: | 2023–10 |
| URL: | http://d.repec.org/n?u=RePEc:cmf:wpaper:wp2023_2305&r=dge |
| By: | Matthew Gudgeon; Pablo Guzman-Pinto; Johannes Schmieder; Simon Trenkle; Han Ye |
| Abstract: | This paper shows empirically that the non-employment effects of unemployment insurance (UI) for older workers depend in a first-order way on the structure of retirement policies. Using German data, we first present reduced-form evidence of these interactions, documenting large bunching in UI inflows at the age that allows workers to claim their pension following UI expiration. We then estimate a dynamic life-cycle model and use it to directly quantify how the effects of UI vary with retirement policies. Accounting for interactions across UI and retirement institutions also helps explain otherwise difficult-to-explain trends in the unemployment rate of older German workers. |
| Keywords: | Unemployment insurance, moral hazard, retirement, older workers, interactions |
| JEL: | J26 J64 J65 |
| Date: | 2023–12 |
| URL: | http://d.repec.org/n?u=RePEc:bon:boncrc:crctr224_2023_481&r=dge |
| By: | Uroš Herman (Aix-Marseille Univ., CNRS, AMSE, Marseille, France); Matija Lozej (Central Bank of Ireland, Macroeconomic Modelling) |
| Abstract: | This paper first provides empirical evidence that labour market outcomes for the less educated workers, who also tend to be poorer, are substantially more volatile than those for the well-educated, who tend to be richer. We estimate job finding rates and separation rates by educational attainment for several European countries and find that job finding rates are smaller and separation rates larger at lower educational attainment levels. At cyclical frequencies, fluctuations of the job finding rate explain up to 80% of unemployment fluctuations for the less educated. We then construct a stylised HANK model augmented with search and matching and ex-ante heterogeneity in terms of educational attainment. We show that monetary policy has stronger effects when the job market for the less educated and, hence, poorer workers is more volatile. The reason is that these workers have the most procyclical income coupled with the highest marginal propensity to consume. An expansionary monetary policy shock that increases labour demand disproportionally affects the labour market segment for the less educated, causing a strong increase in consumption. This further amplifies labour demand and increases the labour income of the poor even more, amplifying the initial effect. The same mechanism carries over to forward guidance. |
| Keywords: | heterogeneous agents, Search and matching, monetary policy, business cycles, Employment |
| JEL: | E40 E52 J64 |
| Date: | 2023–12 |
| URL: | http://d.repec.org/n?u=RePEc:aim:wpaimx:2334&r=dge |
| By: | Al-Hassan, Hassana; Devolder, Pierre (Université catholique de Louvain, LIDAM/ISBA, Belgium); Nayrko, Christiana; Nokoh, K. Sagary |
| Abstract: | In this paper, we develop in a PAYG public pension system, various ways to share the longevity risk across generations of active affiliates and retirees. We consider a simplified two period Overlapping generation (OLG) model with three major groups: active workers, new retirees and existing retirees. Two levels of risk sharing are proposed; in a first step we develop the sharing between the contributors and the beneficiaries by proposing various designs of the plan, from Defined Benefit to Defined Contribution including hybrid solutions such as Musgrave plans. For this level, the driving force is the dependency ratio. In a second step we consider the sharing between the retirees themselves by considering two important degrees of freedom: the level of the first pension for the new retirees and the revaluation of existing pensions for the older retirees. Different strategies of risk sharing are presented in this framework. We illustrate the concepts by numerical illustrations based on deterministic and stochastic demographic models. |
| Keywords: | PAYG ; Dependency Ratio ; DB ; DC ; Musgrave ; Risk sharing ; Revaluation |
| Date: | 2023–11–07 |
| URL: | http://d.repec.org/n?u=RePEc:aiz:louvad:2023033&r=dge |
| By: | Lucas Dyskant; André F. Silva; Bruno Sultanum |
| Abstract: | We introduce a model to explain how an increase in intermediation costs leads to structural changes in the corporate bond market. We state three facts on corporate bond markets after the Dodd-Frank act: (1) an increase in customer liquidity provision through prearranged matches, (2) a paradoxical decrease in measured illiquidity, and (3) an increase in the illiquidity component on the yield spread. Investors take longer to finish a trade and require higher illiquidity premium even though measured illiquidity decreased. We introduce a search and matching model which explains these facts. It also suggests the possibility of multiple equilibria and financial instability when dealers face high costs to intermediate transactions. |
| Keywords: | over-the-counter markets; intermediation costs; liquidity; corporate bonds; Volcker rule; post-2008 regulation |
| JEL: | D53 G12 G18 |
| Date: | 2023–12 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedrwp:97438&r=dge |
| By: | Qiwei He; Philipp Kircher |
| Abstract: | This study documents how job seekers update perceived job-finding prospects by unemployment duration and by learning about aggregate unemployment. We find that job seekers perceive an 18% decline in their job-finding probability for each additional month of unemployment, but perceive a higher job-finding probability when the aggregate unemployment rate is unexpectedly low. We develop a job search model with learning and updating to quantify the impact of perceived aggregate unemployment on subjective job-finding probabilities, revealing an overreaction to news about aggregate conditions. These beliefs can potentially offset a non-trivial part of the negative consequences of moral hazard in job search. |
| JEL: | D83 E24 J64 |
| Date: | 2023–12 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:31940&r=dge |
| By: | Juan Pablo Gama (Cedeplar/UFMG); Rodrigo J. Raad (Cedeplar/UFMG) |
| Abstract: | This paper analyses a three-period Ramsey’s model with heterogeneous agents and a bond offered by a central planner. We show that Ramsey’s taxation property holds, that is, tax rates are higher for markets with lower price elasticity in the social optimal allocation. Additionally, we show that a central planner optimal strategy based only on a partial default on interest payments implements the former goods allocation with taxation. Therefore, an increment on public expenditure due to a public health crisis such as the COVID-19 cannot be financed by a partial default on the public debt. Indeed, it overburdens agents who consume larger amount of inelastic goods, that is, those with lower income. We conclude that an emergency expenditure must be financed through an increase of Value-Added taxes, precautionary savings, or income taxes who do not participate directly on the emergency planning of a public health crisis. |
| Keywords: | Optimal taxation, General equilibrium, Default, Public expenditure shocks, COVID-19 |
| JEL: | D50 D52 |
| Date: | 2023–12 |
| URL: | http://d.repec.org/n?u=RePEc:cdp:texdis:td665&r=dge |
| By: | Frédéric Dufourt (Aix-Marseille Univ., CNRS, AMSE, Marseille, France); Kazuo Nishimura (RIEB, Kobe University, Kobe, Japan); Alain Venditti (Aix-Marseille Univ., CNRS, AMSE, Marseille, France) |
| Abstract: | When can exogenous changes in beliefs generate endogenous fluctuations in rational expectation models? We analyze this question in the canonical one-sector and two-sector models of the business cycle with increasing returns to scale. A key feature of our analysis is that we express the uniqueness/multiplicity condition of equilibirum paths in terms of restrictions on five critical and economically interpretable parameters: the Frisch elasticities of the labor supply curve with respect to the real wage and to the marginal utility of wealth, the intertemporal elasticity of substitution in consumption, the elasticity of substitution between capital and labor, and the degree of increasing returns to scale. We obtain two clear-cut conclusions: belief-driven fluctuations cannot exist in the one-sector version of the model for empirically consistent values for these five parameters. By contrast, belief-driven fluctuations are a robust property of the twosector version of the model-with differentiated consumption and investment goods-, as they now emerge for a wide range of parameter values consistent with available empirical estimates. The key ingredients explaining these different outcomes are factor reallocation between sectors and the implied variations in the relative price of investment, affecting the expected return on capital accumulation. |
| Keywords: | belief-driven business cycles, endogenous fluctuations, expectations, income effect |
| JEL: | C62 E32 O41 |
| Date: | 2023–11 |
| URL: | http://d.repec.org/n?u=RePEc:aim:wpaimx:2327&r=dge |
| By: | Benny Kleinman; Ernest Liu; Stephen J. Redding; Motohiro Yogo |
| Abstract: | We generalize the closed-economy neoclassical growth model (CNGM) to allow for costly goods trade and capital flows with imperfect substitutability between countries. We develop a tractable, multi-country, quantitative model that matches key features of the observed data (e.g., gravity equations for trade and capital holdings) and is well suited for analyzing counterfactual policies that affect both goods and capital market integration (e.g., U.S.-China decoupling). We show that goods and capital market integration interact in non-trivial ways to shape impulse responses to counterfactual changes in productivity and goods and capital market frictions and the speed of convergence to steady-state. |
| Keywords: | economic growth, international trade, capital flows |
| Date: | 2023–12–05 |
| URL: | http://d.repec.org/n?u=RePEc:cep:cepdps:dp1965&r=dge |
| By: | Chao Gu (University of Missouri); Janet Hua Jiang (Bank of Canada); Liang Wang (University of Hawaii) |
| Abstract: | We study the effects of the firm's credit condition on labor market performance and the relationship between expected inflation and unemployment in a new monetarist model. Better credit condition improves labor market outcomes as fi rms save on their cash financing cost, improve pro tability, and create more vacancies. Inflation affects unemployment through two opposing channels. First, inflation increases the firm's fi nancing cost, which discourages job creation and increases unemployment. Second, inflation lowers wages through bargaining because unemployed workers more heavily rely on cash transactions and suffer more from inflation compared to employed workers. This encourages job creation. The overall effect of inflation on employment depends on the firm's credit condition. We calibrate the model to match U.S. data. The calibrated model suggests a downward-sloping Phillips curve with flexible wages. Finally, we fi nd that improvement in firm credit conditions is consistent with the flattening of the Phillips curve. |
| Keywords: | toxic assets, market freezes, negative returns, liquidity |
| JEL: | E24 E31 E44 E51 |
| Date: | 2023–12–16 |
| URL: | http://d.repec.org/n?u=RePEc:umc:wpaper:2314&r=dge |