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on Dynamic General Equilibrium |
| By: | Paolo Gelain; Pierlauro Lopez |
| Abstract: | This paper outlines the dynamic stochastic general equilibrium (DSGE) model developed at the Federal Reserve Bank of Cleveland as part of the suite of models used for forecasting and policy analysis by Cleveland Fed researchers, which we have nicknamed CLEMENTINE (CLeveland Equilibrium ModEl iNcluding Trend INformation and the Effective lower bound). This document adopts a practitioner's guide approach, detailing the construction of the model and offering practical guidance on its use as a policy tool designed to support decision-making through forecasting exercises and policy counterfactuals. |
| Keywords: | DSGE model; labor market frictions; zero lower bound; trends; expectations |
| JEL: | E32 E23 E31 E52 D58 |
| Date: | 2023–12–27 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedcwq:97525&r=dge |
| By: | Dr. Indrani Manna (Director, Foreign Exchange Department of the Reserve Bank of India.); Dr. Martin Suster (Council Member, Council for Budget Responsibility, Bratislava, Slovakia.); Dr.Biswajit Banerjee (Expert Policy Advisor to the Governor, National Bank of Slovakia; and Professor of Economics, Ashoka University) |
| Abstract: | By incorporating a data generating process for house price expectations in a standard new keynesian DSGE model, this paper differentiates between the macroeconomic impact of endogenous and exogenous sources of expectation shocks and the role of fiscal and macroprudential policy (in the absence of monetary policy) in managing these shocks in the housing market. The paper concludes that endogenous shocks pre-dominate exogenous shocks to expectations in home prices in accelerating credit growth and household indebtedness. But endogenous shocks can still be accredited with ’good housing booms’ tag as they raise the ability to pay-off rising debt significantly. In terms of policy, the paper finds that loan-to-value ratios score over payment to income ratios as a potent macroprudential instrument to manage housing market dynamics as constraint switching is limited in case of LTV because of an expectations sensitive factor market. Macroprudential instruments set as a function of household debt to GDP ratio reinforce the transmission channels and turn out to be counterproductive in case of endogenous shocks but effective in managing exogenous shocks. The paper also finds that property tax can be potential instrument to arrest rising home prices but it works effectively in coordination with other policies. We also show that endogenous refinancing decisions of households can be effectively used as a channel for transmission of monetary and macroprudential policy through timely coordination of two policies. |
| Keywords: | Monetary policy; Expectations; Macroprudential Measures; Loan-tovalue; Payment-to-income; Housing tax; DSGE |
| Date: | 2022–10–31 |
| URL: | http://d.repec.org/n?u=RePEc:ash:wpaper:88&r=dge |
| By: | Aleksandar Vasilev (Lincoln International Business School, UK) |
| Abstract: | We introduce an informal sector into a real-business-cycle setup augmented with a detailed government sector. We calibrate the model to Bulgarian data for the period following the introduction of the currency board arrangement (1999-2016). We investigate the quantitative importance of the presence of a grey economy for the cyclical fluctuations in Bulgaria. We find that incorporating an informal sector improves the model fit against data, as compared to the standard RBC model, and thus this sector is an important ingredient that needs to be considered by researchers interested in business cycle-, or public finance issues. |
| Keywords: | business cycles, informal sector, Bulgaria |
| JEL: | E24 E32 |
| Date: | 2024–01 |
| URL: | http://d.repec.org/n?u=RePEc:sko:wpaper:bep-2024-01&r=dge |
| By: | J. Andrés; J.E. Boscá; R. Doménech; J. Ferri |
| Abstract: | We assess the macroeconomic and welfare implications of carbon mitigation strategies using an environmental Dynamic General Equilibrium model. The economy uses energy from both green renewable technologies and fossil fuels. We set an emission reduction target in line with the Paris Agreement and analyze the welfare and macroeconomic impacts of various strategies, including (1) raising the domestic price of fossil fuels, (2) implementing a subsidy on green investment funded through lump-sum taxes, (3) imposing taxes on emissions with rebates to households, and (4) utilizing emission taxes to support green investment. Our model provides a framework for evaluating the welfare consequences of various carbon mitigation strategies, emphasizing the need to balance the short and long-term effects of incentives for investment and innovation in green technologies, as well as taxes and other policies designed to reduce carbon emissions. |
| Date: | 2024–01 |
| URL: | http://d.repec.org/n?u=RePEc:fda:fdaeee:eee2024-01&r=dge |
| By: | Jean-Paul L'Huillier; Gregory Phelan |
| Abstract: | Not in standard models. With conventional pricing frictions, imposing a flat Phillips curve also imposes a price level that is rigid with respect to supply shocks. In the New Keynesian model, price markup shocks need to be several orders of magnitude bigger than other shocks in order to fit the data, leading to unreasonable assessments of the magnitude of the increase in costs during inflationary episodes. To account for the facts, we propose a strategic microfoundation of shock-dependent price stickiness: prices are sticky with respect to demand shocks but flexible with respect to supply shocks. This friction is demand-intrinsic, in line with narrative accounts for the imperfect adjustment of prices. Firms can credibly justify a price increase due to a rise in costs, whereas it is harder to do so when demand increases. Inflation from supply shocks is efficient and does not justify a monetary policy response. |
| Keywords: | cost-push shocks; shock dependence; price stickiness; output-inflation trade-off |
| JEL: | E31 E52 E58 |
| Date: | 2023–12–28 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedcwq:97528&r=dge |
| By: | Fumitaka Nakamura |
| Abstract: | We analyze the effects of borrower-based macroprudential tools in Finland. To evaluate the efficiency of the tools, we construct a heterogeneous agent model in which households endogenously determine their housing size and liquid asset levels under two types of borrowing constraints: (i) a loan-to-value (LTV) limit and (ii) a debt-to-income (DTI) limit. When an unexpected negative income shock hits the economy, we find that a larger and more persistent drop in consumption is observed under the LTV limit compared to the DTI limit. Our results indicate that although DTI caps tend to be unpopular with lower income households because they limit the amount they can borrow, DTI caps are beneficial even on distributional grounds in stabilizing consumption. Specifically, DTI caps mitigate the consumption decline in recessions by restricting high leverage, and thus, they can usefully complement LTV caps. |
| Keywords: | Household indebtedness; loan-to-value ratio; debt-to-income ratio; macroprudential policy. |
| Date: | 2023–12–15 |
| URL: | http://d.repec.org/n?u=RePEc:imf:imfwpa:2023/262&r=dge |
| By: | Oscar Iván Ávila-Montealegre; Anderson Grajales-Olarte; Juan J. Ospina-Tejeiro; Mario A. Ramos-Veloza |
| Abstract: | We examine the adjustment of a small, open, emerging market economy (SOEME) to an unexpected increase in the minimum wage using an extended New-Keynesian SOE model that incorporates heterogeneous households, a flexible production structure, and a minimum wage rule. We calibrate the model for Colombia and find that an unexpected increase in the minimum wage has significant effects on the low-skilled labor market, and weaker impacts on inflation and the policy interest rate. The rise in the minimum wage increases production costs and prompts the substitution of formal low-skilled labor with informal workers and machinery, resulting in reduced output, increased inflation, and higher policy interest rates. We also observe that the minimum wage influences the transmission of productivity, demand, and monetary shocks, leading to a more persistent impact on macroeconomic variables, and a less efficient monetary policy to control inflation. Our findings suggest that the minimum wage has important macroeconomic implications, and affects emerging market economies through different channels than in developed economies. **** RESUMEN: En este artículo estudiamos el ajuste macroeconómico de una economía emergente pequeña y abierta ante un cambio inesperado en el salario mínimo. Para ello, construimos un modelo neo-keynesiano de economía pequeña y abierta con hogares heterogéneos, una estructura de producción con distintos tipos de trabajo y de capital, y una regla de ajuste del salario mínimo que responde a la inflación y productividad laboral pasadas, así como a choques inesperados. Tras calibrar el modelo para Colombia encontramos que un aumento inesperado del salario mínimo tiene efectos significativos sobre la producción y el empleo, y efectos moderados sobre la inflación y la tasa de política monetaria. En particular, observamos que el choque incrementa los costos de contratar mano de obra formal no calificada, la cual es sustituida por trabajadores informales y maquinaria. A pesar de esta sustitución, los mayores costos generan una contracción de la actividad económica, acompañada por un incremento en la inflación y en la tasa de política monetaria. Por otra parte, encontramos que la existencia de una regla de ajuste del salario mínimo afecta la transmisión de choques convencionales (productividad, demanda y política monetaria), aumentando su persistencia y reduciendo la efectividad de la política monetaria. Estos resultados son relevantes para economías emergentes en las que la política de salario mínimo tiene una mayor incidencia en el mercado laboral. |
| Keywords: | modelo de equilibrio general dinamico y estocástico, salario mínimo, mercado laboral informal, política monetaria, agentes heterogeneos, DSGE model, minimum wage, informal labor markets, monetary policy, heterogeneous agents |
| JEL: | E13 E50 J31 J46 |
| Date: | 2023–12 |
| URL: | http://d.repec.org/n?u=RePEc:bdr:borrec:1264&r=dge |
| By: | David Staines |
| Abstract: | In this paper, a mathematically rigorous solution overturns existing wisdom regarding New Keynesian Dynamic Stochastic General Equilibrium. I develop a formal concept of stochastic equilibrium. I prove uniqueness and necessity, when agents are patient, across a wide class of dynamic stochastic models. Existence depends on appropriately specified eigenvalue conditions. Otherwise, no solution of any kind exists. I construct the equilibrium for the benchmark Calvo New Keynesian. I provide novel comparative statics with the non-stochastic model of independent mathematical interest. I uncover a bifurcation between neighbouring stochastic systems and approximations taken from the Zero Inflation Non-Stochastic Steady State (ZINSS). The correct Phillips curve agrees with the zero limit from the trend inflation framework. It contains a large lagged inflation coefficient and a small response to expected inflation. The response to the output gap is always muted and is zero at standard parameters. A neutrality result is presented to explain why and to align Calvo with Taylor pricing. Present and lagged demand shocks enter the Phillips curve so there is no Divine Coincidence and the system is identified from structural shocks alone. The lagged inflation slope is increasing in the inflation response, embodying substantive policy trade-offs. The Taylor principle is reversed, inactive settings are necessary for existence, pointing towards inertial policy. The observational equivalence idea of the Lucas critique is disproven. The bifurcation results from the breakdown of the constraints implied by lagged nominal rigidity, associated with cross-equation cancellation possible only at ZINSS. There is a dual relationship between restrictions on the econometrician and constraints on repricing firms. Thus if the model is correct, goodness of fit will jump. |
| Date: | 2023–12 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:2312.16214&r=dge |
| By: | Patrick Gruning (Latvijas Banka); Andrejs Zlobins (Latvijas Banka) |
| Abstract: | Given the decades-high inflation, central banks are complementing conventional rate hikes with quantitative tightening (QT), i.e. a reduction of the sizeable asset holdings accumulated during the quantitative easing (QE) era. In this study, we employ empirical (proxy-SVAR) and structural (medium-scale NK DSGE) frameworks to study the macroeconomic implications of QT. Our empirical findings show that the impact of QT has been relatively muted in the US, suggesting asymmetric effects of QT compared to QE. This finding is corroborated by model simulations, calibrated to the post-pandemic high inflation environment. Nevertheless, QT can partly substitute conventional rate hikes by creating some deflationary pressure and requiring less aggressive conventional policy action. QT produces smaller effects in the euro area (EA) due to the smaller share of private bonds on the ECB’s balance sheet. However, a potential concern for QT in the EA is the proliferation of fragmentation risk. We empirically argue that the deployment of market-stabilisation QE can be used to stabilise sovereign spreads without creating considerable inflationary pressure in case QT leads to disorderly market dynamics. |
| Keywords: | monetary policy, quantitative tightening, quantitative easing, proxy-SVAR, DSGE |
| JEL: | C54 E31 E52 E58 G12 |
| Date: | 2023–12–27 |
| URL: | http://d.repec.org/n?u=RePEc:ltv:wpaper:202309&r=dge |
| By: | Fangzhi Wang; Hua Liao; Richard S. J. Tol |
| Abstract: | We investigate optimal carbon abatement in a dynamic general equilibrium climate-economy model with endogenous structural change. By differentiating the production of investment from consumption, we show that social cost of carbon can be conceived as a reduction in physical capital. In addition, we distinguish two final sectors in terms of productivity growth and climate vulnerability. We theoretically show that heterogeneous climate vulnerability results in a climate-induced version of Baumol's cost disease. Further, if climate-vulnerable sectors have high (low) productivity growth, climate impact can either ameliorate (aggravate) the Baumol's cost disease, call for less (more) stringent climate policy. We conclude that carbon abatement should not only factor in unpriced climate capital, but also be tailored to Baumol's cost and climate diseases. |
| Date: | 2023–11 |
| URL: | http://d.repec.org/n?u=RePEc:arx:papers:2312.00160&r=dge |