|
on Dynamic General Equilibrium |
|
Issue of 2024‒05‒20
23 papers chosen by |
| By: | Nicolas Caramp; Dejanir H. Silva |
| Abstract: | We study the role of asset revaluation in the monetary transmission mechanism. We build an analytical heterogeneous-agents model with two main ingredients: i) rare disasters; ii) heterogeneous beliefs. The model captures time-varying risk premia and precautionary savings in a setting that nests the textbook New Keynesian model. The model generates large movements in asset prices after a monetary shock but these movements can be neutral on real variables. Real effects depend on the redistribution among agents with heterogeneous precautionary motives. In a calibrated exercise, we find that this channel accounts for the majority of the transmission to output. |
| Keywords: | monetary policy, wealth effects, asset prices, aggregate risk, heterogeneity beliefs |
| JEL: | E21 E44 E52 G12 |
| Date: | 2024 |
| URL: | http://d.repec.org/n?u=RePEc:ces:ceswps:_11049&r=dge |
| By: | Davide Debortoli; Jordi Galí |
| Abstract: | We analyze the merits and limitations of simple tractable New Keynesian models (RANK and TANK) in accounting for the aggregate predictions of Heterogenous Agent New Keynesian models (HANK). By means of comparison of a number of nested HANK models, we isolate the role played by (i) idiosyncratic income risk, (ii) a binding borrowing constraint, and (iii) a portfolio choice between liquid and iliquid assets. We argue that the effects of household heterogeneity can be largely understood looking at the differential behavior of two types of households, hand-to-mouth and unconstrained, We find that a suitably specified and calibrated TANK model (which abstracts from idiosyncratic income risk) captures reasonably well the aggregate implications of household heterogeneity and the main channels through which it operates. That ability increases in the presence of a policy rule that emphasizes inflation stability. In the limiting case of a strict inflation targeting policy, heterogeneity becomes irrelevant for the determination of aggregate output. |
| Keywords: | monetary policy, idiosyncratic income risk, incomplete markets, representative household, New Keynesian model, HANK models |
| JEL: | E32 E52 |
| Date: | 2024–03 |
| URL: | http://d.repec.org/n?u=RePEc:upf:upfgen:1882&r=dge |
| By: | Bougheas, Spiros; Commendatore, Pasquale; Gardini, Laura; Kubin, Ingrid; Zörner, Thomas O. |
| Abstract: | We introduce a banking sector and heterogeneous agents in the dynamic overlapping generations model of Matsuyama et al. (2016). Our model captures the benefits and costs of an advanced banking system. While it allocates resources to productive activities, it can also hinder progress if it invests in projects that do not contribute to capital formation, and potentially triggering instabilities due to the emergence of cycles. Our intergenerational dynamic framework, enables us to show that income inequality between agents increases during recessions, confirming empirical observations. Moreover, we identify both changes in production factor prices and the reallocation of agents across occupations as driving factors behind the increased inequality. |
| Keywords: | Banks; Financial Innovation; Cycles; Income Inequality |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:wiw:wus005:62095520&r=dge |
| By: | Rong Li (School of Finance, Renmin University of China); Dongzhou Mei (School of International Economics and Trade, Central University of Finance and Economics); Bing Tong (Center for Financial Development and Stability at Henan University, and School of Economics at Henan University, Kaifeng, Henan) |
| Abstract: | We introduce gradual adjustment costs for both domestic and foreign bonds in a New Keynesian small open economy model, unifying the theories of foreign exchange intervention and the liquidity effect. With gradual adjustment for foreign bonds, interest rate differentials lead to persistent capital flows. With adjustment costs for domestic bonds, open market operations generate a stronger liquidity effect, which has real effects in an environment with costly intermediation. Furthermore, under gradual portfolio adjustment, nominal interest rates change temporarily in response to asset transactions, so that the model can restore equilibrium when the steady-state asset ratios have changed. |
| Keywords: | Gradual portfolio adjustment, Foreign Exchange intervention, Open market operations, Capital flows, Liquidity effect, Small open economy, New Keynesian model |
| JEL: | E44 E58 E63 F31 F32 F41 |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:fds:dpaper:202406&r=dge |
| By: | François Gourio; Phuong Ngo |
| Abstract: | We develop a parsimonious New Keynesian macro-finance model with downward nominal rigidities to understand secular and cyclical movements in Treasury bond premia. Downward nominal rigidities create state-dependence in output and inflation dynamics: a higher level of inflation makes prices more flexible, leading output and inflation to be more volatile, and bonds to become more risky. The model matches well the relation between the level of inflation and a number of salient macro-finance moments. Moreover, we show that empirically, inflation and output respond more strongly to productivity shocks when inflation is high, as predicted by the model. |
| Keywords: | term premium; Bond premiums; Phillips curve; Inflation; Asymmetry |
| JEL: | E31 E32 E43 E44 G12 |
| Date: | 2024–03–24 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedhwp:98104&r=dge |
| By: | Jean-Guillaume Sahuc; Grégory Levieuge; José Garcia-Revelo |
| Abstract: | The European Central Bank and the Federal Reserve introduced new policy instruments and made changes to their operational frameworks to address the global financial crisis (2008) and the Covid-19 pandemic (2020). We study the macroeconomic effects of these monetary policy evolutions on both sides of the Atlantic Ocean by developing and estimating a tractable two-country dynamic stochastic general equilibrium model. We show that the euro area and the United States faced shocks of different natures, explaining some asynchronous monetary policy measures between 2008 and 2023. However, counterfactual exercises highlight that all conventional and unconventional policies implemented since 2008 have appropriately (i) supported economic growth and (ii) maintained inflation on track in both areas. The exception is the delayed reaction to the inflationary surge during 2021-2022. Furthermore, exchange rate shocks played a significant role in shaping the overall monetary conditions of the two economies. |
| Keywords: | Monetary policy, real exchange rate dynamics, two-country DSGE model, Bayesian estimation, counterfactual exercises |
| JEL: | E32 E52 |
| Date: | 2024 |
| URL: | http://d.repec.org/n?u=RePEc:drm:wpaper:2024-13&r=dge |
| By: | Foltyn, Richard; Olsson, Jonna |
| Abstract: | This paper examines how objective and subjective heterogeneity in life expectancy affects savings behavior of healthy and unhealthy people. Using data from the Health and Retirement Study, we first document systematic biases in survival beliefs across self-reported health: those in poor health not only have a shorter actual lifespan but also underestimate their remaining life time. To gauge the effect on savings behavior and wealth accumulation, we use an overlapping-generations model where survival probabilities and beliefs evolve according to a health and survival process estimated from data. We conclude that differences in life expectancy are important to understand savings behavior, and that the belief biases, especially among the unhealthy, can explain up to a fifth of the observed health-wealth gap. |
| Keywords: | life expectancy, preference heterogeneity, subjective beliefs, life cycle |
| JEL: | D15 E21 G41 I14 |
| Date: | 2024 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:esprep:294009&r=dge |
| By: | Jaccard, Ivan |
| Abstract: | The evidence suggests that monetary policy transmission is asymmetric over the business cycle. Interacting financing frictions with a preference for liquidity provides an explanation for this fact. Our mechanism generates monetary asymmetries in a model that jointly reproduces a set of asset market and business cycle facts. Accounting for the joint dynamics of asset prices and business cycle fluctuations is key; in a variant of the model that is unable to produce realistic macro-finance implications, monetary asymmetries disappear. Our results suggest that asymmetries in the transmission mechanism critically depend on the macro-finance implications of monetary policy models, and that resorting to nonlinear techniques is not sufficient to detect monetary asymmetries. JEL Classification: E31, E44, E58 |
| Keywords: | asset pricing in DSGE models, money demand, nonlinear solution methods, stochastic discount factor, term premium |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20242928&r=dge |
| By: | Corentin Roussel |
| Abstract: | Output floor has emerged as a possibly important tool to ensure financial stability within the banking system. This paper proposes to assess the quantitative potential of output floor to ensure financial stability through the lens of a general equilibrium model for the Euro Area. We get three main results. First, implementation of output floor entails macrofinancial stabilization benefits for Euro Area activities in the long run, which confirms results found by financial European regulators. Second, along financial and economic cycles, output floor activation reduces volatility of banks capital to risk-weighted-asset ratio and the dispersion of this ratio between core and periphery banks, consistently with the desired outcome defined by financial regulators. Third, moderate banking openness in Euro Area limits cross-border credit flows spillovers, which does not affect output floor efficiency. However, full banking openness (i.e. banking union) produces high spillovers and erodes this efficiency. |
| Keywords: | Output Floor, Credit Risk, Banking System, Euro Area, DSGE. |
| JEL: | G21 F36 F41 E44 |
| Date: | 2024 |
| URL: | http://d.repec.org/n?u=RePEc:ulp:sbbeta:2024-18&r=dge |
| By: | Darracq Pariès, Matthieu; Kornprobst, Antoine; Priftis, Romanos |
| Abstract: | We evaluate how the euro area economy would have performed since mid-2021 under alternative monetary policy strategies. We use the ECB’s workhorse estimated DSGE model and contrast actual policy conduct against alternative strategies which differ in their ”lower-for-longer” commitment as well as policymaker preferences regarding inflation and output volatility. Assuming that the monetary authority had full knowledge of prevailing conditions from mid-2021 onwards, the alternative policy strategies would call for anticipated timing of the start of the hiking cycle: earlier tightening would prevent inflation from peaking at 10%, but the forceful tightening since 2022:Q3 prevented higher inflation from becoming entrenched. However, once evaluating monetary policy on real-time quarterly vintages of incoming data and projections, the alternative interest rate paths would be broadly consistent with the observed policy conduct. The proximity of some benchmark optimal policy counterfactuals with the baseline, brings further indication that the actual policy conduct succeeded in implementing an efficient management of the output-inflation trade-off. JEL Classification: C53, E31, E42, E52, E58 |
| Keywords: | dual mandate, estimated DSGE model, euro area, monetary policy frameworks, optimal policy |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:ecb:ecbwps:20242935&r=dge |
| By: | Boaz Abramson; Job Boerma; Aleh Tsyvinski |
| Abstract: | We develop an economic theory of mental health. The theory is grounded in classic and modern psychiatric literature, is disciplined with micro data, and is formalized in a life-cycle heterogeneous agent framework. In our model, individuals experiencing mental illness have pessimistic expectations and lose time due to rumination. As a result, they work less, consume less, invest less in risky assets, and forego treatment which in turn reinforces mental illness. We quantify the societal burden of mental illness and evaluate the efficacy of prominent policy proposals. We show that expanding the availability of treatment services and improving treatment of mental illness in late adolescence substantially improve mental health and welfare. |
| JEL: | E0 H0 I10 |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:32354&r=dge |
| By: | Alexandre Kornelius; Jose Angelo Divino |
| Abstract: | Transition to renewable energy might affect sensitivity to different types of energy supply and demand shocks economy wide. This paper develops a DSGE model that features renewable energy production, stochastic growth, and external habit formation to tackle this issue. The model is estimated by Bayesian techniques for Brazil, a large country highly dependent on renewable sources with an energy matrix that may soon reflect other countries' matrices. We assess historical decompositions of energy supply and demand shocks, address measurement errors due to regulated energy prices, account for the sharp increase in volatility during the pandemic period, compute structural impulse response functions, and calculate price-elasticities of energy demand. Energy supply shocks are the major driving force of energy prices. Output growth variations are mostly explained by non-energy shocks. Nevertheless, energy shocks account for 4.6% of its fluctuations, decomposed in 2% to energy-price (supply) shocks and 1.3% to each residential and industrial consumption (demand) shocks. Price-elasticities for residential energy usage are -0.150%, -0.364%, and -0.459% after one, ve, and ten years, respectively. Accordingly, price increases would have a limited impact to refrain energy consumption in times of climate change and adverse shocks in renewable sources. |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:bcb:wpaper:592&r=dge |
| By: | Felix Kubler (University of Zurich) |
| Abstract: | This paper examines constrained optimal carbon pricing in a general equilibrium model with incomplete asset markets. A carbon policy consists of state-dependent carbon taxes and a sharing rule for tax revenue recycling. The social cost of carbon (SCC) is defined as the present value of the future marginal costs of additional CO2 emissions, discounted at (personalized) prices. For the case of complete markets, we state simple, sufficient conditions that ensure that setting carbon taxes equal to the SCC results in a Pareto-efficient competitive equilibrium. When markets are incomplete, constrained Pareto-efficient carbon taxes generically differ from the SCC. To examine the potential quantitative importance of these differences, we consider an Aiyagari [1994]-style model with a climate change externality. We prove that (i) the SCC cannot be estimated from aggregate damage functions and market prices alone, and (ii) the deviations of constrained optimal carbon taxes from the SCC can be arbitrarily large. |
| Keywords: | climate change, financial frictions, heterogeneous agents, carbon taxes, environmental policy, integrated assessment models |
| JEL: | C61 D52 D62 Q51 Q54 |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:chf:rpseri:rp2427&r=dge |
| By: | Dennis Bonam; Bart Hobijn |
| Abstract: | We show that a negative relative demand shock in a sector with downwardly rigid prices, like the service sector, can generate substantial inflation. Such a shock induces an equilibrium decline in the relative price of services. If price adjustment costs are non-existent or symmetric, then this takes place through a simultaneous decline in services prices and increase in goods prices, resulting in, on net, little inflation. If prices in the services sector are downwardly rigid, however, this takes place mostly through an increase in goods prices, resulting in inflation. To illustrate the relevance of this mechanism in practice we provide evidence on the downward rigidity of person-to-person service prices during the Covid pandemic of 2020-2021. We then introduce downward price rigidities in a multisector New-Keynesian model and show how they can result in inflationary relative demand shocks. |
| Keywords: | Inflation; multisector models; price rigidity |
| JEL: | E12 E31 E52 |
| Date: | 2024–04–12 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fedhwp:98101&r=dge |
| By: | Boris Chafwehe; Andrea Colciago; Romanos Priftis |
| Abstract: | This paper proposes a New Keynesian multi-sector industry model incorporating firm heterogeneity, entry, and exit dynamics, while considering energy production from both fossil fuels and renewables. We examine the impacts of a sustained fossil fuel price hike on sectoral size, labor productivity, and inflation. Final good sectors are ex-ante heterogeneous in terms of energy intensity in production. For this reason, a higher relative price of fossil resources affects their profitability asymmetrically. Further, it entails a substitution effect that leads to a greener mix of resources in the production of energy. As production costs rise, less efficient firms leave the market, while new entrants must display higher idiosyncratic productivity. While this process enhances average labor productivity, it also results in a lasting decrease in the entry of new firms. A central bank with a strong anti-inflationary stance can circumvent the energy price increase and mitigate its inflationary effects by curbing rising production costs while promoting sectoral reallocation. While this entails a higher impact cost in terms of output and lower average productivity, it leads to a faster recovery in business dynamism in the medium-term. |
| Keywords: | Energy; productivity; firm entry and exit; monetary policy |
| JEL: | E62 L16 O33 |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:dnb:dnbwpp:811&r=dge |
| By: | Yang, Dongkyu |
| Abstract: | Economic adjustments through trade and migration can mitigate environmental shocks but may also propagate them to other parts of the economy. Using a dynamic spatial general equilibrium model, I quantify the transmission of environmental shocks by capitalizing on the 1930s American Dust Bowl. The counterfactual analysis shows that the Dust Bowl decreased aggregate U.S. welfare by 3.80% per capita by 1940. The local shock in agriculture more than proportionally transmitted to consumer services, while the tradable goods-producing sec-tor mitigated the shock. Such a disparity hindered structural change to services in the Dust Bowl region. Instead, economy-wide adjustments relied on the spatial reallocation of workers. Moreover, the Dust Bowl region exported price increases in agricultural goods, leading to a sizeable welfare loss in the non-Dust Bowl region despite the relative increases in real income. |
| Date: | 2024–04–02 |
| URL: | http://d.repec.org/n?u=RePEc:osf:socarx:jxz2b&r=dge |
| By: | Javier Andrés; José Emilio Boscá; Rafael Doménech; Javier Ferri |
| Abstract: | We evaluate the welfare and macroeconomic implications of three distinct strategies aimed at reducing carbon emissions, which could be categorized within the diverse landscape of ideas encompassed by the degrowth literature. These strategies include penalizing fossil fuel demand, substituting aggregate consumption with leisure, and curbing consumption by limiting total factor productivity growth. Using an environmental dynamic general equilibrium model (eDGE) that incorporates both green renewable technologies and fossil fuels in the production process, our study sets an emissions reduction target aligned with the goals of the Paris Agreement by 2050. The results reveal that the strategies analyzed, which most closely align with the strictest interpretations of degrowth—namely, a reduction in the consumption of goods and services compensated by an increase in leisure, or strong impediments against conventional economic growth—may entail significant economic consequences, leading to a notable decline in welfare. In particular, a degrowth scenario aimed at curbing consumption through a decline in Total Factor Productivity (TFP) yields the most pronounced reduction in welfare. Conversely, inducing a reduction in fossil fuel demand by increasing the price of fossil fuels through taxes, despite potential social backlash, shows noticeably less detrimental effects on welfare compared to other degrowth policies. Furthermore, under this degrowth strategy, our findings suggest that a globally coordinated strategy could result in long-term welfare gain. |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:fda:fdaddt:2024-04&r=dge |
| By: | Adamopoulou, Effrosyni; Manaresi, Francesco; Rachedi, Omar; Yurdagul, Emircan |
| Abstract: | Minimum wages generate an asymmetric pass-through of rm shocks across workers. We establish this result leveraging employer-employee data on Italian metalmanufacturing rms, which face dierent wage oors that vary within occupations. In response to negative rm productivity shocks, workers close to the wage oors experience higher job separations but no wage loss. However, the wage of high-paid workers decreases, and more so in rms with higher incidence of minimum wages. A neoclassical model with complementarities across workers with dierent skills rationalizes these ndings. Our results uncover a novel channel that tilts the welfare gains of minimum wages toward low-paid workers. |
| Keywords: | Firm productivity shocks, pass-through, employer-employee data, skill complementarities, incomplete-market model |
| JEL: | E24 E25 E64 J31 J38 J52 |
| Date: | 2024 |
| URL: | http://d.repec.org/n?u=RePEc:zbw:zewdip:290403&r=dge |
| By: | Masashige Hamano (Waseda University); Yuki Murakami (Waseda University) |
| Abstract: | This paper investigates the stabilization role of government spending in a collateral constrained small open economy. The economy is characterized by inefficiencies in borrowing decisions, resulting from pecuniary externalities and the amplification mechanism of the debt-deflation spiral. In this context, government spending serves to maintain financial stability, extending beyond the efficient provision of public goods. When the economy borrows up to its limit, the optimal response is fiscal stimulus, which mitigates the amplification of the debt-deflation mechanism. The optimal time-consistent policy prevents recessionary shocks from leading to a financial crisis accompanied by a drastic reversal of the current account. We show that an implementable government spending policy, which maintains a constant ratio to GDP, approximates the optimal policy and achieves a second-best outcome. |
| Keywords: | Small open economy; financial crises; optimal government spending |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:wap:wpaper:2401&r=dge |
| By: | Johannes Brumm; Laurence J. Kotlikoff; Christopher Krause |
| Abstract: | Fiscal policy in the U.S. and other countries renders intertemporal budgets non-differentiable, nonconvex, and discontinuous. Consequently, assessing work and saving responses to policy requires global optimization. This paper develops the Global Life-Cycle Optimizer (GLO), a stochastic pattern-search algorithm. The GLO robustly, precisely, and quickly locates global optima in highly complex fiscal settings. We use the GLO to study how a stylized U.S. fiscal system distorts workers’ labor supply and saving assuming standard preferences. The system incorporates kinks from federal personal income tax brackets, Social Security’s FICA tax, and a notch from the provision of basic income below a threshold. The GLO reproduces theoretically predicted earnings bunching and flipping over a remarkably wide range of wage rates. Saving distortions can be equally dramatic. Associated excess burdens range from substantial to massive. Restricting labor supply to full-or part-time work can eliminate flipping when it’s optimal and produce flipping when it’s suboptimal. Joint filing can significantly reduce the earnings of lower-wage spouses relative to that of higher-wage spouses. The GLO can be applied to assess a country’s or state’s full set of work and saving disincentives. Consequently, it can facilitate analyses of structural labor supply and tax reform. |
| JEL: | H2 H3 H30 H31 I38 J22 |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:nbr:nberwo:32335&r=dge |
| By: | Annika Bacher |
| Abstract: | Single women hold less risky financial portfolios than single men. This paper analyzes the determinants of the “gender investment gap” based on a structural life-cycle framework. The model is able to rationalize the investment gap without introducing gender heterogeneity in preferences (e.g. in risk aversion). Rather, lower income levels and larger household sizes of single women are the main determinants for explaining the gap. Importantly, expectations about future realizations of both variables (that cannot easily be controlled for in regressions) drive most of the investment differences for young households whereas heterogeneity in observable characteristics explains the gap later in life. |
| Keywords: | Household Finance, Life-Cycle, Gender, Portfolio Choice |
| Date: | 2023 |
| URL: | http://d.repec.org/n?u=RePEc:bbq:wpaper:0003&r=dge |
| By: | Iván Alfaro; Nicholas Bloom; Xiaoji Lin |
| Abstract: | We show how real and financial frictions amplify, prolong and propagate the negative impact of uncertainty shocks. We first use a novel instrumentation strategy to address endogeneity in estimating the impact of uncertainty by exploiting differential firm exposure to exchange rate, policy, and energy price volatility in a panel of US firms. Using common proxies for financial constraints we show that ex-ante financially constrained firms cut their investment even more than unconstrained firms following an uncertainty shock. We then build a general equilibrium heterogeneous firms model with real and financial frictions, finding financial frictions: i) amplify uncertainty shocks by doubling their impact on output; ii) increase persistence by extending the duration of the drop by 50%; and iii) propagate uncertainty shocks by spreading their impact onto financial variables. These results highlight why in periods of greater financial frictions uncertainty can be particularly damaging |
| Keywords: | Uncertainty, Financial frictions, Investment, Employment, Cash Holding, Equity payouts |
| Date: | 2023 |
| URL: | http://d.repec.org/n?u=RePEc:bbq:wpaper:0001&r=dge |
| By: | Matías Moretti (University of Rochester); Lorenzo Pandolfi (Università di Napoli Federico II and CSEF); Sergio L. Schmukler (World Bank); Germán Villegas Bauer (International Monetary Fund); Tomás Williams (George Washington University) |
| Abstract: | We present evidence of inelastic demand in the market for risky sovereign bonds and examine its interplay with government policies. Our methodology combines bond-level evidence with a structural model featuring endogenous bond issuances and default risk. Empirically, we exploit monthly changes in the composition of a major bond index to identify flow shocks that shift the available bond supply and are unrelated to country fundamentals. We find that a 1 percentage point reduction in the available supply increases bond prices by 33 basis points. Although exogenous, these shocks might influence government policies and expected bond payoffs. We identify a structural demand elasticity by feeding the estimated price reactions into a sovereign debt model that allows us to isolate endogenous government responses. We find that these responses account for a third of the estimated price reactions. By penalizing additional borrowing, inelastic demand acts as a commitment device that reduces default risk. |
| Keywords: | emerging markets bond index, inelastic financial markets, institutional investors, international capital markets, small open economies, sovereign debt |
| JEL: | F34 F41 G11 G15 |
| Date: | 2024–03–26 |
| URL: | http://d.repec.org/n?u=RePEc:sef:csefwp:713&r=dge |