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on Dynamic General Equilibrium |
| 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 illiquid 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:bge:wpaper:1436&r=dge |
| By: | Heresi, Rodrigo |
| Abstract: | I study the welfare and macroeconomic implications of simple and implementable fiscal policy rules in commodity-dependent economies, where a large share of output, exports, and government revenues depend on exogenous and volatile commodity prices. Using a multisector New Keynesian model estimated for the Chilean economy, we find that the welfare-maximizing fiscal policy involves an actively countercyclical response to the tax revenue cycle and a mildly procyclical response to the commodity revenue cycle. Compared to a benchmark acyclical policy, the optimized rule minimizes GDP growth volatility while delivering welfare gains of 0.6% of lifetime consumption to non-Ricardian (financially constrained) households. Government consumption and especially public investment are particularly helpful in stabilizing GDP, while targeted social transfers are essential to smooth the consumption of financially constrained households. Implementing the optimized rule requires moderate additional volatility (fiscal activism) in government spending and public debt. |
| Keywords: | Fiscal Rules;Raw materials sector;Open economy macroeconomics |
| JEL: | E62 F41 Q32 |
| Date: | 2023–10 |
| URL: | http://d.repec.org/n?u=RePEc:idb:brikps:13141&r=dge |
| By: | Rodolfo G. Campos; Jesús Fernández-Villaverde; Galo Nuño Barrau; Peter Paz |
| Abstract: | We study a new type of monetary-fiscal interaction in a heterogeneous-agent New Keynesian model with a fiscal block. Due to household heterogeneity, the stock of public debt affects the natural interest rate, forcing the central bank to adapt its monetary policy rule to the fiscal stance to guarantee that inflation remains at its target. There is, however, a minimum level of debt below which the steady-state inflation deviates from its target due to the zero lower bound on nominal rates. We analyze the response to a debt-financed fiscal expansion and quantify the impact of different timings in the adaptation of the monetary policy rule, as well as the performance of alternative monetary policy rules that do not require an assessment of the natural rates. We validate our findings with a series of empirical estimates. |
| Keywords: | HANK models, natural rates, fiscal shocks |
| JEL: | E32 E58 E63 |
| Date: | 2024–03 |
| URL: | http://d.repec.org/n?u=RePEc:bis:biswps:1172&r=dge |
| By: | Sushant Acharya; Paolo Pesenti |
| Abstract: | We study international monetary policy spillovers and spillbacks in a tractable two-country Heterogeneous Agent New Keynesian model. Relative to Representative Agent (RANK) models, our framework introduces a precautionary-savings channel, as households in both countries face uninsurable income risk, and a real-income channel, as households have heterogeneous marginal propensities to consume (MPC). While both channels amplify the size of spillovers/spillbacks, only precautionary savings can change their sign relative to RANK. Spillovers are likely to be larger in economies with higher fractions of high MPC households and more countercyclical income risk. Quantitatively, both channels amplify spillovers by 30-60 percent relative to RANK. |
| Keywords: | monetary policy spillovers; incomplete markets; precautionary savings; real-income channel |
| JEL: | E50 F41 F42 |
| Date: | 2024–03–01 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fednsr:97955&r=dge |
| By: | Ida, Daisuke; Kaminoyama, Kenichi |
| Abstract: | This paper explores the impact of the cost channel on the monetary transmission mechanism in a behavioral New Keynesian model. In contrast to previous studies, we demonstrate that the degree of cognitive discounting significantly affects the determinacy condition in the model with a cost channel. Second, we show that the price puzzle arises only when a large value of the cost channel parameter, which is not empirically supported, is introduced with a high degree of cognitive discounting. Third, we find that the degree of cognitive discounting significantly impacts the effect of the cost channel on optimal monetary policy. |
| Keywords: | Cognitive discounting; New Keynesian model; Cost channel; Monetary policy rules; Price puzzle; |
| JEL: | E52 E58 |
| Date: | 2024–03–12 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:120424&r=dge |
| By: | Bilbiie, F. O.; Melitz, M. J. |
| Abstract: | Due to its impact on nominal firm profits, price rigidity amplifies the response of entry and exit to supply shocks. When those supply shocks are negative, such as those following supply chain disruptions, this “entry-exit multiplier†substantially magnifies the associated welfare losses—especially when wages are also rigid. This is in stark contrast to the benchmark New Keynesian model (NK), which predicts a positive output gap in response to that same shock under the same monetary policy. Endogenous entry-exit thus radically changes the consequences of nominal rigidities. In addition to the aggregate-demand amplification of supply disruptions, our model also reconciles the response of hours worked across the NK and RBC models. And unlike the standard NK model, our model can also be used to evaluate how monetary expansions can alleviate or even eliminate the negative output gap induced by supply disruptions. |
| Keywords: | Aggregate Demand and Supply, Entry-Exit, Monetary Policy, Recessions, Sticky Prices, Sticky Wages, Variety |
| JEL: | E30 E40 E50 E60 |
| Date: | 2023–10–20 |
| URL: | http://d.repec.org/n?u=RePEc:cam:camjip:2317&r=dge |
| By: | Bilbiie, F. O.; Trabandt, M. |
| Abstract: | We show an equivalence result in the standard representative agent New Keynesian model after demand shocks: assuming sticky prices and flexible wages yields identical allocations for GDP, consumption, labor, inflation and interest rates to the opposite case flexible prices and sticky wages. This equivalence result arises if the price and wage Phillips curves-slopes are identical and generalizes to any pair of price and wage Phillips curve slopes such that their sum and product are identical. Nevertheless, the cyclical implications for profits and wages are substantially different. We discuss how the equivalence breaks when these factor-distributional implications matter for aggregate allocations, e.g. in New Keynesian models with heterogeneous agents, endogenous firm entry, and non-constant returns to scale in production. |
| Keywords: | inflation, Interest Rate, New Keynesian Model, Observational Equivalence, Output, Sticky Prices, Sticky Wages |
| JEL: | E10 E30 E50 |
| Date: | 2023–10–20 |
| URL: | http://d.repec.org/n?u=RePEc:cam:camjip:2318&r=dge |
| By: | Cavalcanti, Tiago; Kaboski, Joseph P.; Martins, Bruno; Santos, Cezar |
| Abstract: | Most aggregate theories of financial frictions model credit available at a cost of financing equal to the savings rate but rationed. However, using a comprehensive firm-level credit registry, we document both high levels and high dispersion in ex post credit spreads to Brazilian firms. We develop a quantitative dynamic general equilibrium model in which dispersion in spreads arises from intermediation costs and market power. Calibrating to the Brazilian data, we show that, for equivalent levels of external financing, spreads have profound impacts on aggregate development indeed moreso than credit rationing does and spreads yield firm dynamics that are more consistent with observed patterns. |
| Keywords: | Financial Frictions;Credit spreads;Aggregate misallocation |
| JEL: | O11 O16 E22 |
| Date: | 2023–10 |
| URL: | http://d.repec.org/n?u=RePEc:idb:brikps:13186&r=dge |
| By: | Salomón García-Villegas (Banco de España); Enric Martorell (Banco de España) |
| Abstract: | How should bank capital requirements be set to deal with climate-related transition risks? We build a general equilibrium macro banking model where production requires fossil and low-carbon energy intermediate inputs, and the banking sector is subject to volatility risk linked to changes in energy prices. Introducing carbon taxes to reduce carbon emissions from fossil energy induces risk spillovers into the banking sector. Sectoral capital requirements can effectively address risks from energy-related exposures, benefiting household welfare and indirectly facilitating capital reallocation. Absent carbon taxes, implementing fossil penalizing capital requirements does not reduce emissions significantly and may threaten financial stability. During the transition, capital requirements can complement carbon tax policies, safeguarding financial stability and trading off long-run welfare gains against lower investment and credit supply in the short run. |
| Keywords: | climate risk, financial intermediation, macroprudential policy, bank capital requirements |
| JEL: | Q43 D58 G21 E44 |
| Date: | 2024–03 |
| URL: | http://d.repec.org/n?u=RePEc:bde:wpaper:2410&r=dge |
| By: | Andrés Blanco (Federeal Reserve Bank of Atlanta and Emory University); Andrés Drenik (University of Texas at Austin); Christian Moser (Columbia University, CEPR, and IZA); Emilio Zaratiegui (Columbia University) |
| Abstract: | We develop a theory of labor markets with four features: search frictions, worker productivity shocks, wage rigidity, and two-sided lack of commitment. Inefficient job separations occur in the form of endogenous quits and layoffs that are unilaterally initiated whenever a worker’s wage-to-productivity ratio moves outside an inaction region. We derive sufficient statistics for the labor market response to aggregate shocks based on the distribution of workers’ wage-to-productivity ratios. These statistics crucially depend on the incidence of inefficient job separations, which we show how to identify using readily available microdata on wage changes and worker flows between jobs. |
| Keywords: | Wage Rigidity, Directed Search, Limited Commitment, Job Separations, Quits, Layoffs, Inflation |
| JEL: | E31 E52 J64 |
| Date: | 2024–03 |
| URL: | http://d.repec.org/n?u=RePEc:aoz:wpaper:313&r=dge |
| By: | Jesús Fernández-Villaverde; Yang Yu; Francesco Zanetti |
| Abstract: | This paper shows the importance of technological synergies among heterogeneous firms for aggregate fluctuations. First, we document six novel empirical facts using microdata that suggest the existence of important technological synergies between trading firms, the presence of positive assortative matching among firms, and their evolution during the business cycle. Next, we embed technological synergies in a general equilibrium model calibrated on firm-level data. We show that frictions in forming trading relationships and separation costs explain imperfect sorting between firms in equilibrium. In particular, an increase in the volatility of idiosyncratic productivity shocks significantly decreases aggregate output without resorting to non-convex adjustment costs. |
| Date: | 2024–03–08 |
| URL: | http://d.repec.org/n?u=RePEc:oxf:wpaper:1037&r=dge |
| By: | Corsetti, G.; Maeng, S. H. |
| Abstract: | Uncertainty about a government willingness to repay its outstanding liabilities upon auctioning new debt creates vulnerability to belief-driven hikes in borrowing costs. We show that optimizing policymakers will eliminate such vulnerability by accumulating reserves up to ensuring post-auction debt repayment in all (off-equilibrium) circumstances. The model helps explaining why governments hold significant amounts of reserves and appear reluctant to use them to smooth fundamental shocks. Quantitatively, the model explains reserve holdings up to 3% of GDP if debt is short term, 2.4% with long-term debt—as long bond maturities mitigate vulnerability to belief-driven crises. |
| Keywords: | Debt Sustainability, Discretionary Fiscal Policy, Expectations, Foreign Reserves, Self-Fulfilling Crises, Sovereign Default |
| JEL: | E43 E62 F34 H50 H63 |
| Date: | 2023–11–08 |
| URL: | http://d.repec.org/n?u=RePEc:cam:camjip:2319&r=dge |
| By: | Ngai, L. Rachel; Sheedy, Kevin D. |
| Abstract: | This article documents the role of inflows (new listings) and outflows (sales) in explaining the volatility and comovement of housing-market variables. An “ins versus outs” decomposition shows that both flows are quantitatively important for housing-market volatility. The correlations between sales, prices, new listings, and time-to-sell are stable over time, whereas the signs of their correlations with houses for sale are found to be time-varying. A calibrated search-and-matching model with endogenous inflows and outflows and shocks to housing demand matches many of the stable correlations and predicts that the correlations with houses for sale depend on the source and persistence of shocks. |
| Keywords: | housing-market cyclicality; inflows and outflows; search frictions; match quality; Rachel Ngai acknowledges support from the British Academy Mid-Career Fellowship; Wiley deal |
| JEL: | R31 E32 R21 E22 |
| Date: | 2024–03–05 |
| URL: | http://d.repec.org/n?u=RePEc:ehl:lserod:121451&r=dge |
| By: | Egemen Eren; Timothy Jackson; Giovanni Lombardo |
| Abstract: | Is there a role for central bank balance sheet policies away from the effective lower bound on interest rates? We extend the canonical DSGE model with financial frictions to include a fully specified central bank balance sheet. We find that the balance sheet size and composition can play a macroprudential role in improving the efficacy of monetary policy. The optimal balance-sheet policy aims at affecting duration risk held by banks in order to increase their resilience to shocks. Optimal short-run balance sheet policies bring no additional advantage to using the policy rate alone provided the optimal long-run balance sheet is already in place. Our results also highlight a key role for government debt maturity and bank regulation in determining optimal central bank balance sheets. |
| Keywords: | optimal monetary policy, central bank balance sheet, government debt, reserves, financial frictions, macroprudential |
| JEL: | E42 E44 E51 E52 G2 |
| Date: | 2024–03 |
| URL: | http://d.repec.org/n?u=RePEc:bis:biswps:1173&r=dge |
| By: | Bilbiie, F. O.; Kanzig, D. R. |
| Abstract: | Amidst the recent resurgence of inflation, this paper investigates the interplay of corporate profits and income distribution in shaping inflation and aggregate demand within the New Keynesian framework. We derive a novel analytical condition for profits to be procyclical and inflationary. Furthermore, we show that the cyclicality of profits is a key determinant of the propagation properties of these models under household heterogeneity, but there is a catch: for aggregate-demand fluctuations and inflation to be amplified by heterogeneity, profits have to be countercyclical—an implication that is at odds with the data. Adding physical capital investment to the model can resolve this conundrum, generating aggregate-demand amplification even under procyclical profits. However, the amplification works through an investment channel and not through profits, inconsistent with the narrative attributing elevated inflation to corporate greed. |
| Keywords: | Aggregate demand, income distribution, inflation, profits |
| JEL: | D11 E32 E52 E62 |
| Date: | 2023–07–22 |
| URL: | http://d.repec.org/n?u=RePEc:cam:camjip:2313&r=dge |
| By: | Corentin Roussel |
| Abstract: | Differentiated treatment of green credit risk in banks’ capital requirements to favor green transition generates lot of debates among European prudential regulators. The aim of this paper is to examine whether the key Basel 3 finalization instrument - the Output Floor - should be applied to green credit risk in order to ensure stability of banking system and promote green finance. To do so, we assess macrofinancial and environmental benefits of such green policy for the Euro Area through the lens of a general equilibrium model. We get three main results. First, when banks get transitory ’environmental awareness’, an Output Floor (OF) applied to brown credits only (i.e. a brown OF) faces a trade-off between limiting environmental aftermaths and reaching OF objectives (i.e reducing volatility of banks’ capital adequacy ratio). Second, to mitigate the prudential cost of this trade-off, brown OF should be joined with additional green financial policies such as green Quantitative Easing. Third, pollutant emissions tax erodes brown OF efficiency along financial and economic cycles but limits the welfare cost implied by pollution in the long run. |
| Keywords: | Output Floor, Credit Risk, Green Finance, Climate Change, DSGE. |
| JEL: | Q54 G21 E44 E51 |
| Date: | 2024 |
| URL: | http://d.repec.org/n?u=RePEc:ulp:sbbeta:2024-07&r=dge |
| By: | James Graham; Robert A. McDowall |
| Abstract: | We study consumption spending responses to predictable income using household-level data from a U.S. financial institution. Even for households with large liquid asset balances, we find no spending in anticipation of income receipt, substantial spending following receipt, and significant front-loading with respect to date of receipt. To rationalize these findings, we develop a tractable model of mental accounts where consumption choices are partitioned across current income and current assets. Our model reproduces the timing, magnitude, and cross-section of consumption responses observed in the data. Finally, we use the model to study the effectiveness of targeted and untargeted fiscal stimulus policies. |
| Keywords: | consumption, MPC, excess sensitivity, mental accounts, fiscal stimulus |
| JEL: | E21 E62 E70 |
| Date: | 2024–04 |
| URL: | http://d.repec.org/n?u=RePEc:een:camaaa:2024-25&r=dge |
| By: | Andrew Caplin (New York University); Victoria Gregory (FRB St. Louis); Eungik Lee (New York University); Soeren Leth-Petersen (University of Copenhagen); Johan Saeverud (University of Copenhagen) |
| Abstract: | Earnings risk is central to economic analysis. While this risk is essentially subjective, it is typically inferred from administrative data. Following the lead of Dominitz and Manski (1997), we introduce a survey instrument to measure subjective earnings risk. We pay particular attention to the expected impact of job transitions on earnings. A link with administrative data provides multiple credibility checks. It also shows subjective earnings risk to be far lower than its administratively estimated counterpart. This divergence arises because expected earnings growth is heterogeneous, even within narrow demographic and earnings cells. We calibrate a life-cycle model of search and matching to administrative data and compare the model-implied expectations with our survey instrument. This calibration produces far higher estimates of individual earnings risk than do our subjective expectations, regardless of age, earnings, and whether or not workers switch jobs. This divergence highlights the need for survey-based measures of subjective earnings risk. |
| Keywords: | earnings risk, job transitions, subjective expectations |
| JEL: | D31 D84 E24 J31 |
| Date: | 2023–03–09 |
| URL: | http://d.repec.org/n?u=RePEc:kud:kucebi:2301&r=dge |
| By: | Francesco Chiocchio (CEMFI, Centro de Estudios Monetarios y Financieros) |
| Abstract: | How do property taxes affect house prices, homeownership, and welfare? I focus on Italy, a country with high homeownership, an outdated property tax system, and failed reform attempts. As in many other countries, owner-occupied houses are exempt from property taxes in Italy. Additionally, property taxes are calculated using outdated cadastral values. I show that using cadastral values creates a regressive property tax since cadastral values are relatively lower for more expensive housing units. I develop a life-cycle model with endogenous homeownership to assess the effects of reforming the current system. My findings show that removing the owner-occupied exemption and adjusting cadastral values to market values increases government property tax revenues as a percentage of GDP by over 0.8 percentage points but also increases homeownership rates by 1.2 percentage points. The increase in homeownership results from lower property tax rates on smaller houses. Finally, I show that in the short run, the reform increases the welfare of young households but lowers the welfare of older ones. In the long run, welfare increases for new generations. Higher welfare is mainly due to the decrease in house prices in equilibrium. |
| Keywords: | Property taxes and assessment, housing markets, homeownership, wealth accumulation and bequests. |
| JEL: | D15 H24 H31 R21 |
| Date: | 2024–03 |
| URL: | http://d.repec.org/n?u=RePEc:cmf:wpaper:wp2024_2404&r=dge |
| By: | : Dubois, Loick (University Paris-Dauphine); Sahuc, Jean-Guillaume (Banque de France, University Paris-Nanterre); Vermandel, Gauthier (Ecole Polytechnique, Palaiseau and University Paris-Dauphine) |
| Abstract: | This paper studies the general equilibrium effects of carbon permit banking during the transition to a climate-neutral economy by 2050. The analysis highlights the critical role of permit banking in shaping the policy outcomes. |
| Keywords: | Emission trading systems, cap policies, carbon permit banking, environmental real business cycle model, occasionally-binding constraints, nonlinear estimation |
| JEL: | C32 E32 Q50 Q52 Q58 |
| Date: | 2024–02 |
| URL: | http://d.repec.org/n?u=RePEc:bda:wpsmep:wp2024/20&r=dge |
| By: | JINJI Naoto; OZAWA Shunya |
| Abstract: | We quantify the impact of trade and technology transfer restrictions between the United States (US) and China, technology protection policies in China, and export control laws in both countries through the US-China technological decoupling. To achieve this, we develop a dynamic quantitative general equilibrium trade model that considers foreign direct investment involving technology transfer. Our model comprises the final and intermediate goods sectors and assumes that only the latter utilizes technology capital. Our counterfactual analysis is based on data from 89 countries in 2016. We find that the US, China, and the world as a whole experience welfare losses owing to the US-China decoupling. We further observe that China’s technology protection policy affects not only countries with significant technology transfers from China but also those that rely heavily on technology capital. Countries with larger import shares from the US and China experience more substantial declines in the import of intermediate goods owing to the US and Chinese export control laws. |
| Date: | 2024–03 |
| URL: | http://d.repec.org/n?u=RePEc:eti:dpaper:24041&r=dge |
| By: | MUKOYAMA Toshihiko; NAKAKUNI Kanato; NIREI Makoto |
| Abstract: | This study analyzes the Japanese economy during the Great Recession period (2007-2009). The Japanese GDP declined considerably during this period, despite little exposure to the US housing market, and exports declined significantly. Motivated by this fact, we construct a multi-sector, multi-region, and small open economy model. Each region has a representative consumer, and regions and sectors are linked through input-output linkages and consumers’ final demand. We measure the export shocks in each region using trade statistics. Using our model, we quantitatively evaluate how the decline in export demand propagates throughout the country. We find that export shocks account for a significant portion of the GDP decline in many regions. To inspect the mechanism, we conduct counterfactual exercises in which the change in GDP is decomposed within and across regions, as well as within and across sectors. |
| Date: | 2024–03 |
| URL: | http://d.repec.org/n?u=RePEc:eti:dpaper:24038&r=dge |
| By: | Luis E. Rojas (UAB, MOVE and Barcelona School Of Economics); Dominik Thaler (European Central Bank) |
| Abstract: | The feedback loop between sovereign and financial sector insolvency has been identified as a key driver of the European debt crisis and has motivated an array of policy proposals. We revisit this “doom loop” focusing on governments’ incentives to default. To this end, we present a simple 3-period model with strategic sovereign default, where debt is held by domestic banks and foreign investors. The government maximizes domestic welfare, and thus the temptation to default increases with externally-held debt. Importantly, the costs of default arise endogenously from the damage that default causes to domestic banks’ balance sheets. Domestically-held debt thus serves as a commitment device for the government. We show that two prominent policy prescriptions – lower exposure of banks to domestic sovereign debt or a commitment not to bailout banks – can backfire, since default incentives depend not only on the quantity of debt, but also on who holds it. Conversely, allowing banks to buy additional sovereign debt in times of sovereign distress can avert the doom loop. In an extension we show that in the context of a monetary union (such as the euro area) similar unintended negative consequences may arise from the pooling of debt (such as European safe bonds (ESBies)). A central bank backstop (such as the ECB’s Transmission Protection Instrument) can successfully disable the loop if precisely calibrated. |
| Keywords: | sovereign default, bailout, doom loop, self-fulfilling crises, transmission protection instrument, ESBies |
| JEL: | E44 E6 F34 |
| Date: | 2024–03 |
| URL: | http://d.repec.org/n?u=RePEc:bde:wpaper:2409&r=dge |