Modeling intertemporal general equilibrium: An application to Austrian commercial policy

We present a multi-sector CGE model featuring forward looking investiment and savings behavior within an intertemporal optimization framework. Thus, the model captures several of the intertemporal effects of commercial policy that have been stressed by recent literature on current account adjustment. We argue that pursuing a simulation approach in addressing these issues is warranted by certain limitations and ambiguities of the analytical literature. In addition to presenting the details of the model structure, the paper addresses calibration issues relating to intertemporal parameters. The model is calibrated to a microconsistent data set for the Austrian economy. Finally, the paper features an application of the model to a simple tariff liberalization scenario.     

Money and transaction costs under uncertainty

This paper studies the impact of transaction costs in a fully monetarized exchange economy in which money serves as unit of account, numéraire, medium of exchange, and intertemporal store of value, and proves the existence of a temporary competitive equilibrium when monetary transaction costs are intertemporally uncertain. In addition to the general-equilibrium analysis, the paper also explores individual-agent comparative-statics behavior for the economy under study. The trading behavior of an individual agent is elucidated in detail and conditions are presented under which Slutsky-type properties are obtainable.     

UNCERTAIN LIFETIME AND INTERTEMPORAL CHOICE: RISK AVERSION AS A RATIONALE FOR TIME DISCOUNTING*

This article makes explicit the links between preferences over lotteries on length of life and intertemporal choice. It shows that the approach used by traditional life cycle models to account for uncertain survival corresponds to a strong assumption of risk neutrality with respect to length of life. Relaxing such an assumption leads us to develop a more general formulation of lifetime utility in which time discounting is directly related to preferences over length of life. Exponential and hyperbolic discounting are found to result, in a first approximation, from constant and hyperbolic risk aversion with respect to length of life.     

Commodity Rates of Interest and Intertemporal Substitution in Commodity Demand and Consumption

This paper examines the role of commodity own rates of interest in intertemporal analysis of consumer behaviour and presents a disaggregate analysis of intertemporal substitution in commodity demand and consumption. Commodity rates of interest are defined from the Euler equations implied by the intertemporal consumer choice problem. The relationship between commodity own rates and the real interest rate is derived, and the conditions for equality of commodity own rates are discussed. The intertemporal commodity substitution elasticities are characterised using commodity rates of interest, and the intertemporal substitution elasticity of consumption is derived from its constituent commodity demands. Evidence from estimation of the demand system and the consumption function reveals high intertemporal substitution for consumer goods as well as consumption.     

Uncertain lifetime and ordinal impatience

We consider state dependent preferences which do not exhibit impatience when lifetime is certain and show that these preferences exhibit impatience when lifetime is uncertain. Assumptions of risk aversion and additively separable utility functions are not required.     

Estate tax and lifetime income inequality

This paper constructs a heterogeneous, intertemporal general equilibrium framework which integrates both intended and unintended bequest motives to examine the long-run effects of an estate tax on the inequality of lifetime income. The results are ambiguous in general and sensitive to the type of transfer motive involved. We find that in the purely intended bequest case, an estate tax increases the steady-state inequality of net lifetime income in the case where people's elasticity of intertemporal substitution is greater than one. However, in the purely unintended bequest case, the effect of an estate tax on inequality is dependent on the probability of survival.     

Exhaustible Resources,Non-Convexity and Competitive Equilibrium

Theoretical underpinnings of competitive equilibrium in an exhaustible-resource market with non-convex (u-shaped) costs are proposed. The analysis extends to intertemporal production Novshek and Sonnenschein’s approximation of static competitive equilibrium by limits of Cournot equilibria. A problem with using Novshek and Sonnenschein’s method is that oligopolistic equilibrium, even an open-loop equilibrium, to which limits might be applied, does not exist when there is a non-convex technology. Using epsilon equilibrium as the equilibrium concept finesses this problem. There are two types of limiting competitive equilibrium. A third type of competitive equilibrium that has been prominent in the literature is found to be inconsistent with limiting approximations.     

LIFETIME AND VERTICAL INTERTEMPORAL INEQUALITY, INCOME SMOOTHING, AND REDISTRIBUTION: A SOCIAL WELFARE APPROACH

Between and within-households intertemporal inequality indices are proposed to highlight the vertical and lifetime (i.e. cyclical) components of overall intertemporal inequality. Comparison with the classical static inequality indices is made. Income redistribution and smoothing (i.e. stabilization) are conveniently defined as the public policy impact on welfare, by means of the relative increase in intertemporal vertical and cyclical equity, respectively. The issue is important as many public policies are aimed at both (vertical and cyclical equity) objectives. Our approach provides a more appropriate evaluation of the desirability of public reforms aimed at achieving a greater vertical and cyclical equity, within a social welfare framework.     

Effects of uncertain lifetime and annuity insurance on capital accumulation and growth

Summary.  This paper studies the effects of uncertain lifetime on capital accumulation and growth and also the sensitivity of those effects to the existence of a perfect annuities market. The model is an overlapping generations model with uncertain lifetimes. The technology is convex and such that the marginal product of capital is bounded away from zero. A contribution of this paper is to show that the existence of accidental bequests may lead the economy to an equilibrium that exhibits asymptotic growth, which is impossible in an economy with a perfect annuities market or with certain lifetimes. This paper also shows that if individuals face a positive probability of surviving in every period, they may be willing to save at any age. This effect of uncertain lifetime on savings may also lead the economy to an equilibrium exhibiting asymptotic growth even if there exists a perfect annuities market. Received: April 17, 1996; revised version: December 9, 1997     

The Dynamics of Temporary Policies in a Small Open Economy

The paper corrects a subtle, but crucial, conceptual flaw in a solution procedure initially proposed in 1990 by Sen and Turnovsky to analyze anticipated regime changes in small open economies based on the intertemporal optimization of rational forward–looking agents. The problem is its failure to consider the intertemporal solvency of the economy consistently. The paper focuses on temporary shocks, although the procedure also applies to announced future permanent policy changes. Since the issue is generic and relevant to a large class of policy changes, it is important for the intertemporal solvency aspect to be incorporated consistently. The authors show that the seriousness of the error in the previous solution procedure depends upon the specific shock, and two contrasting examples are discussed.     

‘Subsistence first’ farm allocation decisions in senegal

This paper examines a problem, suggested by the Senegalese experience but common to many countries, of joint production of a subsistence crop (millet) which is subject to stringent marketing constraints and a cash crop (groundnuts) sold through established channels. Empirical implications for the intertemporal pattern of land allocation are drawn and evidence is provided to support the proposed approach.     

Prices or Quantities Can Dominate Banking and Borrowing*

The possibility of intertemporal banking and borrowing of tradable permits is often viewed as tilting the various policy debates about optimal pollution control instruments towards favoring such time-flexible quantities. This paper shows that this view can be misleading, at least for the simplest dynamic extension of the original “prices versus quantities” information structure. The model of this paper allows firms to know and act upon the realization of uncertain future costs two full periods ahead of the regulators. For any given circumstance, the paper shows that either a fixed price or a fixed quantity is superior in expected welfare to time-flexible banking and borrowing. Furthermore, the standard original formula for the comparative advantage of prices over quantities contains sufficient information to completely characterize the regulatory role of intertemporal banking and borrowing. The logic and implications of these results are analyzed and discussed.     

Labor income,borrowing constraints,and equilibrium asset prices

Summary We develop a duality approach to study an individual's optimal consumption and portfolio policy when the individual has limited opportunities to borrow against future labor income and cannot totally insure the risk of income fluctuations. The individual's intertemporal consumption and portfolio problem is cast in a continuous-time setting under uncertainty. We transform the individual's intertemporal problem into a dual shadow prices problem that solves the shadow prices for the individual's optimal consumption plan or equivalently the individual's intertemporal marginal rates of substitution. We show that the shadow prices process can be expressed as a product of a martingale and a decreasing process (normalized by the bond price). The existence of an optimal solution to the individual's intertemporal consumption and portfolio problem is established via duality. The duality approach also allows us to characterize in a sample way the individual's optimal consumption and portfolio policy in the presence of labor income and borrowing constraints. Equilibrium implications of borrowing constraints on asset prices are also discussed in the paper.This is a revised version of an earlier paper, entitled Consumption and Portfolio Decisions with Labor Income and Borrowing Constraints. We thank George Constandinides, Ayman Hindy, and Chi-fu Huang for helpful comments. We also thank two anonymous referees for their helpful comments and suggestions. Financial support from the Batterymarch Fellowship Program (for Hua He) is gratefully acknowledged.     

Neoclassical life-cycle consumption: a textbook example

Summary.   We present a simple neoclassical life-cycle model in continuous time, in which the effects of endogenous labor supply, uncertain lifetime, and family composition on consumption and income profiles are jointly analyzed. Due to a parsimonious specification, analytical solutions for consumption growth are available for constant intertemporal elasticity of substitution preferences. Without relying on borrowing constraints, the model can generate a hump in the consumption profile, and a comovement of consumption and income during working life. Received: June 9, 1999; revised version: October 4, 1999     

Optimal consumption-wealth relationships derived by consumer intertemporal profit maximisation

This paper proposes an artificial intertemporal consumer profit-maximisation problem that is simple to solve. The optimal consumption function, which is consistent with intertemporal utility maximisation, is then generated directly from a specification of the consumer's instantaneous profit function.     

Exploring policy options in joint intertemporal-spatial trade models using an incomplete markets approach

In this paper we discuss the desirability of service trade liberlization in the presence of incompleteness of markets where there is both inter-spatial and intertemporal trade between countries. We use numerical simulation methods for insights and relate our discussion to the General Agreement on Trade in Services (GATS) in the WTO. We interpret the absence of intertemporal trade as an absence of intermediation services provided by both domestic and foreign service providers. For simplicity, we consider extreme cases where intertemporal intermediation services can only be provided by domestic providers, so that when intertemporal trade in services is not allowed, markets are not complete. To our knowledge, this type of models is not used in the trade literature as general comparative statics results are unavailable. We first consider the liberalization of trade in financial services in an inter-spatial and intertemporal model of two countries, and we show how services liberalization can be welfare worsening in the presence of a tariff on spatial trade in goods. We show that this can hold in an artificial world with no domestic financial services provider. We compare financial service trade autarky in which there is no intermediation to financial service trade liberalization which involves costless intertemporal intermediation provided by foreign service providers. We also consider a more complex (and realistic) world where costly intermediation services can be provided by both domestic and foreign providers. This paper draws in part on material of an earlier paper, “Financial Services Trade Liberalization in A Joint Spatial Intertemporal Multi-Country Model” by Huang et al. (2004). We acknowledge the financial support from The Centre for Intentional Governance Innovation (CIGI), Waterloo, Canada and from National Social Science Foundation of China (SSFC Grant 07AJL002), National Natural Science Foundation of China (NSFC Grant 70825003) and “Humanities and Social Science” Major Project, Chinese Ministry of Education (Grant Number 07JJD790145).     

An Experimental Analysis of Intertemporal Allocation Behavior

If the future is uncertain, optimal intertemporal decisions rely on anticipating one's own optimal future behavior as is typical in dynamic programming. Our aim is to detect experimentally stylized facts about intertemporal decision making in a rich stochastic environment. Compared to previous experimental studies our experimental design is more complex since the time horizon is uncertain and termination probabilities have to be updated. In particular the decision task is non-stationary as in real life which seriously complicates the task of diagnosing behavioral regularities. In this study we give some illustrative results and provide some general perspectives. Our main result is that subjects' reaction to information about termination probablilities are qualitatively correct.     

SAVING AND SOCIAL INSURANCE

In a model which is both intertemporal and uncertain, this paper shows that risk averters increase saving in response to increases in the probability of income losses and reduce saving in response to social insurance.     

The endowment effect and intertemporal choice: a laboratory investigation

We present a laboratory investigation of intertemporal choice (i.e., elicited discount rates) allowing for the influence of the endowment effect. Consistent with the previous literature, we hypothesize that the endowment effect in an intertemporal choice setting results in substantially higher discount rates relative to when individuals treat the resources in question as found money. Our results support this hypothesis and our experimental design provides a new protocol for conducting choice experiments wherein the endowment effect is an important determinant of behaviour.     

Dynamic demand,consumers' expectations and monopolistic resource extraction: An application to OPEC pricing policies

This paper introduces intertemporal decision making of the consumers, including different price expectations (myopic, rational), into the framework of monopolistic resource depletion. This adds another dynamic feature which has been neglected by and large by the literature. In particular a differential game of the von Stackelberg type between consumers and an oil extracting monopoly is considered. Analytical solutions are obtained when demand is linear. This framework is then empirically applied to derive and reconcile rational OPEC strategies and past behaviour.This paper has been presented at the Third Annual Conference of the European Economic Association in Bologna. I like to thank an anonymous referee and Dr. Ohogu for valuable comments.