Short-memory equilibrium in stochastic overlapping generations economies

In stochastic OLG exchange economies, we show that short-memory equilibria—the natural extension from deterministic economies of steady states, low-order cycles, or finite state-space stationary sunspots equilibria—fail to exist generically in utilities. As a result, even with independent and identically distributed exogenous shocks there is serial correlation in endogenous economic variables in equilibrium. This arises even if utilities are time-separable, some goods inferior, and there are no technological lags. Hence, the origins of economic fluctuations can be traced only to the demographic structure of a heterogeneous agent, multiple-good economy.     

Evaluating growth cycle synchronisation in the EU

This paper provides an insight into the level of economic and monetary integration in Europe by analysing the degree of growth cycle synchronisation between seven European countries over the past thirty years. Two univariate trend-cycle decomposition methodologies, the Beveridge–Nelson (BN) decomposition and Harvey and Trimbur [Harvey, A.C. & Trimbur, T.M. (2003) “General Model-Based Filters for Extracting Cycles and Trends in Economic Time Series”, The Review of Economics and Statistics, 85(2), 244–255.]'s unobserved component model, together with a multivariate extension of the BN decomposition incorporating trend and cycle restrictions, are used to identify the trend and cyclical components from real GDP for each of the seven countries. The cycles extracted from the two univariate approaches vary significantly in both cycle period and amplitude. The average correlation calculated from the BN cycles are also smaller than the corresponding correlation estimated using cycles extracted from the unobserved component model. This confirms the argument in Canova [Canova, F. (1998) “Detrending and Business Cycle Facts”, Journal of Monetary Economics, 41(3), 475–512.] that the use of different trend-cycle decomposition methodologies may influence the results obtained. The results produced from the multivariate model indicate the presence of common features in the data. This may reflect the coordinated and common monetary and fiscal policies that these countries have shared over the sample period. However, the finding of codependent and heterogeneous growth cycles raises concerns about the operation of the European Monetary Union (EMU), as it implies that members may face significant stabilisation costs.     

Income effects and indeterminacy in a calibrated one-sector growth model

This note analyzes how the indeterminacy of competitive equilibrium in one-sector growth models depends on the magnitude of the households' income effect on the demand for leisure. Since I am interested in quantitatively characterizing regions of indeterminacy, I use the Jaimovich and Rebelo [N. Jaimovich, S. Rebelo, Can news about the future drive the business cycle? Mimeo, Northwestern University, 2007] preferences that span a wide range of income effect values. I find that indeterminacy can occur for levels of aggregate-returns-to-scale that are well within recent empirical estimates. For these regions of indeterminacy, the model, when driven solely by sunspot shocks, generates second-moment properties that are consistent with the U.S. data at the business cycle frequency.     

Welfare cost of inflation in a stochastic balanced growth model

There is a large and growing literature on the welfare cost of inflation. However, work in this area tend to find moderate estimates of welfare gains. In this paper we reexamine welfare costs of inflation within a stochastic general equilibrium balanced growth model paying a particular attention to recursive utility, portfolio balance effects, and monetary volatility and monetary policy uncertainty. Our numerical analysis shows that a monetary policy that brings down inflation to the optimum level can have substantial welfare effects. Portfolio adjustment effects seem to be the dominant factor behind the welfare gains.     

Adding cycles into the neoclassical growth model

We propose a stochastic Solow growth model where a cyclical component is added to the total factor productivity process. Theoretically, an important feature of the model is that its main equation takes a state space representation where key parameters can be estimated via an unobserved component approach without involving capital stock measures. In addition, the dynamic properties of the model are mostly unaffected by the newly introduced cyclical component. Empirically, our novel framework is consistent with secular U.S. empirical evidence.     

Bayesian estimation of the output gap for a small open economy: The case of Canada

We introduce a novel approach for estimating output gaps for small open economies. Identification is based on a multivariate trend-cycle decomposition in which transitory exchange rate movements are linked to the output gap and inflation. The model is then applied to Canadian data.     

Uniqueness of Markov equilibrium in stochastic OLG models with nonclassical production

A large class of stochastic OLG economies with nonclassical production is shown to possess a unique Markov Equilibrium (ME) which is also the unique sequential equilibrium. Additional properties such as monotonicity, continuity, and smoothness of the ME are also discussed.     

Maximum likelihood estimation for vector autoregressions with multivariate stochastic volatility

This paper analyzes the maximum likelihood estimation for vector autoregressions with stochastic volatility. The stochastic volatility is modeled following Uhlig (1997). The asymptotic distribution of the maximum likelihood estimate is discussed under mild regularity conditions. The maximum likelihood estimate can be obtained via an iterative method. In that case, the maximum likelihood estimate becomes the iteratively reweighted least squares estimate analyzed in Rubin (1983). The iteratively reweighted least squares estimate is computationally much simpler than the Bayesian method offered by Uhlig (1997).     

Pigouvian pricing and stochastic evolutionary implementation

We study the implementation of efficient behavior in settings with externalities. A planner would like to ensure that a group of agents make socially optimal choices, but he only has limited information about the agents’ preferences, and can only distinguish individual agents through the actions they choose. We describe the agents’ behavior using a stochastic evolutionary model, assuming that their choice probabilities are given by the logit choice rule. We prove that there is a simple price scheme with the following property: regardless of the realization of preferences, a group of agents subjected to the price scheme will spend the vast majority of time in the long run behaving efficiently. The price scheme defines a game that may possess multiple equilibria, but we are able to obtain a unique and efficient selection from this set because of the stochastic nature of the agents’ choice rule. We conclude by comparing the performance of our price scheme with that of VCG mechanisms.     

Fiscal consolidation with high growth: A policy simulation model for India

In this paper a fiscal consolidation program for India has been presented based on a policy simulation model that enables us to examine the macroeconomic implications of alternative fiscal strategies, given certain assumptions about other macro policy choices and relevant exogenous factors. The model is then used to estimate the outcomes resulting from a possible strategy of fiscal consolidation in the base case. The exercise shows that it is possible to have fiscal consolidation while at the same time maintaining high GDP growth of around 8% or so. The strategy is to gradually bring down the revenue deficit to zero by 2014–15, while allowing a combined fiscal deficit for centre plus states of about 6% of GDP. This provides the space for substantial government capital expenditure, which translates to a significant public investment program. This in turn leads to high overall investment directly and indirectly, via the crowding in effect on private investment, which drives the high GDP growth. The exercise has also tested the robustness of this strategy under two alternative scenarios of higher and lower advanced country growth compared to the base case.     

Block recursive equilibria for stochastic models of search on the job

We develop a general stochastic model of directed search on the job. Directed search allows us to focus on a Block Recursive Equilibrium (BRE) where agents' value functions, policy functions and market tightness do not depend on the distribution of workers over wages and unemployment. We formally prove existence of a BRE under various specifications of workers' preferences and contractual environments, including dynamic contracts and fixed-wage contracts. Solving a BRE is as easy as solving a representative agent model, in contrast to the analytical and computational difficulties in models of random search on the job.     

Consumer expectation and output growth: The case of China

This study shows that China’s Consumer Expectation Index contains useful information about pure expectation shocks, which are unrelated to economic fundamentals. It turns out that such shocks are likely to be an important independent driver of industrial output growth.     

Nonlinear adjustment in US bond yields: An empirical model with conditional heteroskedasticity

Starting from the work by Campbell and Shiller (Campbell, J.Y. and Shiller, R.J. (1987). Cointegration and tests of present value models. Journal of Political Economy, 95(5):1062–1088.), empirical analysis of interest rates has been conducted in the framework of cointegration. However, parts of this approach have been questioned recently, as the adjustment mechanism may not follow a simple linear rule; another line of criticism points out that stationarity of the spreads is difficult to maintain empirically.     

LSM: A DSGE model for Luxembourg

Luxembourg is a small open economy with a set of particular features, including rather limited competition in the domestic goods market, strong union power, and a segmented labor market for resident and non-resident workers. In this paper we develop a medium scale DSGE model that captures these features, calibrate it to mimic the actual behavior of the key macroeconomic aggregates, and use it to conduct policy experiments aimed at relaxing some of the existing rigidities in the goods and labor market.     

QUEST III: An estimated open-economy DSGE model of the euro area with fiscal and monetary policy

This paper develops a DSGE model for an open economy and estimates it on euro area data using Bayesian estimation techniques. The model features nominal and real frictions, as well as financial frictions in the form of liquidity-constrained households. The model incorporates active monetary and fiscal policy rules (for government consumption, investment, transfers and wage taxes) and can be used to analyse the effectiveness of stabilisation policies. To capture the unit root character of macroeconomic time series we allow for a stochastic trend in TFP, but instead of filtering data prior to estimation, we estimate the model in growth rates and stationary nominal ratios.     

A time-varying “natural” rate of interest for the euro area

We estimate a time-varying “natural” rate of interest (TVNRI) for a synthetic euro area over the period 1979Q1-2004Q4 using a small macroeconomic model, broadly following a methodology developed by Laubach and Williams [2003. Measuring the natural rate of interest. The Review of Economics and Statistics 85(4), 1063-1070] for the United States. The Kalman filter simultaneously estimates the output gap and the natural rate of interest. Our identifying assumptions include a close relationship between the TVNRI and the low-frequency fluctuations of potential output growth. The difference between the real rate of interest and its estimated natural level offers valuable insights into the monetary policy stance over the last two decades and a half.     

Time and place where gold acts as an inflation hedge: An application of long-run and short-run threshold model

This study examines the short-run and long-run inflation hedging effectiveness of gold in the United States and Japan during the period of January 1971 to January 2010. Previous research has shown in the long-run that inflation tends to appropriately increase the price of gold in the U.S., leading to gold's popularity as an asset in portfolios to reduce the risk against sudden inflation. However, gold is only partially effective in hedging against inflation in Japan. This research found that the rigidity between the price of gold and the consumer price index affects the inflation hedging ability of gold in the long-run. The gold price is characterized by market disequilibrium induced by the price rigidity, causing the price of gold to be unable to response to changes in the CPI. To explore the inflation hedging ability of gold in the short-run, this study further examines the price rigidity in low and high momentum regime. It is found during the low momentum regimes that, gold return is unable to hedge against inflation in either the U.S. or Japan. However, during high momentum regimes, gold return is able to hedge against inflation in the U.S., while the price rigidity in Japan causes the price of gold to not fully hedge against inflation in the short-run.     

Existence of singularity bifurcation in an Euler-equations model of the United States economy: Grandmont was right

Grandmont (1985) found that the parameter space of the most classical dynamic general-equilibrium macroeconomic models are stratified into an infinite number of subsets supporting an infinite number of different kinds of dynamics, from monotonic stability at one extreme to chaos at the other extreme, and with all forms of multiperiodic dynamics between.     

Intertemporal substitution and the liquidity effect in a sticky price model

The liquidity effect, defined as a decrease in nominal interest rates in response to a monetary expansion, is a major stylized fact of the business cycle. This paper first confirms that, with separable preferences, a low degree of intertemporal substitution in consumption is a necessary condition for the existence of the liquidity effect. In contrast to this result, in a model with non-separable preferences and capital accumulation it takes an implausibly high elasticity of intertemporal substitution to produce a liquidity effect. The robustness of these results to alternative degrees of nominal rigidities, capital adjustment costs and stochastic monetary processes is also analysed. We conclude that price stickiness, by itself, does not guarantee the existence of a liquidity effect.