Creator: Prescott, Edward C. Series: Staff report (Federal Reserve Bank of Minneapolis. Research Department) Number: 527 Abstract:
This essay reviews the development of neoclassical growth theory, a unified theory of aggregate economic phenomena that was first used to study business cycles and aggregate labor supply. Subsequently, the theory has been used to understand asset pricing, growth miracles and disasters, monetary economics, capital accounts, aggregate public finance, economic development, and foreign direct investment.
The focus of this essay is on real business cycle (RBC) methodology. Those who employ the discipline behind the methodology to address various quantitative questions come up with essentially the same answer—evidence that the theory has a life of its own, directing researchers to essentially the same conclusions when they apply its discipline. Deviations from the theory sometimes arise and remain open for a considerable period before they are resolved by better measurement and extensions of the theory. Elements of the discipline include selecting a model economy or sometimes a set of model economies. The model used to address a specific question or issue must have a consistent set of national accounts with all the accounting identities holding. In addition, the model assumptions must be consistent across applications and be consistent with micro as well as aggregate observations. Reality is complex, and any model economy used is necessarily an abstraction and therefore false. This does not mean, however, that model economies are not useful in drawing scientific inference.
The vast number of contributions made by many researchers who have used this methodology precludes reviewing them all in this essay. Instead, the contributions reviewed here are ones that illustrate methodological points or extend the applicability of neoclassical growth theory. Of particular interest will be important developments subsequent to the Cooley (1995) volume, Frontiers of Business Cycle Research. The interaction between theory and measurement is emphasized because this is the way in which hard quantitative sciences progress.
Stichwort: Depressions, Aggregate financial economics, Development, Aggregation, Neoclassical growth theory, Aggregate economic theory, Prosperities, RBC methodology, and Business cycle fluctuations Fach: B40 - Economic Methodology: General, E00 - Macroeconomics and Monetary Economics: General, E13 - General Aggregative Models: Neoclassical, E60 - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook: General, E32 - Business Fluctuations; Cycles, and C10 - Econometric and Statistical Methods and Methodology: General
Creator: McGrattan, Ellen R. and Prescott, Edward C. Series: Staff report (Federal Reserve Bank of Minneapolis. Research Department) Number: 396 Abstract:
In this paper, we extend the growth model to include firm-specific technology capital and use it to assess the gains from opening to foreign direct investment. A firm’s technology capital is its unique know-how from investing in research and development, brands, and organization capital. Technology capital is distinguished from other forms of capital in that a firm can use it simultaneously in multiple domestic and foreign locations. A country can exploit foreign technology capital by permitting direct investment by foreign multinationals. In both steady-state and transitional analyses, the extended growth model predicts large gains to being open.
Stichwort: Foreign direct investment and Openness Fach: F43 - Economic Growth of Open Economies, F23 - Multinational Firms; International Business, and O11 - Macroeconomic Analyses of Economic Development
Creator: McGrattan, Ellen R. and Prescott, Edward C. Series: Working paper (Federal Reserve Bank of Minneapolis. Research Department) Number: 651 Abstract:
A framework is developed with what we call technology capital. A country is a measure of locations. Absent policy constraints, a firm owning a unit of technology capital can produce the composite output good using the unit of technology capital at as many locations as it chooses. But it can operate only one operation at a given location, so the number of locations is what constrains the number of units it operates using this unit of technology capital. If it has two units of technology capital, it can operate twice as many operations at every location. In this paper, aggregation is carried out and the aggregate production functions for the countries are derived. Our framework interacts well with the national accounts in the same way as does the neoclassical growth model. It also interacts well with the international accounts. There are constant returns to scale, and therefore no monopoly rents. Yet there are gains to being economically integrated. In the framework, a country’s openness is measured by the effect of its policies on the productivity of foreign operations. Our analysis indicates that there are large gains to this openness.
Stichwort: Foreign direct investment and Openness Fach: F23 - Multinational Firms; International Business, F43 - Economic Growth of Open Economies, and O11 - Macroeconomic Analyses of Economic Development
Creator: Parente, Stephen L. and Prescott, Edward C. Series: Economic growth and development Abstract:
Technology change is modeled as the result of decisions of individuals and groups of individuals to adopt more advanced technologies. The structure is calibrated to the U.S. and postwar Japan growth experiences. Using this calibrated structure we explore how large the disparity in the effective tax rates on the returns to adopting technologies must be to account for the huge observed disparity in per capita income across countries. We find that this disparity is not implausibly large.
Fach: O33 - Technological change ; Research and development - Technological change : Choices and consequences ; Diffusion processes and O41 - One, Two, and Multisector Growth Models
Creator: Parente, Stephen L. and Prescott, Edward C. Series: Staff report (Federal Reserve Bank of Minneapolis. Research Department) Number: 333 Abstract:
This essay develops a theory of the evolution of international income levels. In particular, it augments the Hansen-Prescott theory of economic development with the Parente-Prescott theory of relative efficiencies and shows that the unified theory accounts for the evolution of international income levels over the last millennium. The essence of this unified theory is that a country starts to experience sustained increases in its living standard when production efficiency reaches a critical point. Countries reach this critical level of efficiency at different dates not because they have access to different stocks of knowledge, but rather because they differ in the amount of society-imposed constraints on the technology choices of their citizenry.
Stichwort: Catch-up, Trading clubs, Capital share, Aggregate economic efficiency, and Transition to modern economic growth Fach: E00 - Macroeconomics and Monetary Economics: General, O19 - International Linkages to Development; Role of International Organizations, O11 - Macroeconomic Analyses of Economic Development, and F40 - Macroeconomic Aspects of International Trade and Finance: General
Creator: Hansen, Gary D. (Gary Duane) and Prescott, Edward C. Series: Staff report (Federal Reserve Bank of Minneapolis. Research Department) Number: 257 Abstract:
A unified growth theory is developed that accounts for the roughly constant living standards displayed by world economies prior to 1800 as well as the growing living standards exhibited by modern industrial economies. Our theory also explains the industrial revolution, which is the transition from an era when per capita incomes are stagnant to one with sustained growth. We use a standard growth model with one good and two available technologies. The first, denoted the Malthus technology, requires land, labor, and reproducible capital as inputs. The second, denoted the Solow technology, does not require land. We show that in the early stages of development, only the Malthus technology is used, and, due to population growth, living standards are stagnant despite technological progress. Eventually, technological progress causes the Solow technology to become profitable, and both technologies are employed. In the limit, the economy behaves like a standard Solow growth model.
Fach: O41 - One, Two, and Multisector Growth Models and O47 - Empirical Studies of Economic Growth; Aggregate Productivity; Cross-Country Output Convergence
Creator: Parente, Stephen L. and Prescott, Edward C. Series: Staff report (Federal Reserve Bank of Minneapolis. Research Department) Number: 236 Abstract:
Our thesis is that poor countries are poor because they employ arrangements for which the equilibrium outcomes are characterized by inferior technologies being used, and being used inefficiently. In this paper, we analyze the consequences of one such arrangement. In each industry, the arrangement enables a coalition of factor suppliers to be the monopoly seller of its input services to all firms using a particular production process. We find that the inefficiencies associated with this monopoly arrangement can be large. Whereas other studies have found that inefficiencies induced by monopoly are at most a few percent of output, we find that eliminating this monopoly arrangement could well increase output by roughly a factor of 3 without any increase in inputs.
Fach: O41 - One, Two, and Multisector Growth Models, O11 - Macroeconomic Analyses of Economic Development, and D58 - Computable and Other Applied General Equilibrium Models
Creator: Prescott, Edward C. Series: Staff report (Federal Reserve Bank of Minneapolis. Research Department) Number: 102 Abstract:
Recent developments in business cycle theory are reviewed. The principal finding is that the growth model, which was developed to account for the secular patterns in important economic aggregates, displays the business cycle phenomena once it incorporates the observed randomness in the rate of technological advance. The amplitudes and serial correlation properties of fluctuations in output and employment that the growth model predicts match those historically experienced in the United States. Further, the model continues to display the growth facts it was developed to explain.
Creator: Holmes, Thomas J., McGrattan, Ellen R., and Prescott, Edward C. Series: Working paper (Federal Reserve Bank of Minneapolis. Research Department) Number: 687 Abstract:
It is widely believed that an important factor underlying the rapid growth in China is increased foreign direct investment (FDI) and the transfer of foreign technology capital, which is accumulated know-how from investment in research and development (R&D), brands, and organizations that is not specific to a plant. In this paper, we study two channels through which FDI can contribute to upgrading of the stock of technology capital: knowledge spillovers and appropriation. Knowledge spillovers lead to new ideas that do not directly compete or devalue the foreign affiliate's stock. Appropriation, on the other hand, implies a redistribution of property rights over patents and trademarks; the gain to domestic companies comes at a loss to the multinational company (MNC). In this paper we build these sources of technology capital transfer into the framework developed by McGrattan and Prescott (2009, 2010) and introduce an endogenously-chosen intensity margin for operating technology capital in order to capture the trade-offs MNCs face when expanding their markets internationally. We first demonstrate that abstracting from technology capital transfers results in predicted bilateral FDI inflows to China that are grossly at odds with the data. We then use the bilateral inflows to parameterize the model with technology capital transfers and compute the global economic impact of Chinese policies that encouraged greater inflows of FDI and technology capital transfers. Microevidence on automobile patents is used to support our parameter choices and main findings.
Fach: O33 - Technological Change: Choices and Consequences; Diffusion Processes, F41 - Open Economy Macroeconomics, F23 - Multinational Firms; International Business, and O34 - Intellectual Property and Intellectual Capital