Research Database

Over the past decade, a substantial literature on the estimation of discrete choice dynamic programming (DC-DP) models of behavior has developed. However, this literature now faces major computational barriers. Specifically, in order to solve the dynamic programming (DP) problems that generate agents' decision rules in DC-DP models, high dimensional integrations must be performed at each point in the state space of the DP problem. In this paper we explore the performance of approximate solutions to DP problems. Our approximation method consists of: 1) using Monte Carlo integration to simulate the required multiple integrals at a subset of the state points, and 2) interpolating the non-simulated values using a regression function. The overall performance of this approximation method appears to be excellent, both in terms of the degree to which it mimics the exact solution, and in terms of the parameter estimates it generates when embedded in an estimation algorithm.

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.

We analyze financial collapses, such as the one that occurred during the U.S. Great Depression, from the perspective of a monetary model with multiple equilibria. The multiplicity arises from the presence of a strategic complementarity due to increasing returns to scale in the intermediation process. Intermediaries provide the link between savers and firms who require working capital for production. Fluctuations in the intermediation process are driven by variations in the confidence agents place in the financial system. From a positive perspective, our model matches closely the qualitative changes in important financial and real variables (the currency/deposit ratio, ex-post real interest rates, the level of intermediated activity, deflation, employment and production) over the Great Depression period, an experience often attributed to financial collapse. Further, we show how adding liquidity to the banking system through increases in the money supply is sufficient to overcome strategic uncertainty and thus avoid financial collapse.

This paper studies the effects of anticipated inflation on aggregate output and welfare within a search-theoretic framework. We allow money-holders to choose the intensities with which they search for trading partners, so inflation affects the frequency of trade as well as the quantity of output produced in each trade. We consider the standard pricing mechanism for search models, i.e., ex post bargaining, as well as a notion of competitive pricing. If prices are bargained over, the equilibrium is generically inefficient and an increase in inflation reduces buyers’ search intensities, output and welfare. If prices are posted and buyers can direct their search, search intensities are increasing with inflation for low inflation rates and decreasing for high inflation rates. The Friedman Rule achieves the first-best allocation and inflation always reduces welfare even though it can have a positive effect on output for low inflation rates.

We analyze economies with indivisible commodities. There are two reasons for doing so. First, we extend and provide new insights into sunspot equilibrium theory. Finite competitive economies with perfect markets and convex consumption sets do not allow sunspot equilibria; these same economies with nonconvex consumption sets do, and they have several properties that can never arise in convex environments. Second, we provide a reinterpretation of the employment lotteries used in contract theory and in macroeconomic models with indivisible labor. We show how socially optimal employment lotteries can be decentralized as competitive equilibria once sunspots are introduced.

This paper surveys cooperative game theory when players have incomplete or asymmetric information, especially when the TU and NTU games are derived from economic models. First some results relating balanced games and markets are summarized, including theorems guaranteeing that the core is nonempty. Then the basic pure exchange economy is extended to include asymmetric information. The possibilities for such models to generate cooperative games are examined. Here the core is emphasized as a solution, and criteria are given for its nonemptiness. Finally, an alternative approach is explored based on Harsanyi’s formulation of games with incomplete information.

This paper considers the role of capacity as a strategic entry deterrent for a game in which the incumbent and entrant sequentially precommit to capacity levels before competing in price, possibly using mixed strategies. Depending on the magnitudes of the fixed set-up cost, the cost of capacity, and the relative costs of production, the model produces a wide spectrum of equilibrium behaviors, including some not previously suggested in the literature. Interesting deterrence effects occur because firms need time to build. In contrast to much previous work, the incumbent may hold idle capacity when entry is deterred.

This paper provides a selective review of theoretical research on the consistency of rational expectations equilibrium and its properties in microeconomic models. The general equilibrium framework is emphasized throughout the paper. After defining rational expectations equilibrium for a pure exchange economy, the paper presents a simple counterexample to illustrate that rational expectations equilibria need not exist. Results are summarized for the generic existence of fully revealing rational expectations equilibria in smooth economies satisfying additional dimensionality assumptions. Then the rational expectations equilibrium existence problem is related to earlier analysis of informationally decentralized allocation mechanisms. Next the efficiency properties of rational expectations equilibrium allocations are examined. Finally, the possibilities for partially revealing rational expectations equilibria are discussed.

Why is inflation persistently high in some periods and low in others? The reason may be absence of commitment in monetary policy. In a standard model, absence of commitment leads to multiple equilibria, or expectation traps, even without trigger strategies. In these traps, expectations of high or low inflation lead the public to take defensive actions, which then make accommodating those expectations the optimal monetary policy. Under commitment, the equilibrium is unique and the inflation rate is low on average. This analysis suggests that institutions which promote commitment can prevent high inflation episodes from recurring.

In this paper, we ask how to best allocate a given time-varying supply of vaccines across individuals of different ages during the second phase of the Covid-19 pandemic . Building on our previous heterogeneous household model of optimal economic mitigation and redistribution (Glover et al., 2021), we contrast the actual vaccine deployment path, which prioritized older, retired individuals, with one that first vaccinates younger workers. Vaccinating the old first saves more lives but slows the economic recovery, relative to inoculating the young first. Vaccines deliver large welfare benefits in both scenarios (relative to a world without vaccines), but the old-first policy is optimal under a utilitarian social welfare function. The welfare gains from having vaccinated the old first are especially significant once the economy is hit by a more infectious Delta variant in the summer of 2021.