Research Database

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.

This paper develops a forecasting procedure based on a Bayesian method for estimating vector autoregressions. We apply the procedure to 10 macroeconomic variables and show that it produces more accurate out-of-sample forecasts than univariate equations do. Although cross-variable responses are damped by the prior, our estimates capture considerable interaction among the variables.

We provide unconditional forecasts as of 1982:12 and 1983:3. We also describe how a model such as this can be used to make conditional projections and analyze policy alternatives. As an example, we analyze a Congressional Budget Office forecast made in 1982:12.

While no automatic casual interpretations arise from models like ours, such models provide a detailed characterization of the dynamic statistical interdependence of a set of economic variables. That information may help evaluate casual hypotheses without containing any such hypotheses.

Methods are presented for solving a certain class of rational expectations models, principally those that arise from dynamic games. The methods allow for numerical solution using spectral factorization algorithms and for estimation of these models using maximum likelihood techniques.

This paper considers a policy environment in which policy is not set by a single policymaker, but by a sequence of policymaking administrations. Administration turnover is determined by a simple random process. The consequences of administration turnover are traced through for two versions of a linear rational expectations model, and numerical simulations of various policy environments are presented.

The implications of a dynamic coalition production technology are explored. With this technology, coalitions produce the current period consumption good as well as coalition-specific capital which is embodied in young coalition members. The equilibrium allocation is efficient and displays constant growth rates, even though exogenous technological change is not a feature of the environment. Unlike the neoclassical growth model, policies which influence agents’ investment-consumption decisions affect not only the level of output, but also its constant growth rate. In addition to these growth entailments, the theory has equally important industrial organization implications. Specifically, in equilibrium there is no tendency for coalition (firm) size to regress to the mean or for the distribution of coalition sizes to become more disparate.

This paper provides a simple counterexample to the standard belief that in a world economy in which all countries are small, strategic interactions between policymakers are trivial and thus cooperative and noncooperative government policies coincide. It is well known that this holds for tariff policies. However, this paper demonstrates the result does not apply to government policies generally. Indeed, this paper presents a simple counterexample for the case of fiscal policy. In addition, the paper analyzes how optimally coordinated fiscal policies differ from noncooperative policies. It finds that, relative to optimally coordinated levels, noncooperative government spending can be too high or too low, depending on the sign of a transmission effect which captures the overall effect countries’ actions have on each other.

This paper presents a simple counterexample to the belief that international policy cooperation is desirable. It also explains circumstances under which such a counterexample is possible.

Optimal control theory can be combined with the probability structure of a vector autoregression to investigate the tradeoffs available to policymakers. Such an approach obtains results based on a minimal set of assumptions about the economy and the structure of policy actions. This paper takes this approach to analyze the potential effectiveness of countercyclical monetary policy.

'Structural unemployment' is said to occur in regions or 'sectors' of the economy as a consequence of technological changes. In this paper we present a model which provides an environment which gives rise to unemployment which could be labelled structural unemployment. There is exogenous technological change and vintage specific human capital. Unemployment arises as workers specialized in a particular technology within a vintage decide to search for a job within their vintage, so that their previously acquired special skills are used, instead of getting employed as unskilled workers in the newest vintage. As the rate of technological change increases, the incentives to reassign specialized workers to their same vintage, inccuring therefore in search costs, becomes less attractive, and in consequence the fraction of specialized workers doing search activities decreases. This provides some rationale for the negative correlation between rates of growth and unemployment observed in the data.

These notes are intended as a do-it-yourself course in economic growth along lines suggested by Lucas ("On the Mechanics of Economic Development"). We examine in turn the neoclassical growth model; theories of endogenous growth, including learning-by-doing, increasing returns to scale, and externalities; and dynamic comparative advantage in trade. Salient features of growing economies and microeconomic evidence on production processes are used to evaluate alternatives. Exercises supplement the text.

In this paper, we characterize those situations in which after the introduction of futures markets there is either an unambiguous change in the volatility of spot prices or an unambiguous change in welfare. We provide examples of the usefulness of this approach by giving two alternative sets of sufficient conditions for price volatility to decline following the introduction of futures trading. We also provide a set of sufficient conditions for the introduction of futures trading to increase the welfare of all agents.

The consequences of costly divisibility of assets are studied using a model with the following features. The demand for assets is generated from an overlapping generations model with a continuum of agents in each generation and with intra-generation trade (intermediation) ruled out. There is a once-for-all supply of a stock of nonnegative-dividend assets in a large size, and there is a costly technology for dividing them into smaller sizes. Stationary equilibria are shown to exist. In contrast with similar models with costless divisibility of assets, competitive equilibria are not necessarily desirable; there can be Pareto-ordered equilibria.

The existence of fixed points for monotone maps on spaces of measures is established. The case of monotone Markov processes is analyzed and a uniqueness and global stability condition is developed. A comparative statics result is presented and the problem of approximation to the invariant distribution is discussed. The conditions of the theorems are verified for the cases of Optimal Stochastic Growth and Industry Equilibrium.

This paper investigates—in the context of a simple example—the accuracy of an econometric technique recently proposed by Kydland and Prescott. We consider a hypothetical econometrician who has a large sample of data, which is known to be generated as a solution to an infinite horizon, stochastic optimization problem. The form of the optimization problem is known to the econometrician. However, the values of some of the parameters need to be estimated. The optimization problem—presented in a recent paper by Long and Plosser—is not linear quadratic. Nevertheless, its closed form solution is known, although not to the hypothetical econometrician of this paper. The econometrician uses Kydland and Prescott’s method to estimate the unknown structural parameters. Kydland and Prescott’s approach involves replacing the given stochastic optimization problem by another which approximates it. The approximate problem is a element of the class of linear quadratic problems, whose solution is well-known—even to the hypothetical econometrician of this paper. After examining the probability limits of the econometrician’s estimators under “reasonable” specifications of model parameters, we conclude that the Kydland and Prescott method works well in the example considered. It is left to future research to determine the extent to which the results obtained for the example in this paper applies to a broader class of models.

We present a model of vintage human capital. The economy exhibits exogenous deterministic technological change. Technology requires skills that are specific to the vintage. A stationary competitive equilibrium is defined and shown to exist and be unique, as well as Pareto optimal. The stationary equilibrium is characterized by an endogenous distribution of skilled workers across vintages. The distribution is shown to be single peaked and there is diffusion of technology in the sense that there is a lag between the time when a technology appears and the peak of its usage. An increase in the rate of exogenous technological change shifts the distribution of human capital to more recent vintages and increases the relative wage of the unskilled workers in each vintage.

The consequences of a straightforward monetary targeting scheme are examined for a simple dynamic macro model. The notion of "targeting" used below is the strategic one introduced by Rogoff (1985). Numerical simulations are used to demonstrate that for the model under consideration, monetary targeting is likely to lead to a deterioration of policy performance. These examples cast doubt upon the general efficacy of simple targeting schemes in dynamic rational expectations models.

This paper studies the relationship between the existence and optimality of a monetary steady-state and the nonoptimality of nonmonetary steady-states. We construct a sequence of stationary overlapping generations economies with longer and longer lived generations in which all agents maximize a discounted sum of utilities with a common discount rate. Under some assumptions the following result is established: If the discount rate is greater (less) than the population growth rate, then eventually every nonmonetary steady-state is optimal (non-optimal) and a monetary steady-state does not exist (exists and is optimal).

The existence of fixed points for monotone maps on spaces of measures is established. The case of monotone Markov processes is analyzed and a uniqueness and global stability condition is developed. A comparative statics result is presented and the problem of approximation to the invariant distribution is discussed. The conditions of the theorems are verified for the cases of Optimal Stochastic Growth and Industry Equilibrium.