This paper offers a reinterpretation of the Fed's time-varying implicit inflation target, based on two considerations. The first is that the need to alleviate the burden of distortionary taxation may justify the choice of a positive inflation rate. The second is based on compelling evidence that the degree of price and wage indexation falls with trend inflation. In fact, we find that a proper characterization of the joint evolution of fiscal variables and nominal rigidities has a strong impact on the Ramsey optimal policies, implying optimal inflation dynamics that are consistent with the observed evolution of U.S. trend inflation. By contrast, tax policies have been too lax, especially at the time of the controversial Bush tax cuts.

In time-series from the United States, the relationship between the money to income ratio and the nominal interest rate is a negative and stable one. In Swedish data, there is no such stable relationship. In this paper, we argue that this difference can be explained by the differences in the shock processes that have hit the two countries. Using a dynamic general equilibrium model driven by shock processes estimated to fit the two countries, we find that we can account for the main properties of the data remarkably well.

This paper augments the DMP model with large firms and intrafirm wage bargaining by an endogenous decision to become an entrepreneur that is based on heterogeneous entrepreneurial abilities. If workers’ wage bargaining power is not too large and the match efficiency is not too low, the decentralized market equilibrium features an inefficiently high number of entrepreneurs, because they appropriate large parts of the surplus from matches. A realistic calibration with empirically plausible parameters shows this case to be the relevant one. Consequently, introducing a tax on the profits of entrepreneurs restores the constrained first-best allocation by affecting occupational choices. It drives rather unproductive entrepreneurs out of the market since the marginal entrepreneur is affected and not the average one. Thus, the negative effects on job creation are small.

This note uses monotone methods to derive two sets of comparative statics results for monetary directed search models. First, it characterizes the impact of a higher inflation rate or a higher cost of using credit on market outcomes, regardless of the choice of matching function. Second, the seller-to-buyer ratio, output level, and money demand increase as the matching function becomes more efficient in a log-supermodular sense. I also consider an extension with endogenous search intensity and show that search intensity and trade volume always decrease in the nominal interest rate.

When the production function includes dynamic complementarities and a Cobb--Douglas form, dynamic complementarities are an endogenous propagation mechanism of shocks. The proposed model explains several stylized facts of aggregate variables of interest, including (i) hump-shaped impulse response functions, (ii) positively autocorrelated growth rates of aggregate variables, and (iii) correlation coefficients of forecastable movements in aggregate variables.

A key result in macroeconomics is the “time inconsistency of short-run optimal plans.” It is argued that inflationary bias results if central bankers do not precommit to a monetary policy rule. The macro literature, however, does not address the way in which board members arrive at the “optimal choice of inflation rate.” That is a matter of a micro subfield called social choice. If we consider that on any board, members have different priors about the states of nature for the economy, but they all receive the same signal before deciding, then they will have different posterior probabilities for the states, even if they have many data, if one state has a low probability of occurring, such as an unlikely catastrophic-risk event. Thus, it is not clear what the optimal plan is. Therefore, discretion rather than rules may be the optimal plan in social choice settings.

In this paper, I study the effect that switching to a voucher system of educational finance has on the distribution of income. The model is calibrated to U.S. data, and simulated for two different forms of education finance: a voucher system and a completely private system of schools. All voucher policies considered result in welfare gains and reductions in income inequality. A private system entails a welfare loss and an increase in income inequality. The more important the peer group is to future income, the smaller the welfare gains and reductions in inequality associated with voucher systems, and the greater the welfare cost and increase in inequality associated with a private system.

This paper uses vector autoregression model analysis to identify monetary policy shocks on UK data using surprise changes in the policy rate as external instruments and imposing block exogeneity restrictions on domestic variables to estimate parameters from the viewpoint of the domestic economy. The results show large and persistent effects of monetary policy shocks on the domestic economy and point to the critical role of exchange rates and term premia. The analysis resolves important empirical puzzles of traditional recursive identification methods.

This paper introduces a method of optimization in infinite-horizon economies based on the theory of correspondences. The proposed approach allow us to study time-separable and non-time-separable dynamic economic models without resorting to fixed point theorems or transversality conditions. When our technique is applied to the standard time-separable model it provides an alternative and straightforward way to derive the common recursive formulation of these models by means of Bellman equations.

This paper models the liquidity effects after a contractionary open market operation in a framework that highlights the frictions of limited participation in financial markets and search frictions in labor markets. It is shown that Lucas rigidities, with the aid of labor market rigidities, could generate more persistent liquidity effects even in a context of flexible prices. In addition, the simulation results show that this adapted liquidity and labor search model does a reasonable good job in explaining the observed labor market dynamics in response to shocks of a plausible magnitude, and deliver substantial movements along a downward-sloping Beveridge curve.

This paper examines whether changes in US presidential administration and central bank turnover during the period 1976–2016 caused regime shifts in Taylor rule deviations. Using a dynamic stochastic general equilibrium model to construct the welfare-maximizing policy rule and deviations from the optimal rule, we find evidence that politics indeed play a key role in explaining these deviations. In addition to politics, unemployment rates and the interest rate spread significantly account for regime shifts in Taylor rule deviations.

We consider a New-Keynesian model with financial and labor market frictions where firms borrowing is limited by the enforcement constraint. The wage is set in a bargaining process where the firm's shareholder and worker share the production surplus. As debt service is considered to be a part of production costs, firms borrow to reduce the surplus which allows to lower the wage. We study the model's response to financial shock under two Taylor-type interest rate rules: first one responds to inflation and borrowing, second one to inflation and unemployment. We have found that the second rule delivers better policy in terms of the welfare measure. Additionally, we show that the feedback on unemployment in this rule depends on the extent of workers' bargaining power.

The present paper studies the influence of variable labor utilization on local indeterminacy and expectations-driven fluctuations, in one-sector models with (nearly) constant returns to scale. It is shown that, in comparison to the configuration of constant input utilization, considering variable utilization reduces the actual possibilities of factor substitution and, consequently, the range of input substitution elasticities that are compatible with endogenous fluctuations. In particular, local indeterminacy and expectations-driven fluctuations occur only if utilization rates are sufficiently inelastic, whereas local determinacy prevails when utilization is highly elastic. However, accounting for the fact that variable utilization reduces the effective elasticity of capital/labor substitution leads us to argue that expectations-driven fluctuations are more plausible because they require larger elasticities of apparent input substitution. In contrast with the recent literature, the analysis does not rely on significantly increasing returns to scale in production. Accordingly, the results are not at variance with recent empirical studies emphasizing the importance of variable utilization and denying the evidence of large increasing returns.

Externalities are a fundamental aspect of any modern interdependent economy. The fact that agents interact with one another makes it inevitable that their decisions will influence one another directly, in addition to any indirect impact that may occur through the market place. Ever since the earliest stages of the discipline, externalities have been of prime concern to economists, who have long argued that they provide an important motive for (economic) decision making. To cite one prominent example, in The Theory of Moral Sentiments, Adam Smith notes that “Though it is in order to supply the necessities and conveniences of the body that the advantages of external fortune are originally recommended to us, yet we cannot live long in the world without perceiving that the respect of our equals, our credit and rank in the society we live in, depend very much upon the degree in which we possess, or are supposed to possess those advantages. The desire of becoming the proper objects of this respect . . . is perhaps the strongest of all our desires” [Smith (1759, pp. 348–349)]. In modern terminology, Adam Smith is referring to a consumption externality.

Government shares in total output are characterized by significant variation across countries. I noticed a strong negative correlation between government consumption shares and the price of government services in terms of private consumption. Motivated by this empirical observation, I developed a neoclassical growth model with added government that is capable of matching the variation in government shares very closely using only relative prices. In addition, I provide empirical evidence showing that the relative price of government consumption increases with income, which is consistent with distortions prevailing in poor countries. These two observations combined imply that government shares tend to be higher in poorer countries.

Dynamic spatial theory has been a fruitful approach to understanding economic phenomena involving time and space. However, several central questions still remain unresolved in this field. The identification of the social optimal allocation of economic activity across time and space is particularly problematic, not been ensured yet in economic growth. Developing a monotone method, we study the optimal solution of the spatial Ramsey model. Under fairly general assumptions, we prove the existence of unique social optimum. Considering a numerical implementation of our algorithm, we study the role played by capital mobility in the neoclassical growth environment. With capital irreversibility and economic openness, space allows for transitional dynamics. Moreover, in this context, capital mobility is beneficial as well in terms of social welfare and inequality. We also consider an application of our method to an extension of the spatial Ramsey model for optimal land-use planning.

This paper revisits the canonical assumption of nonconvex capital adjustment costs in lumpy investment models as in Khan and Thomas [(2008) Econometrica 76(2), 395–436], which are assumed to follow a uniform distribution from zero to an upper bound, without distinguishing between the mean and the variance of the distribution. Unlike the usual claim that the upper bound stands for the size (represented by the mean) of a nonconvex cost, I show that in order to generate an empirically consistent interest elasticity of aggregate investment, both a sizable mean and a sizable variance are necessary. The mean governs the importance of the extensive margin in aggregate investment dynamics, while the variance governs how sensitive the extensive margin is to changes in the real interest rate. As a result, both the mean and the variance are quantitatively important for aggregate investment dynamics.

This paper provides an assessment of public capital spending within a macroeconomic policy model with explicit monetary and fiscal interactions, in contrast to most of the existing analyses of public investment that utilize “real” general equilibrium models. As such, we are able to consider the interactions of public investment with inflation, taxation, and public debt. Our results indicate that a clear trade-off exists between the costs and benefits of public investment, as is the case in the existing literature. However, the use of a monetary-fiscal policy model rather than a “real” general equilibrium one enables us to trace the macroeconomic channels including monetary ones through which these costs and benefits are transmitted to the rest of the economy. To the extent that these costs and benefits vary between countries, our results provide a potential explanation for the mixed empirical findings on the real effects of public capital spending.

We show the possibility of ergodic chaos in the RSS model, due to Robinson, Solow, and Srinivasan. Moreover, under a relevant parametric regime, we analytically characterize the unique invariant probability measure that describes the statistical properties of a typical trajectory of capital stocks.

Recent research has shown that forward-looking Taylor rules are subject to indeterminacy in New Keynesian models with capital and investment spending. This paper shows that adopting a forward-looking Wicksellian rule that responds to the price level, rather than to inflation, is one potential remedy for the indeterminacy problem. This result is shown to be robust to variations in both the labor supply elasticity and the degree of price stickiness, the inclusion of capital adjustments costs, and if output also enters into the interest-rate feedback rule. Finally, it is shown that the superiority of Wicksellian rules over Taylor rules is not only confined to forward-looking policy, but also extends to both backward-looking and contemporaneous-looking specifications of the monetary policy rule.