We investigate the optimal path of the primary surplus that a government will choose to minimize costs that derive from exceeding the Maastricht criteria and generally of a “stability pact,” where we assume three components of costs that are related to (1) the debt-to-GDP ratio, (2) the overall deficit-to-GDP ratio, and (3) the acceptance level of savings in the economy. We show that various political-economic settings can result in completely different equilibrium strategies of the debt-to-GDP ratio and the primary deficit. The spectrum of possible optimal strategies ranges from no stationary solutions to multiple equilibrium and cyclical solutions and from positive to negative levels of the optimal debt-to-GDP ratio. Our results emphasize the importance of macroeconomic and behavioral (acceptance rate of a policy) variables in order to explain complex economic time series.

We study the sensitivity of the inflation–growth trade-off in monetary growth models to the introduction of search frictions in the labor market. We consider three types of endogenous growth models: (1) the AK model, (2) the Lucas supply-side model, and (3) the two-sector model of Jones and Manuelli. We show that the effects depend on the specification of the cash-in-advance constraint and the magnitude of the semi-interest elasticity of the income velocity. For the AK model, economic growth increases with higher inflation. For the other two models, growth declines for the case of the standard cash-in-advance constraint on consumption, whereas it either increases or decreases if money is introduced, as in the cash–credit good economy of Dotsey and Ireland, depending on the semi-interest elasticity of the income velocity. The welfare effects of inflation are shown to be economically significant in the presence of search unemployment.

We study a model in which parents care about the economic and social status of their offspring. The chances of an individual achieving social status depends on innate traits, that is, IQ, ability, social and cultural environment, and other price-insensitive endowments, passed on by their parents, on human capital investments and on chance events. Parents can, through human capital investments, increase the offspring’s probability of climbing the social ladder, although they cannot borrow against the children’s perspective earning. Consequently, income and trait heterogeneity are the determinants of unequal opportunities and of intergenerational mobility.

Exchange rate pass-through (ERPT) into prices and into income loss are shown to be enough to calculate ERPT into welfare loss using implications of a simple model. These ERPT measures are estimated at the good level using a unique micro-price data set from Turkey, and they are combined with income-group-specific expenditure shares at the good level to obtain aggregate-level ERPT measures for alternative income groups. An exchange rate shock resulting in a real depreciation of 1% is shown to decrease welfare by about 0.80% for the average-income consumer, while this estimate ranges between 0.73% and 0.83% for consumers in the lowest- and highest-income quintiles, respectively, suggesting evidence for redistributive effects of an exchange rate shock. Using micro prices has further resulted in showing that traded, nondurable, flexible-price, or income-elastic goods contribute more to ERPT into welfare loss for the average-income consumer, suggesting important policy implications for filtering out the noise in the measurement of aggregate-level prices.

This paper proposes a financial accelerator framework to study the effects of heterogeneous and bounded rational expectations on macroeconomic dynamics. The paper examines the fluctuations effects departing from the rational expectations hypothesis in order to understand if there are significant implications on macroeconomic volatility and policy prescriptions. The findings suggest that macroeconomic stability and inflation dynamics depend on the chosen set of forecasting rules, as well as on the monetary policy adopted. The model shows that no monetary policy is able to quickly stabilize the system, as some fluctuations persist. Central banks face a trade-off between macro-volatility and speed of convergence to the steady state. This result offers some ground for fiscal policies aiming to prompt system stability. In addition, the analysis reveals a counterintuitive result confirming the “less-is-more” effect: increasing the decision-making and computational abilities of the agents may not lead the system to converge to the preferable steady state.

This paper presents a dynamic specific-factors model with money introduced through a cash-in-advance constraint. Two types of consumption goods are produced, and three types of factors—labor, capital, and land—are used. The cash-in-advance constraint is imposed on different sets of goods. When the constraint is imposed exclusive of the investment, inflation affects the pattern (and volume) of trade through a commodity-substitution effect. When the constraint is imposed inclusive of the investment, inflation may affect the pattern of trade through both the commodity-substitution effect and the factor-supply effect. In each case, we examine and prove the dynamic stability property of the steady-state equilibrium.

Table 4 of this article was incorrectly published with subheadings in Table 4 missing. The publisher regrets this error and the correct version of Table 4 is presented here. Table 4.

Present-value multipliers for different specifications of fiscal policy in the new Keynesian model with rational expectations and with adaptive learning

	Rational expectations				Adaptive learning
	Impact	1 year	4 years	6 years	Impact	1 year	4 years	6 years
Strategy 1: Lump-sum financing (baseline model)
$\frac{{PV\left( {\Delta Y} \right)}}{{PV\left( {\Delta G} \right)}}\$	0.51	0.50	0.46	0.43	1.01	1.00	0.99	0.97
$\frac{{PV\left( {\Delta C} \right)}}{{PV\left( {\Delta G} \right)}}\$	−0.29	−0.30	−0.34	−0.37	0.09	0.09	0.07	0.06
$\frac{{PV\left( {\Delta I} \right)}}{{PV\left( {\Delta G} \right)}}\$	−0.20	−0.20	−0.20	−0.20	−0.08	−0.08	−0.09	−0.09
Strategy 2: Capital tax financing
$\frac{{PV\left( {\Delta Y} \right)}}{{PV\left( {\Delta G} \right)}}\$	0.32	0.29	0.12	0.02	0.43	0.38	0.20	0.08
$\frac{{PV\left( {\Delta C} \right)}}{{PV\left( {\Delta G} \right)}}\$	−0.23	−0.26	−0.40	−0.48	−0.08	−0.12	−0.27	−0.37
$\frac{{PV\left( {\Delta I} \right)}}{{PV\left( {\Delta G} \right)}}\$	−0.68	−0.69	−0.70	−0.71	−0.80	−0.80	−0.81	−0.82
Strategy 3: Labor tax financing
$\frac{{PV\left( {\Delta Y} \right)}}{{PV\left( {\Delta G} \right)}}\$	−0.64	−0.68	−0.85	−0.95	0.48	0.47	0.43	0.40
$\frac{{PV\left( {\Delta C} \right)}}{{PV\left( {\Delta G} \right)}}\$	−1.07	−1.10	−1.24	−1.33	−0.37	−0.38	−0.41	−0.43
$\frac{{PV\left( {\Delta I} \right)}}{{PV\left( {\Delta G} \right)}}\$	−0.71	−0.71	−0.73	−0.74	−0.17	−0.18	−0.18	−0.18

This paper analyzes the role and importance of “inside” money, made out of commercial banks' liabilities, for a New Keynesian model of the type commonly used for monetary policy analysis. The active role of inside money stems from its unique role in allowing payment for at least some consumption goods; shocks to the production of inside money may therefore have real effects. A calibrated version of the model is shown to generate small, but nonnegligible effects of inside money shocks on output and inflation. Moreover, the presence of inside money in the model leads to a slight attenuation of the effect of technology and monetary policy shocks. Finally, it is found that it is optimal for monetary policy to react to inside money shocks, but reacting to inflation alone does not result in a significant loss of household welfare.

Linear dynamical systems are widely used in many different fields from engineering to economics. One simple but important class of such systems is called the single-input transfer function model. Suppose that all variables of the system are sampled for a period using a fixed sample rate. The central issue of this paper is the determination of the smallest sampling rate that will yield a sample that will allow the investigator to identify the discrete-time representation of the system. A critical sampling rate exists that will identify the model. This rate, called the Nyquist rate, is twice the highest frequency component of the system. Sampling at a lower rate will result in an identification problem that is serious. The standard assumptions made about the model and the unobserved innovation errors in the model protect the investigators from the identification problem and resulting biases of undersampling. The critical assumption that is needed to identify an undersampled system is that at least one of the exogenous time series be white noise.

In recent years, there has been an explosive increase in the demand for health products and services by people all around the globe, and particularly in advanced economies. Aiming to enhance longevity and also to improve quality of life, individual consumption of pharmaceutical products and services has risen exponentially since the early 1980s. This paper develops a model in which agents invest part of their resources in medical products and time in physical exercise to enhance their health status. In the first part of the paper, we study the steady state and transitional dynamics of the model with special emphasis on the effects of health decisions on aggregate outcomes. In the second part, we explore how public health policies may alter private economic decisions that promote healthier and more productive lives.

We present a stylized model that illustrates how interbank trading can reduce the sensitivity of lending to entrepreneurs' net worth, thus affecting the transmission mechanism of monetary policy through the credit channel. We build a model-consistent measure of interconnectedness and document that, in the United States, this measure has increased substantially during the period 1952–2016. Finally, interacting the measure of interconnectedness in a structural vector autoregression and a factor-augmented vector autoregression for the US economy, we find that the impulse responses of several real and financial variables to monetary policy shocks are dampened as interconnectedness increases. We confirm the same result using data from 10 Euro area countries for the period 1999–2016.

We study a New Keynesian model with bounded rationality, where agents choose their expectations heterogeneously from a discrete choice set. The range of their set of possible expectation values can be interpreted as the anchoring of expectations. In the model, multiple locally stable steady states can arise that reflect coordination on particular expectation values. Moreover, bad shocks to the economy can trigger a self-reinforcing wave of pessimism, where the zero lower bound on the nominal interest rate becomes binding, and agents coordinate on a locally stable liquidity trap steady state. When we let the anchoring of expectations evolve endogenously, it turns out that the anchoring of expectations at the time the bad shocks hit the economy is crucial in determining whether the economy can recover from the liquidity trap. Finally, we find that a higher inflation target makes it less likely that self-reinforcing liquidity traps arise.

This paper analyzes aggregate wealth based on separable risk aversion and intertemporal substitution. In an infinite-period overlapping-generations model with survival uncertainty, economic growth, and permanent and temporary income shocks, our closed-form solution permits us to derive rich behavioral conclusions and to assess the relative importance of the major components of aggregate wealth. In particular, the separation of the attitudes toward risk and substitution allows us to disentangle behaviors relating to the intertemporal substitution motive from behaviors relating to the precautionary motive.

This study investigates the time-varying effects of international uncertainty shocks. I use a global vector autoregressive model with drifting coefficients and factor stochastic volatility in the errors to model the G7 economies jointly. The measure of uncertainty is constructed by estimating a time-varying scalar driving the innovation variances of the latent factors, which is also included in the conditional mean of the process. To achieve regularization, I use Bayesian techniques for estimation, and rely on hierarchical global–local priors to shrink the high-dimensional multivariate system towards sparsity. I compare the obtained econometric measure of uncertainty to alternative indices and discuss commonalities and differences. Moreover, I find that international uncertainty may differ substantially compared to identically constructed domestic measures. Structural inference points towards pronounced real and financial effects of uncertainty shocks in all considered economies. These effects are subject to heterogeneities over time and the cross-section, providing empirical evidence in favor of using the flexible econometric framework introduced in this study.

In this paper we estimate a New-Keynesian dynamic stochastic general equilibrium (NK DSGE) model with heterogeneity in price and wage setting behavior. In a recent study, Coibion and Gorodnichenko develop a DSGE model, in which firms follow four different types of price setting schemes: sticky prices, sticky information, rule-of-thumb, or flexible prices. We enrich Coibion and Gorodnichenko framework by incorporating heterogeneity in nominal wage setting behavior among households. We solve this DSGE model and estimate it using Bayesian techniques for the US economy from 1955 to 2008. The estimation results show the relevance of heterogeneity in wage setting among households. More importantly, we identify qualitative and quantitative business cycle features allowed by the heterogeneity in wage rigidity, such as the persistence in price and wage inflation, which a standard NK model with only Calvo-type wage rigidity fails to achieve. We also show that modeling wage-rigidity heterogeneity—as opposed to standard Calvo wages—amplifies the macroeconomic output fluctuations resulting from a technology shock while it mitigates the output fluctuations following a monetary tightening.

Over the past decade, the most salient changes in macroeconomic conditions in developed economies have included rising government debt and population aging, which are strongly correlated with each other. This paper investigates fiscal multipliers by disentangling the effects of population aging from those of government debt. Our analysis, which uses heterogeneous panel data from 24 OECD economies, shows that while fiscal policy is ineffective for economies with high-debt levels, it is effective for economies with low-debt levels. Furthermore, the estimation results reveal that fiscal policy is ineffective for aged economies, regardless of the level of government debt. However, for nonaged economies, while fiscal policy leads to negative effects on output in times of high debt, its positive effects are more pronounced in times of low debt. Our results suggest that, for the effective implementation of fiscal stimulus policies, policy-based stimulation of employment in the labor market is essential.

An article published in 2018 by J.D. Hamilton gained significant attention due to its provocative title, “Why you should never use the Hodrick-Prescott filter.” Additionally, an alternative method for detrending, the Hamilton regression filter (HRF), was introduced. His work was frequently interpreted as a proposal to substitute the Hodrick–Prescott (HP) filter with HRF, therefore utilizing and understanding it similarly as HP detrending. This research disputes this perspective, particularly in relation to quarterly business cycle data on aggregate output. Focusing on economic fluctuations in the United States, this study generates a large amount of artificial data that follow a known pattern and include both a trend and cyclical component. The objective is to assess the effectiveness of a certain detrending approach in accurately identifying the real decomposition of the data. In addition to the standard HP smoothing parameter of $\lambda = 1600$, the study also examines values of $\lambda ^{\star }$ from earlier research that are seven to twelve times greater. Based on three unique statistical measures of the discrepancy between the estimated and real trends, it is evident that both versions of HP significantly surpass those of HRF. Additionally, HP with $\lambda ^{\star }$ consistently outperforms HP-1600.

Time inconsistency is an essential feature of many policy problems. This paper presents and compares three methods for computing Markov-perfect optimal policies in stochastic nonlinear business cycle models. The methods considered include value function iteration, generalized Euler equations, and parameterized shadow prices. In the context of a business cycle model in which a fiscal authority chooses government spending and income taxation optimally, although lacking the ability to commit, we show that the solutions obtained using value function iteration and generalized Euler equations are somewhat more accurate than that obtained using parameterized shadow prices. Among these three methods, we show that value function iteration can be applied easily, even to environments that include a risk-sensitive fiscal authority and/or inequality constraints on government spending. We show that the risk-sensitive fiscal authority lowers government spending and income taxation, reducing the disincentive to accumulate wealth that households face.

This paper provides an explanation for the supervisory role of the central bank in a monetary general equilibrium model of bank liquidity provision. Under incomplete information on the individual banks' liquidity needs, individual banks find it optimal to invest solely in bank loans holding no cash reserves, and rely on the interbank market for their withdrawal demands. Using the costly state verification approach under uncertainty in aggregate liquidity demands, the supervisory role of the central bank as a large intermediary arises as an incentive-compatible arrangement by which banks hold the correct level of cash reserves. First, it takes up a delegated monitoring role for the banking system. Second, it engages in discount-window lending at a penalty rate, where the discount margin covers exactly the monitoring cost incurred. Finally, under the central banking mechanism, currency premium no longer exists in the sense that currency is worth the same as deposits having an equal face value.

In this paper I study the impact of increasing longevity on pay-as-you-go pension systems. First, I show that increasing longevity increases the internal rate of return. The size of the effect differs for different policy regimes. It is higher for the case where the retirement age is increased to keep the system in balance than for the case where the necessary adjustment is achieved by reducing pension benefits. Second, I study optimally chosen retirement decisions and I show that the socially optimal policy involves a shorter working life than the private optimum. The social optimum can be implemented by the use of a PAYG system that combines an actuarial and a flat pension.