Abstract not found

Abstract not found

To recover a version of Barro's (1979) `random walk' tax smoothing outcome, we modify Lucas and Stokey's (1983) economy to permit only risk-free debt. This imparts near unit root like behavior to government debt, independently of the government expenditure process, a realistic outcome in the spirit of Barro's. We show how the risk-free-debtonly economy confronts the Ramsey planner with additional constraints on equilibrium allocations that take the form of a sequence of measurability conditions. We solve the Ramsey problem by formulating it in terms of a Lagrangian, and applying a Parameterized Expectations Algorithm to the associated first-order conditions. The first-order conditions and numerical impulse response functions partially affirm Barro's random walk outcome. Though the behaviors of tax rates, government surpluses, and government debts differ, allocations are very close for computed Ramsey policies across incomplete and complete markets economies.

Abstract not found

The premise of neo-classical growth theory is that it is possible to do a reasonable job of explaining the broad patterns of economic change across countries, by looking at it through the lens of an aggregate production function. The aggregate production function relates the total output of an economy (a country, for example) to the aggregate amounts of labor, human capital and physical capital in the economy, and

In this paper we study the asset pricing implications of a parsimonious two-agent macroeconomic model with two key features: limited participation in the stock market and heterogeneity in the elasticity of intertemporal substitution. The parameter values for the model are taken from the business cycle literature and are not calibrated to match any financial statistic. Yet, with a risk aversion of two, the model is able to explain a large number of asset pricing phenomena including all the facts matched by the external habit model of Campbell and Cochrane (1999). Examples in this list include a high equity premium and a low risk-free rate; a counter-cyclical risk premium, volatility and Sharpe ratio; predictable stock returns with coefficients and R2 values of long-horizon regressions matching their empirical counterparts, among others. In addition the model generates a risk-free rate with low volatility (5.7 percent annually) and with high persistence. We also show that the similarity of our results to those from an external habit model is not a coincidence: the model has a reduced form representation which is remarkably similar to Campbell and Cochrane’s framework for asset pricing. However,themacroeconomic implications of the two models are quite different, favoring the limited participation model. Moreover, we show that policy analysis yields dramatically different conclusions in each framework.

Constantinides and Due (1996) show that for idiosyncratic risk to matter for asset pricing the shocks must (i) be highly persistent and (ii) become more volatile during economic contractions. We show that data from the Panel Study on Income Dynamics (PSID) are consistent with these requirements. Our results are based on econometric methods which incorporate macroeconomic information going beyond the time horizon of the PSID, dating back to 1910. We go on to argue that life-cycle effects are fundamental for how idiosyncratic risk affects asset pricing. We use a stationary overlapping-generations model to show that life-cycle effects can either mitigate or accentuate the equity premium, the critical ingredient being whether agents accumulate or deccumulate risky assets as they age. Our model predicts the latter and is able to account for both the average equity premium and the Sharpe ratio observed on the U.S. stock market.

This article constructs and simulates a life cycle model of wealth accumulation and estimates the parame-ters of the utility function (the rate of time preference and the coefficient of risk aversion) by matching the simulated median wealth profiles with those observed in the Panel Study of Income Dynamics and in the Survey of Consumer Finances. The estimates imply a low degree of patience and a high degree of risk aversion. The results are used to study the importance of precautionary savings in explaining wealth accu-mulation. They imply that wealth accumulation is driven mostly by precautionary motives at the beginning of the life cycle, whereas savings for retirement purposes become significant only closer to retirement. KEY WORDS: Precautionary savings; Simulated method of moments. 1.

This paper attempts to reconcile two opposing views about the elasticity of intertemporal substitution in consumption (EIS), a parameter that plays a key role in macroeconomic analysis. On the one hand, empirical studies using aggregate consumption data typically find that the EIS is close to zero (Hall, 1988). On the other hand, calibrated macroeconomic models designed to match growth and business cycle facts typically require that the EIS be close to one (Weil, 1989; Lucas, 1990). We show that this apparent contradiction arises from ignoring two kinds of heterogeneity across individuals.

We study, theoretically and quantitatively, the general equilibrium of an economy in which households smooth consumption by means of both a riskless asset and unsecured loans with the option to default. The default option resembles a bankruptcy filing under Chapter 7 of the U.S. Bankruptcy Code. Competitive financial intermediaries offer a menu of loan sizes and interest rates wherein each loan makes zero profits. We prove existence of a steady-state equilibrium and characterize the circumstances under which a household defaults on its loans. We show that our model accounts for the main statistics regarding bankruptcy and unsecured credit while matching key macroeconomic aggregates and the earnings and wealth distributions. We use this model to address the implications of a recent policy change that introduces a form of “means-testing” for households contemplating a Chapter 7 bankruptcy filing. We find that this policy change yields large welfare gains.