Fiscal Policy, Monopolistic Competition, and Finite Lives

The paper studies the short-run, transitional, and long-run output effects of permanent and temporary shocks in public consumption under various financing methods. To this end, a dynamic macroeconomic model for a closed economy is developed, which features a perfectly competitive final goods sector and a monopolistically competitive intermediate goods sector. Finitely lived households consume final goods, supply labor, and save part of their income. Amongst the findings for a permanent rise in public consumption are: (i) monopolistic competition increases the absolute value of the balanced-budget output multiplier; (ii) positive long-run output multipliers are obtained only if the generational turnover effect is dominated by the intertemporal labor supply effect; (iii) short-run out- put multipliers under lump-sum tax financing are smaller than long-run output multipliers if labor supply is elastic; and (iv) bond financing reduces the size of long-run output multipliers as compared to lump-sum tax financing and may give rise to non-monotonic adjustment paths if labor supply is sufficiently elastic and the speed of adjustment of lump-sum taxes is not too high. Temporary bond-financed fiscal shocks are shown to yield: (i) permanent effects on output; and (ii) negative long-run output multipliers.fiscal policy, output multipliers, Yaari-Blanchard model, overlapping generations, monopolistic competition, love of variety, temporary fiscal shocks

The Transitional Dynamics of Fiscal Policy in Small Open Economies

The paper studies the dynamic macroeconomic effects of fiscal shocks of various duration (permanent and temporary) under different financing methods (lump-sum tax and government debt). To this end, we develop an intertemporal macroeconomic model for a small open economy, featuring monopolistic competition in the intermediate goods market, endogenous (intertemporal) labor supply, and finitely lived households. Endogenous labor supply is crucial in generating cyclical adjustment paths and yields faster convergence to the new steady state compared with exogenous labor supply. The quantitative output effects and transitional dynamics of fiscal policy differ substantially from those of an infinitely lived representative agent model. In addition, government debt is key in making the timing of shocks matter, thus yielding permanent output effects of temporary fiscal shocks.fiscal policy, output multipliers, Blanchard-Yaari overlapping generations, monopolistic competition, small open economy

Environmental Policy and the Macroeconomy in the Presence of Ecological Thresholds

We study the environmental and economic effects of public abatement in the presence of multiple stable steady-state ecological equilibria. Under shallow-lake dynamics (SLD), the isocline for the stock of pollution features two stable branches, a good and a bad one. Assuming that the ecology is initially located on the upper (bad) branch of the isocline, the ecological equilibrium is hysteretic and a suitably designed temporary abatement policy can be used to steer the environment from the bad to the good equilibrium. In all models considered in this paper, a “cold turkey” abatement policy is optimal, i.e. the largest feasible shock should be administered for the shortest possible amount of time. Depending on the particular model used to characterize the economic system, there is a capital feedback effect that either helps or hinders the attainment of a successful abatement policy.Shallow-lake dynamics, Bifurcation, Environmental policy, Overlapping generations

The Environmental and Macroeconomic Effects of Socially Responsible Investment

We analyze the effects of socially responsible investment and public abatement on environmental quality and the economy in a continuous-time dynamic growth model featuring optimizing households and firms. Environmental quality is modelled as a renewable resource. Consumers can invest in government bonds or firm equity. Since investors feel partly responsible for environmental pollution when holding firm equity, they require a premium on the return to equity. We show that socially responsible investment behaviour by households partially offsets the positive effects on environmental quality of public abatement policies.socially responsible investment, economic growth, environmental economics, resource dynamics, stock market

Tax Policy, the Macroeconomy, and Intergenerational Distribution

The paper studies the dynamic macroeconomic and welfare effects of tax policy in the context of an overlapping-generations model of the Yaari-Blanchard type for a closed economy. The model is extended to allow for endogenous labor supply and three tax instrumentsónamely, a capital tax, labor income tax, and consumption tax. It is shown that labor taxes increase welfare of old generations whereas capital and consumption taxes reduce their welfare. Copyright 2002, International Monetary Fund

Growth and the Ageing Joneses

We incorporate Keeping-up-with-the-Joneses (KUJ) preferences into the Blanchard-Yaari(BY) framework and develop, using an AK technology, a model of balanced growth. In this context we investigate status preference, demographic, and pension policy shocks. We find that a higher degree of KUJ lowers economic growth, while, in contrast, a decrease in the fertility and mortality rates increase it. In the second part of the paper we extend the model by incorporating a Pay-as-you-go (PAYG) pension system with a statutory retirement date. This introduces a life-cycle in human wealth earnings and implies that the growth rate is higher under PAYG. We also consider the implications of an increase in the retirement date under both defined benefit and defined contribution schemes.relative consumption, OLG, endogenous growth, pension reform

Intergenerational and international welfare leakages of a tariff in a small open economy

A dynamic overlapping-generations model of a small open economy with imperfect competition in the goods market is constructed. A tariff increase reduces output and employment and leads to an appreciation of the real exchange rate both in the impact period and in the new steady state. The tariff shock has significant intergenerational distribution effects. Old existing generations gain less than both younger existing generations and future generations. Bond policy neutralizes the intergenerational inequities and allows the computation of first-best and second- best optimal tariff rates. The first-best tariff exploits national market power, but the second-best tariff contains a correction to account for the existence of a potentially suboptimal product subsidy.

Intergenerational and international welfare leakages of a tariff in a small open economy

A dynamic overlapping-generations model of a small open economy with imperfect competition in the goods market is constructed. A tariff increase reduces output and employment and leads to an appreciation of the real exchange rate both in the impact period and in the new steady state. The tariff shock has significant intergenerational distribution effects. Old existing generations gain less than both younger existing generations and future generations. Bond policy neutralizes the intergenerational inequities and allows the computation of first-best and second-best optimal tariff rates. The first-best tariff exploits national market power, but the second-best tariff contains a correction to account for the existence of a potentially suboptimal product subsidy.

Labor tax reform and equilibrium unemployment: a search and matching approach

The paper studies simple strategies of labor tax reform in a search and matching model of the labor market featuring endogenous labor supply. Changing the composition of the tax wedge---that is, reducing a payroll tax and increasing a progressive wage tax such that the marginal tax wedge remains unaffected---increases employment, reduces the equilibrium unemployment rate, and increases public revenue as long as workers do not have all the bargaining power in wage negotiations. A strategy of replacing employment taxes by payroll taxes increases employment and reduces the equilibrium unemployment rate, while the effect on public revenue is ambiguous.

A Life-Cycle Overlapping-Generations Model of the Small Open Economy

In this paper we construct an overlapping generations model for the small open economy incorporating a realistic description of the mortality process. With agedependent mortality, the typical life-cycle pattern of consumption and saving results from the maximizing behaviour of individual households. Our ?Blanchard-Yaari-Modigliani?model is used to analytically study a number of typical shocks affecting the small open economy, namely a balanced-budget public spending shock, a temporary Ricardian tax cut, and an interest rate shock. The demographic details matter a lot?both the impulse-response functions and the welfare profiles (associated with the different shocks) are critically affected by them. These demographic details furthermore do not wash out in the aggregate. The model is flexible and can be applied to a wide variety of theoretical and policy issues.