This paper examines the role of uncertainty shocks in a one-sector, representative-agent dynamic stochastic general equilibrium model. When prices are flexible, uncertainty shocks are not capable of producing business cycle co-movements among key macro variables. With countercyclical markups through sticky prices, however, uncertainty shocks can generate fluctuations that are consistent with business cycles. Monetary policy usually plays a key role in offsetting the negative impact of uncertainty shocks. If the central bank is constrained by the zero lower bound, then monetary policy can no longer perform its usual stabilizing function and higher uncertainty has even more negative effects on the economy. Calibrating the size of uncertainty shocks using fluctuations in the VIX, the authors find that increased uncertainty about the future may indeed have played a significant role in worsening the Great Recession, which is consistent with statements by policymakers, economists, and the financial press.

/pdf/uncertainty-shocks-in-a-model-of-effective-demand-5ccayqzvu1.pdf

Uncertainty Shocks in a Model of Effective Demand

This paper examines the role of uncertainty shocks in a one-sector, representative-agent dynamic stochastic general-equilibrium model. When prices are exible, uncertainty shocks are not capable of producing business-cycle comovements among key macro variables. With countercyclical markups through sticky prices, however, uncertainty shocks can generate uctuations that are consistent with business cycles. Monetary policy usually plays a key role in osetting the negative impact of uncertainty shocks. If the central bank is constrained by the zero lower bound, then monetary policy can no longer perform its usual stabilizing function and higher uncertainty has even more negative eects on the economy. Calibrating the size of uncertainty shocks using uctuations in the VIX, we nd that increased uncertainty about the future may indeed have played a signicant role in worsening the Great Recession, which is consistent with statements by policymakers, economists, and the nancial press.

/pdf/uncertainty-shocks-in-a-model-of-effective-demand-2wj3azu3ek.pdf

https://www.federalreserve.gov/pubs/feds/2014/201447/201447pap.pdf

OccBin: A toolkit for solving dynamic models with occasionally binding constraints easily

Using confidential product-level price data underlying the U.S. Producer Price Index (PPI), this paper analyzes the effect of changes in firms’ financial conditions on their price-setting behavior during the ”Great Recession” that surrounds the financial crisis. The evidence indicates that during the height of the crisis in late 2008, firms with “weak” balance sheets increased prices significantly relative to industry averages, whereas firms with “strong” balance sheets lowered prices, a response consistent with an adverse demand shock. These stark differences in price-setting behavior are consistent with the notion that financial frictions may significantly influence the response of aggregate inflation to macroeconomic shocks. We explore the implications of these empirical findings within a general equilibrium framework that allows for customer markets and departures from the frictionless financial markets. In the model, firms have an incentive to set a low price to invest in market share, though when financial distortions are severe, firms forgo these investment opportunities and maintain high prices in an effort to preserve their balance-sheet capacity. Consistent with our empirical findings, the model with financial distortions—relative to the baseline model without such distortions—implies a substantial attenuation of price dynamics in response to contractionary demand shocks.

/pdf/inflation-dynamics-during-the-financial-crisis-2f3xqd24s4.pdf

Inflation Dynamics During the Financial Crisis

We review the main identification strategies and empirical evidence on the role of expectations in the New Keynesian Phillips curve, paying particular attention to the issue of weak identi...

/pdf/empirical-evidence-on-inflation-expectations-in-the-new-4861moya04.pdf

Empirical Evidence on Inflation Expectations in the New Keynesian Phillips Curve

Dynare is a software platform for handling a wide class of economic models, in particular dynamic stochastic general equilibrium (DSGE) and overlapping generations (OLG) models. The models solved by Dynare include those relying on the rational expectations hypothesis, wherein agents form their expectations about the future in a way consistent with the model. But Dynare is also able to handle models where expectations are formed differently: on one extreme, models where agents perfectly anticipate the future; on the other extreme, models where agents have limited rationality or imperfect knowledge of the state of the economy and, hence, form their expectations through a learning process. Dynare offers a user-friendly and intuitive way of describing these models. It is able to perform simulations of the model given a calibration of the model parameters and is also able to estimate these parameters given a dataset. Dynare is a free software, which means that it can be downloaded free of charge, that its source code is freely available, and that it can be used for both non-profit and for-profit purposes.

/pdf/dynare-reference-manual-version-4-21pplzn7v1.pdf

Juillard Michel

Papers

Dynare: Reference Manual Version 4