The vast majority of the business cycle literature assumes a linear transformation frontier between consumption and investment goods. This assumption neglects a relationship, present in the data, between the relative price of investment and total factor productivity. This assumption also leads to counterfactual saving rates. A simple extension of the real business cycle model is proposed where the transformation frontier can be concave. Alternative identification strategies lead to similar estimates of the curvature with a dramatic improvement on the prediction of the saving rate. A side product of this analysis is a test of the paradox of thrift: an increase in savings not due to technology shocks leads to an economic downturn.
The U.S. labor force composition by gender, age and education has changed substantially over the last 40 years but the relative volatility of market hours across these groups has remained stable. To what extent do changes in the labor composition affect aggregate volatility? I develop a large-scale business cycle model which suggests that the demographic changes considered account for a significant proportion of the changes in aggregate volatility. To solve the model over a large transition, I apply perturbation methods at several points over the transition path. This methodology breaks the curse of dimensionality and enables accurate solutions far from the steady state. Matlab code is available in the page Codes.
With Martin Gervais
November 2010 (First version November 2009)
This paper studies optimal Ramsey taxation in a version of the neoclassical growth model in which investment becomes productive within the period, thereby making the supply of capital elastic in the short run. Because taxing capital is distortionary in the short run, the government's ability/desire to raise revenues through capital income taxation in the initial period, or when the economy is hit with a bad shock, is greatly curtailed. Our timing assumption leads to a tractable Ramsey problem without state-contingent debt, which gives rise to the classic tradeoff between the gains of short run countercyclical policy and the burden from the resulting government debt. Key to this tradeoff is the expected length of recessions: while it is optimal to run a deficit for short recessions, the burden of high debt during the recovery dominates over the short run expansionary benefits for recessions that last several years.