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Macroeconomic resilience in a DSGE model

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Author Info
Adam Elbourne ()
Debby Lanser ()
Bert Smid ()
Martin Vromans ()

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Abstract

We use the dynamic stochastic general equilibrium (DSGE) model of Altig et al. (2005) to analyse the resilience of an economy in the face of external shocks. The term resilience refers to the ability of an economy to propser in the face of shocks. The Altig et al. model was chosen because it combined both demand and supply shocks and because various market rigidities/imperfections, which have the potential to affect resilience, are modelled. We consider the level of expected discounted utility to be the relevant measure of resilience. The effect of market rigidities, eg. wage and price stickiness, on the expected level of utility is minimal. The effect on utility is especially small when compared to the effect of market competition, because the latter has a direct effect on the level of output. This conclusion holds for the family of constant relative risk aversion over consumption utility functions. A similar conclusion was drawn by Lucas (1987) regarding the costs of business cycles. We refer to the literature that followed Lucas for ideas for how a DSGE model might be adjusted to give a more meaningful analysis of resilience. We conclude that the Altig et al. DSGE model does not produce a relationship between rigidities and the level of output and, hence, does not capture the effect of inflexibility on utility that one observes colloquially.

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Paper provided by CPB Netherlands Bureau for Economic Policy Analysis in its series CPB Discussion Papers with number 96.

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Date of creation: Jan 2008
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Handle: RePEc:cpb:discus:96

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Related research
Keywords: Resilience; Nominal Rigidities; Capital Adjustment Costs; DSGE Models;

Find related papers by JEL classification:
E17 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Forecasting and Simulation
E27 - Macroeconomics and Monetary Economics - - Macroeconomics: Consumption, Saving, Production, Employment, and Investment - - - Forecasting and Simulation
E37 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Forecasting and Simulation
C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions

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