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Some Results on the Solution of the Neoclassical Growth Model

  • Jesus Fernandez-Villaverde


    (Department of Economics, University of Pennsylvania)

  • Juan F. Rubio-Ramirez


    (Federal Reserve Bank of Atlanta)

This paper presents some new results on the solution of the stochastic neoclassical growth model with leisure. We use the method of Judd (2003) to explore how to change variables in the computed policy functions that characterize the behavior of the economy. We find a simple close-form relation between the parameters of the linear and the loglinear solution of the model. We extend this approach to a general class of changes of variables and show how to find the optimal transformation. We report how in this way we reduce the average absolute Euler equation errors of the solution of the model by a factor of three. We also demonstrate how changes of variables correct for variations in the volatility of the economy even if we work with first order policy functions and how we can keep a linear representation of the laws of motion of the model if we use a nearly optimal transformation.

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Paper provided by Penn Institute for Economic Research, Department of Economics, University of Pennsylvania in its series PIER Working Paper Archive with number 04-002.

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Length: 27 pages
Date of creation: 23 Nov 2003
Date of revision:
Handle: RePEc:pen:papers:04-002
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  1. Benhabib, Jess & Schmitt-Grohé, Stephanie & Uribe, Martín, 1999. "The Perils of Taylor Rules," CEPR Discussion Papers 2314, C.E.P.R. Discussion Papers.
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  7. Blanchard, Olivier Jean & Kahn, Charles M, 1980. "The Solution of Linear Difference Models under Rational Expectations," Econometrica, Econometric Society, vol. 48(5), pages 1305-11, July.
  8. Wouter J. den Haan & Albert Marcet, 1993. "Accuracy in simulations," Economics Working Papers 42, Department of Economics and Business, Universitat Pompeu Fabra.
  9. Kydland, Finn E & Prescott, Edward C, 1982. "Time to Build and Aggregate Fluctuations," Econometrica, Econometric Society, vol. 50(6), pages 1345-70, November.
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  11. S. Boragan Aruoba & Jesus Fernandez-Villaverde & Juan F. Rubio-Ramirez, 2003. "Comparing solution methods for dynamic equilibrium economies," FRB Atlanta Working Paper 2003-27, Federal Reserve Bank of Atlanta.
  12. Jinill Kim & Sunghyun Kim & Ernst Schaumburg & Christopher A. Sims, 2003. "Calculating and Using Second Order Accurate Solutions of Discrete Time," Levine's Bibliography 666156000000000284, UCLA Department of Economics.
  13. Ellen R. McGrattan & Edward C. Prescott, 2001. "Is the Stock Market Overvalued?," NBER Working Papers 8077, National Bureau of Economic Research, Inc.
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  15. Tauchen, George, 1986. "Finite state markov-chain approximations to univariate and vector autoregressions," Economics Letters, Elsevier, vol. 20(2), pages 177-181.
  16. King, Robert G & Plosser, Charles I & Rebelo, Sergio T, 2002. "Production, Growth and Business Cycles: Technical Appendix," Computational Economics, Society for Computational Economics, vol. 20(1-2), pages 87-116, October.
  17. Judd, Kenneth L. & Guu, Sy-Ming, 1997. "Asymptotic methods for aggregate growth models," Journal of Economic Dynamics and Control, Elsevier, vol. 21(6), pages 1025-1042, June.
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