DP3154 Business Cycles With Heterogenous Agents

Author(s): Roger E A Farmer
Publication Date: January 2002
Keyword(s): business cycles, dynamic general equilibrium theory, overlapping generations
JEL(s): D50, D90, E30
Programme Areas: International Macroeconomics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=3154

I show how to construct a stochastic long-lived overlapping generation?s model that is based on a non-stochastic model developed by Olivier Blanchard and Philippe Weil and that nests the RBC model as a special case. My innovation over previous work is to add an aggregate stochastic shock. I provide three different calibrations of my model economy. One mimics the RBC model and the other two are heterogenous agent economies (HA and HATAX) with and without corporate income taxes. I show that the HA and HATAX models can explain the low safe rate of interest that has been observed for long periods in US data. The HATAX model can also explain the fact that the investment to GDP ratio in US data is lower than the profit share. All three models are almost identical in their predictions for the comovements and volatility?s of consumption, investment, employment and GDP at business cycle frequencies.