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The Wobbly Economy

23 October 2019 at 12:00 PM - 2:00 PM

Room 207, Campus on Viale Romania, 32

Speaker: Tomohiro Hirano , Royal Holloway

Abstract:

Authors: Tomohiro Hirano (Royal Holloway, University of London) and Joseph E. Stiglitz (Columbia University)

This paper explores the standard life-cycle model, showing that under not implausible conditions, multiplicity of momentary equilibria can arise. Multiplicity of momentary equilibria can generate an infinity of rational expectation equilibria, leading to “wobbly” macro-dynamics; this may occur even when under myopic expectations, there is a unique dynamic path. Nonetheless, one can provide a full characterization of the possible patterns of economic dynamics. In particular, we identify four possible patterns, providing a characterization of the parameter values under which each may occur. Most interestingly, under some configurations of the parameter values, bubble-like macro dynamics occur. That is, a productivity increase may generate a fragile economic boom that is followed by a stagnation trap. We show under what conditions hysteresis can occur after the collapse of economic booms. Finally, we show how government policy can affect the equilibrium path, demonstrating that an appropriately chosen government policy mix can ensure that the rational expectations equilibrium is unique, preventing wobbly macro-dynamics and improving social welfare.