Adjustment and income distribution: A micro-macro model for counterfactual analysis

Abstract

This paper presents a structural macro simulation model to quantify the effects of alternative stabilization packages on the distribution of income and wealth. The model combines the explicit microeconomic optimizing behavior characteristic of computable general equilibrium models with asset portfolio behavior of macroeconomic models in Tobin's tradition. In this model there are four main mechanisms by which policy changes affect the distribution of income and wealth. First, changes in factor rewards affect directly household income distribution. Second, household real incomes are affected by changes in their respective cost of living indexes. Third, household real incomes are affected by changes in real returns on financial assets since household incomes include income from financial holdings. Fourth, household wealth distribution is affected by capital gains and losses. Illustrative simulations with the model are carried out for a representative economy subject to the interest rate and terms-of-trade shocks of the early 1980s. The simulations suggest a large adverse impact on the distribution of income of a sharp contractionary package.