Overlapping Generations Framework Research Articles

Knowledge Codification and Endogenous Growth

The usual models of endogenous growth treat knowledge codification as a byproduct of R&D and as costless. In contrast to this, one can observe great efforts of private firms for the purposeful codification of knowledge. We incorporate costly knowledge codification in an overlapping generations framework of endogenous growth and show that the steady-state growth rate of capital being higher than that of the knowledge stock is a sufficient condition for knowledge codification. With decreasing codification costs, every overlapping generations economy will be codifying in the long run if the rate at which the costs decline is higher than or equal to the steady-state growth rate of knowledge.

Intergenerational cost–benefit analysis of climate change: an endogenous abatement approach

This paper studies the intergenerational welfare effects of climate change and a control policy within a decentralized overlapping generations framework, including endogenous abatement activities. The model incorporates a profit stimulated R&D with realistic market distortions to create an induced innovation structure. In this setting, a control policy has the dual role of discouraging emissions and triggering new abatement technologies. The results from numerical simulations show that the omission of entrepreneurial response to a control policy is likely to result in overestimation of costs associated with this particular policy. Although induced innovation has the potential to reduce the compliance costs with the control policy, current and near-future generations will bear some net costs. The higher the damage projected from climate change, the earlier the net benefit will arrive.

Seniority bias in a tournament

The paper presents a model where the probability of promotion tends to increase with seniority (overall labor market experience) without relying on the accumulation of general human capital. To this end, we consider the optimal design of a tournament (a relative compensation scheme) between two agents with different time horizon, the young and the old, in an overlapping generations framework. When the principal can only imperfectly monitor each agent’s effort level, the difference in time horizon leads to the ex post difference in the marginal value of effort between the two agents. In this case, the optimal tournament necessarily involves a bias towards the old agent. Within this framework, we also examine the relationship between: (1) the monitoring accuracy and the optimal bias; and (2) the value of outside options and the optimal bias.

Closing Large Open Economy Models

A large class of international business cycle models admits multiple locally isolated deterministic steady states, if the elasticity of substitution between traded goods is sufficiently low. I explore the conditions under which such multiplicity occurs and characterize the dynamic properties in the neighborhood of each steady state. Models with standard incomplete markets, portfolio costs, a debt-elastic interest rate, or an overlapping generations framework allow for multiple steady states, if the model features multiple steady states under financial autarchy. If the excess demand for the foreign traded good is increasing in the good's own price in a given steady state, the equilibrium dynamics around this steady state are unbounded. Otherwise, the dynamics are bounded and unique. By contrast, with Uzawa-type preferences, the steady state is always unique and the associated equilibrium dynamics are always bounded and unique. The same results obtain under complete markets.

Pareto-Improving Bequest Taxation

Altruistic parents may transfer resources to their offspring by providing education, and by leaving bequests. We show that in the presence of wage taxation, a small bequest tax may improve efficiency in an overlapping-generations framework with only intended bequests, by enhancing incentives of parents to invest in their children's education. This result holds even if the wage tax rate is held constant when introducing bequest taxation. We also calculate an optimal mix of wage and bequest taxes with alternative parameter combinations. In all cases, the optimal wage tax rate is clearly higher than the optimal bequest tax rate, but the latter is generally positive when the required government revenue in the economy is sufficiently high.

Investment Behavior of Stock Exchanges and the Rationale for Demutualization - Theory and Empirical Evidence

This paper deals with two, potentially intertwined issues of stock exchange governance. First, we demonstrate in a static global games model that investment propensity will vary across different types of organizational forms and competition scenarios. Exchanges organized as mutuals are particularly ill-suited compared to trading venues owned by outside investors, when investments result in potential rents for only few of their members. These circumstances are likely when exchanges invest in related business activities such as derivatives trading, post-trading and software development services. Second, we explain in a dynamic overlapping-generations framework the rationale for the recent wave of demutualization, which describes the process of converting a mutual, not-for-profit stock exchange into an outsider-owned, commercial firm. Our model shows that a mutual exchange, facing competition from a for-profit, outsider-owned platform, can only survive by adopting a similar governance structure. Our paper will also provide empirical evidence for the two main predictions derived from the models. For that purpose, we employ bivariate probit regressions to simultaneously estimate the propensity to invest and to demutualize, thereby accounting for potential endogeneity issues. We show that competitive pressure indeed increases the likelihood of demutualization and that outsider-owned exchanges have a stronger propensity to invest into related business activities.

'Real-world' Mortgages, Consumption Volatility and the Low Inflation Environment

This paper considers the interaction between the microeconomic decisions facing households and the macroeconomic environment in a setting where households have 'real-world' mortgage contracts. In particular, we consider the possible consequences of the important changes in the framework for setting monetary policy in the United Kingdom in recent decades that have coincided with a more stable and low inflation environment. We set a model of households with 'real-world' mortgages in a partial equilibrium overlapping generations framework calibrated to UK data. We find that the welfare gains of the change of regime would have been considerable. However, the baseline calibration of the model implies that the volatility of aggregate consumption growth would actually be higher in the steady state in the more stable environment of the 1990s regime. This is due to greater synchrony in the response of households to shocks, offsetting the smaller magnitude of macroeconomic shocks. This effect is amplified by higher levels of debt in the 1990s. The result that aggregate consumption volatility could be higher in the current regime suggests that the observed fall in aggregate consumption volatility cannot necessarily be attributed to the more stable macroeconomic environment and the role of mortgage debt. If this result applies, this would suggest that the observed fall in volatility may be due either to other factors or may be a transitional phenomenon rather than a feature of the new steady state.

Public pensions and the role of real versus financial capital

The paper introduces an unfunded public pension program into an overlapping generations framework recently proposed by Magill and Quinzii (2003). The crucial distinction of the Magill and Quinzii framework is that the financial value of a firm may be lower than the replacement value of its capital. The present paper shows that in this framework unfunded public pensions negatively affect the financial value of firms but have no effect on real capital accumulation and welfare.

Heckscher–Ohlin revisited: implications of differential population dynamics for trade within an overlapping generations framework

This paper investigates the implications of the addition of differential population dynamics to a simple 2 × 2 × 2 model of international trade within an overlapping generations framework. The two regions considered are assumed to be identical in every respect except for the way their populations evolve over time. The effects of these demographic differences are explored by comparing autarky and trade on the basis of (i) the analytical solutions obtained for the steady-state values of key variables and (ii) the paths of these variables plotted using numerical results from simulation experiments carried out under two different demographic scenarios. Unequal population dynamics are shown to affect the relative abundance of the factors of production in each region, giving rise to differentials in wage rates and rentals for capital under autarky conditions. This, in turn, causes costs of production and relative prices to differ, creating the grounds for trade in the sense of Heckscher–Ohlin (HO). Yet, the results reveal that static HO results cannot be generalized to hold in a dynamic setting where differences in demographics cause factor proportions to evolve independently of trade over time.

Demographics, Stock Market Flows, and Stock Returns

AbstractThis paper studies the link between population age structure, net outflows (dividends plus repurchases less net issues) from the stock market, and stock market returns in an overlapping generations framework. I find support for the traditional lifecycle models—the outflows from the stock market are positively correlated with the changes in the fraction of old people (65 and over) and negatively correlated with the changes in the fraction of middle-aged people (45 to 64). Changes in population age structure also add significant explanatory power to equity premium regressions. The population structure adds to the predictive power of regressions involving the investment/savings rate for the U.S. economy. Finally, international demographic changes have some power in explaining international capital flows.

On Prosperity and Posterity: The Need for Fiscal Discipline in a Monetary Union

We show how in a Blanchard-Yaari, overlapping generations framework, perfect substitutability of government bonds in Monetary Union tempts governments to exploit the enlarged common pool of savings. In Nash equilibrium all governments increase their bond financed transfers to current generations (prosperity effect) at the expense of future generations (posterity effect). The resulting deficit bias occurs even if one assumes that before Monetary Union countries had eliminated their deficit bias by designing appropriate domestic institutions. The paper provides a rationale for an increased focus on fiscal discipline in Monetary Union, without the need to assume imperfect credibility of existing Treaty provisions or to refer to extreme situations involving sovereign default. We draw on existing empirical evidence to argue that the degree of government bond substitutability within the European Monetary Union is an order of magnitude larger than in the global economy.

Macroeconomic Effects of Social Security Privatization in a Small Unionized Economy

This paper analyses the effects of a pension system privatization in a unionized economy. Using an overlapping-generations framework we show that in an environment characterized by unemployment, a reform towards a private pension system in the steady state may result in lower levels of employment and capital stock. In this case even if the privatization increases the welfare of all future generations, the reduction in the welfare of the elderly due to reduced pension benefits may be greater and a Pareto-improving transition to a private system may not be feasible. On the other hand, if the reform leads to higher employment then a Pareto-improving pension privatization scheme can be constructed.

Endogenous, Efficient Long‐Run Cyclical Unemployment, Endogenous Long‐Run Growth, and Division of Labor

The paper uses a dynamic equilibrium model to explain the concurrence of economic growth and business cycles. Introducing durable goods into a model with ex‐ante identical consumer–producers and economies of specialized learning‐by‐doing, the author shows that when job‐shifting costs, economies of specialized learning‐by‐doing, and trading efficiency are sufficiently large, a dynamic equilibrium with business cycles and unemployment might be Pareto superior to noncyclical growth patterns. Long‐run cyclical unemployment still exists when the credit market is imperfect. Extending the model into overlapping generations framework, the author shows that complete division of labor with business cycles would still occur in equilibrium.

Endogenous fluctuations in the demand for education

Abstract. Enrollment rates to higher education reveal a quite large variation over time which cannot be explained by productivity shocks alone. We develop a human capital investment model in an overlapping generations framework that features endogenous fluctuations in the demand for education. Agents are heterogeneous in their beliefs about future wage differentials. An evolutionary competition between the heterogeneous beliefs determines the fraction of the newborn generation having a certain belief. Costly access to information on the returns to education induces agents to use potentially destabilizing backward looking prediction rules. Only if previous generations experience regret about their human capital investment decisions, will agents choose a more sophisticated prediction rule that dampens the cycle. Access to information becomes key for stable flows to higher education.

Endogenous Fluctuations in the Demand for Education

Enrollment rates to higher education reveal quite large variation over time which cannot be explained by productivity shocks alone. We develop a human capital investment model in an overlapping generations framework that features endogenous fluctuations in the demand for education. Agents are heterogeneous in their beliefs about future wage differentials. An evolutionary competition between the heterogeneous beliefs determines the fraction of the newborn generation having a certain belief. Costly access to information on the returns to education induces agents to use potentially destabilizing backward looking prediction rules. Only if previous generations experience regret about their human capital investment decisions, agents will choose a more sophisticated prediction rule that dampens the cycle. Access to information becomes key for stable flows to higher education.

Determinants of Child Labour in Indian States: Some Empirical Explorations (19612–1991)

This paper attempts to examine the phenomenon of child labour in India by conducting a preliminary search for the factors which affect demand and supply of child labour. The incidence of child labour is firstly examined with respect to the socio economie characteristics including dernographic, educational and economie poverty variables. Factor analysis is then conducted to identify patterns of these variables with the incidence of child labour for Indian states using Census data. These possible relationships are formally modelled in an overlapping generations framework which derives two postulated models. The models are estimated using Kmenta’s pooled method which combines variations due to time and state specific factors. These results clearly indicate the presence of vicious and virtuous spirals consisting of the above factors for different states. The supply factors appear to dominate and their roles require further indepth examination

Modeling the economics of greenhouse gas abatement: An overlapping generations perspective

This paper analyzes the implications of using an overlapping generations model for simulating the effects of greenhouse gas abatement policies rather than the traditional approach based on an infinitely-lived agent. The overlapping generations framework has many appealing characteristics. In particular, by not aggregating different generations, it avoids imposing implicitly a social welfare function that discounts the utility of people living in the future. The results show that the costs of imposing a tax on CO 2 emissions are highly unequally distributed. Generations to be born a century from now stand to incur substantial losses while those alive in the near future will suffer much less and the current old may even experience a gain.

Dependent children and aged parents: funding education and social security in an aging economy

In the last few decades in the United States birth rates have declined and longevity has risen while productivity growth has slowed. Given such changes, the increasing burden of funding programs for the elderly is likely to shift resources away from the young and toward the elderly. This paper uses an overlapping generations framework to examine the effects of tax policies on an aging economy. We find that if the quality of the education system is sufficiently high then raising the education tax rate and subsequently lowering the social security tax rate enhances growth and welfare.

From Cronies to Professionals: The Evolution of Family Firms

We develop a dynamic model where each generation in a family can continue operating its inherited production technology or it could hire a professional to do the same. Though the professional is more qualified, his interests are not aligned with the interests of the family. In the context of an overlapping generations framework, we analyze how this tradeoff affects the evolution of the family firm. We find that family firms initially grow in size by accumulating capital and later professionalize their management after reaching a critical size.

Time-consistent linear taxation and redistribution in an overlapping-generations framework

We study time-consistent labour and capital income linear taxation using an infinite-horizon overlapping-generations model of a small open economy. Individuals have different productivities and the government intervenes for purely redistributive purposes. The study of time-consistent taxation requires the introduction of borrowing restrictions in the economy. We characterize the time-consistent solution and consider alternative solutions based on a simple tax rule. We demonstrate the existence and the uniqueness of the time-consistent solution using a log-linear utility function. We provide numerical comparisons between time-consistent and time-inconsistent linear taxation: the importance of being able to make commitment decreases when the differences between individuals increase. Copyright 2002, Oxford University Press.