This paper links the two fields of “development traps” and “brain drain”. We construct a model which integrates endogenous international migration into a simple growth model. As a result the dynamics of the economy can feature some underdevelopment traps: an economy starting with a low level of human capital can be caught in a vicious circle where low level of human capital leads to low wages, and low wages leads to emigration of valuable human capital. We also show that our model displays a rich array of different dynamic regimes, including the above traps, but other regimes as well, and we link explicitly the nature of the regimes to technology and policy parameters.

It is often believed that governments should either abstain from leading activist policies, or if they lead such policies, that these policies should somehow be “stabilizing”, in the sense of reducing the volatilities of some endogenous variables. We construct a model with explicit foundations where the optimal policies are activist, and they make both employment and output more volatile than in the no intervention case.

This article studies a new class of models which synthesize the two traditions of general equilibrium with nonclearing markets and imperfect competition on the one hand, and dynamic stochastic general equilibrium (DSGE) models on the other hand. This line of models has become a central paradigm of modern macroeconomics for at least three reasons: (a) it displays solid microeconomic foundations, (b) it is a highly synthetic theory, which combines in a unified framework general equilibrium, nonclearing markets, imperfect competition, growth theory and rational expectations, (c) it is also an empirical success, leading to substantial progess towards matching real world statistics. ∗To appear in the New Palgrave Dictionary of Economics, Macmillan, Second Edition. †Address: CEPREMAP-ENS, 48 Boulevard Jourdan, Bâtiment E, 75014, Paris, France. Telephone: 33-1-43136338. Fax: 33-1-43136232. E-mail: benassy@pse.ens.fr 1 ha ls hs -0 05 90 43 3, v er si on 1 3 M ay 2 01 1 This article studies a new class of models which synthesize the two traditions of general equilibrium with nonclearing markets and imperfect competition on the one hand, and dynamic stochastic general equilibrium (DSGE) models on the other hand. Although this line of models is still recent, it has clearly become in a short time a central paradigm of modern macroeconomics. The reasons are at least threefold. The first is that it displays solid microeconomic foundations. This is quite natural since from the two constituent fields above this one inherited a strong general equilibrium framework where all agents (households or firms) maximize their respective objectives subject to well defined constraints. The second is that it is a highly synthetic theory, which combines in a unified framework general equilibrium, nonclearing markets, imperfect competition, growth theory and rational expectations, so that it can appeal to macroeconomists with very different backgrounds. The third reason is empirical. A key motivation for DSGE models is to compare the “statistics” generated by these models with the real world ones. In that respect the addition of nonclearing markets and imperfect competition has led to substantial progress in matching these statistics, and this has certainly been an important factor in the success of these models. Now such a wide synthesis did not come all at once. So we shall begin by recalling briefly a little history and some of the antecedents of the field. We then present a series of models with explicit solutions. These will demonstrate analytically how the introduction of non clearing markets allows to substantially improve the ability of DSGE to reproduce a number of macroeconomic facts. 1 History 1.1 Early times At the time when many of the developments leading to these models were initiated, there was a profound split between microeconomics and macroeconomics. On the one hand microeconomics, in its general equilibrium version, was dominated by Walras’ (1874) model, as developed by Arrow-Debreu (1954), Arrow (1963), and Debreu (1959). In these models all adjustments are carried out via fully flexible prices, and agents never experience any quantity constraint. On the other hand in the standard macroeconomic model in 2 ha ls hs -0 05 90 43 3, v er si on 1 3 M ay 2 01 1 the Keynes (1936) and Hicks (1937) tradition, as exemplified by the IS-LM model, there are price and wage rigidities, unemployment is present and most adjustments are carried out through variations in real income, a quantity, not a price. Confronted with this inconsistency, the strategies of macroeconomists turned out to be quite diverse and they took two different routes. 1.2 General equilibrium with nonclearing markets On the one hand a first set of authors aimed at achieving a synthesis between the then existing microeconomics and macroeconomics. This was achieved by generalizing the traditional general equilibrium model, by introducing nonclearing markets, introducing quantity signals into demand and supply functions, and endogenizing prices in a framework of imperfect competition. Patinkin (1956) and Clower (1965) showed that the presence of quantity constraints in nonclearing markets would drastically modify the demands for labor and goods, an insight further emphasized by Leijonhufvud (1968). Barro and Grossman (1971, 1976) combined these insights into a fixprice macromodel. Drèze (1975) and Bénassy (1975, 1982) constructed full general equilibrium concepts with price rigidities, where price movements are partially replaced by endogenous quantity constraints. Bénassy (1976) linked these concepts with general equilibrium under imperfect competition à la Negishi (1961). This link was furthered with the construction of a full general equilibrium concept of objective demand curve based on quantity constraints (Bénassy 1988. See also Gabszewicz and Vial, 1972, for a Cournotian view). All these developments are reviewed in the dictionary entry “Nonclearing markets in general equilibrium”. 1.3 Dynamic market clearing macroeconomics A second set of authors achieved consistency between microeconomics and macroeconomics by importing into macroeconomics the basic assumption of the then dominant general equilibrium microeconomic models, market clearing. At the same time they paid strong attention to the issues of dynamics and expectations. A central part of these developments was the use of “rational expectations” in the sense of Muth (1961). This was an important addition, as in the Keynesian system it was sometimes difficult to disentangle the results due to price or wage rigidity from those due to incorrect expectations. 3 ha ls hs -0 05 90 43 3, v er si on 1 3 M ay 2 01 1 Rational expectations allowed the suppression of the second type of results. It appeared also that, even with rational expectations and market clearing, it was possible to build rigorous models displaying fluctuations (Lucas, 1972, Kydland and Prescott, 1982, Long and Plosser, 1983). 1.4 Non Walrasian cycles Starting in the mid-eighties authors began combining elements of the two paradigms described above, achieving the synthesis that is the subject of this article. Svensson (1986) studies a dynamic stochastic general equilibrium monetary economy subject to supply and demand shocks. Prices are preset one period in advance by monopolistically competitive firms, so we have both imperfect competition and sticky prices. Because of price presetting the model has multiple regimes. Various types of rigidities have been then introduced in dynamic models, leading to different patterns of cycles. Andersen (1994) reviews various causes and consequences of price and wage rigidities. A first type of rigidities is “real” rigidities, which create an endogenous noncompetitive wedge between various prices. As an example, monopolistic competition à la Dixit-Stiglitz (1977) introduces a markup between marginal cost and price. In this class Danthine and Donaldson (1990) introduce efficiency wages, Danthine and Donaldson (1991, 1992) introduce implicit contracts in the vein of Azariadis (1975), Baily (1974) and Gordon (1974). Rotemberg and Woodford (1992, 1995) study imperfect competition. Models with nominal rigidities study situations where the nominal prices themselves (and not relative prices) are sluggish. Several devices have been used. The first, following the early works on wage and price contracts by Gray (1976), Fischer (1977), Phelps and Taylor (1977), Taylor (1979, 1980) and Calvo (1983), assumes that there is a system of contracts expiring at deterministic or stochastic dates. For that reason they are called ‘time dependent”. Such contracts have been integrated in DSGE models by Cho (1993), Cho and Cooley (1995), Bénassy (1995, 2002, 2003a,b), Yun (1996), Cho, Cooley and Phaneuf (1997), Andersen (1998), Jeanne (1998), Ascari (2000), Chari, Kehoe and McGrattan (2000), Collard and Ertz (2000), Ascari and Rankin (2002), Huang and Liu (2002), Smets and Wouters (2003) and Christiano, Eichenbaum and Evans (2005), to name only a few. Another type of price rigidity, called “state dependent”, is based on costs of changing prices. Two specifications are favorite in the literature: quadratic 4 ha ls hs -0 05 90 43 3, v er si on 1 3 M ay 2 01 1 costs of changing prices (Rotemberg, 1982a,b), which have been implemented, for example, in Hairault and Portier (1993), and fixed costs of changing prices (Barro, 1972), often renamed “menu costs”. Clearly these costs should be interpreted as surrogates for other unspecified causes, and identifying these causes is a challenge that faces this line of research. Now most of the contributions of this field are based on numerical evaluations of various models. So we shall present next a number of models with explicit solutions which will make clear why this line of models has been successful in solving problems that were difficult to solve in market clearing models. 2 An analytical illustration We shall now show in this section in a series of explicitly solved models how the introduction of nominal rigidities in DSGE models allows to considerably improve the capacities of these models to reproduce the dynamic evolutions of actual economies. We first present a basic model and compute as a reference its Walrasian equilibrium and dynamics. Then we introduce a first nominal rigidity, oneperiod wage contracts. This improves some correlations, but cannot create strong persistence as in reality. We next introduce multiperiodic wage contracts, and show that this allows to obtain a persistent response of output to demand shocks. Finally simultaneous rigidities of wages and prices are considered, and we show that one can obtain in this way with fairly realistic values of the parameters a persistent and humpshaped response of both output and inflation. 2.1 The basic model We shall study a dynamic monetary economy à la Sidrauski (1967) and Brock (1975), where goods are exchanged against money at

AbstractThis book is a primer in macroeconomics. It starts from essential macroeconomics and develops the central topics of modern macroeconomic theory in a simple and rigorous manner. Topics covered include rational expectations, intertemporal dynamic models, exogenous and endogenous growth, nonclearing markets and imperfect competition, uncertainty, and money. The book also covers real business cycles and dynamic stochastic general equilibrium models, integrating growth and fluctuations, sticky wages and prices, consumption and investment, and unemployment. Lastly, it studies government policy, stabilization, credibility, and the connections between politics and the macroeconomy. Each topic is presented in the simplest model possible while still delivering the relevant answers and keeping rigorous foundations throughout the book.

Abstract This chapter relates macroeconomics to the political economy. It describes Kenneth Arrow’s “impossibility theorem” regarding voter preferences during elections and explains the theorem’s notion that there is no aggregation procedure which always satisfies a number of natural conditions. It describes the “median voter” model where aggregation is possible, and applies the model to the political economy subject of voting on redistribution. It investigates how adding a random element affects preferences. It also explains how political instability, with regard to the changing of majority, leads to budget deficits.

Nous construisons dans cet article un modèle macroéconomique de chômage avec concurrence imparfaite (basée sur des courbes de demande objectives) et anticipations rationnelles, et nous en étudions les caractéristiques, dans le but notamment de les comparer à celles des modèles macroéconomiques keynésiens et walrasiens habituels. On voit tout d’abord que l’équilibre du modèle a des propriétés d’inefficacité et de sous-emploi des ressources (notamment du travail) très semblables à celles d’un équilibre keynésien à prix rigides et excès d’offre généralisé. Malgré cela un accroissement proportionnel de la quantité de monnaie est neutre, tout comme dans un modèle walrasien. Finalement on trouve que les recommandations normatives quant aux dépenses publiques ne sont ni keynésiennes, ni walrasiennes.

A well‐known determinacy condition on interest rate rules is the “Taylor principle,” which states that nominal interest rates should respond more than 100 percent to inflation. Unfortunately, notably because interest rates must be positive, the Taylor principle cannot be satisfied for all interest rates, and as a consequence global determinacy may not prevail even though there exists a locally determinate equilibrium. We propose here a simple alternative to the Taylor principle, which takes the form of a new condition on interest rate rules that ensures global determinacy. An important feature of the policy package is that it does not rely at all on any of the fiscal policies associated with the “fiscal theory of the price level,” which has so far been the main alternative for determinacy.

In this article we study models with non-clearing markets in a full general equilibrium framework. The theories we describe synthesize three major schools of thought, Walrasian, Keynesian and imperfect competition. This synthesis is notably achieved by introducing quantity signals in addition to price signals into the traditional general equilibrium model. This considerably enlarges the scope of traditional general equilibrium, allowing us not only to construct equilibria with various price rigidities but also to endogenize prices in a decentralized imperfect competition framework.

This article studies a new class of models which synthesize the two traditions of general equilibrium with non-clearing markets and imperfect competition on the one hand, and dynamic stochastic general equilibrium (DSGE) models on the other hand. This line of models has become a central paradigm of modern macroeconomics for at least three reasons: (a) it displays solid microeconomic foundations, (b) it is a highly synthetic theory, which combines in a unified framework general equilibrium, non-clearing markets, imperfect competition, growth theory and rational expectations, and (c) it is also an empirical success, leading to substantial progress towards matching real world statistics.

An important recent advance in macroeconomics is the development of dynamic stochastic general equilibrium (DSGE) macromodels. The use of DSGE models to study monetary policy, however, has led to paradoxical and puzzling results on a number of central monetary issues including price determinacy and liquidity effects. In Money, Interest, and Policy, Jean-Pascal Bénassy argues that moving from the standard DSGE models – which he calls "Ricardian" because they have the famous "Ricardian equivalence" property–to another, "non-Ricardian" model would resolve many of these issues. A Ricardian model represents a household as a homogeneous family of infinitely lived individuals, and Bénassy demonstrates that a single modification–the assumption that new agents are born over time (which makes the model non-Ricardian)–can bridge the current gap between monetary intuitions and facts, on one hand, and rigorous modeling, on the other.After comparing Ricardian and non-Ricardian models, Bénassy introduces a model that synthesizes the two approaches, incorporating both infinite lives and the birth of new agents. Using this model, he considers a number of issues in monetary policy, including liquidity effects, interest rate rules and price determinacy, global determinacy, the Taylor principle, and the fiscal theory of the price level. Finally, using a simple overlapping generations model, he analyzes optimal monetary and fiscal policies, with a special emphasis on optimal interest rate rules.

We construct a dynamic general equilibrium model which displays the central features of the IS–LM model, and notably an income multiplier greater than one, so that crowding out does not occur. A key to this result is the conjunction of two features: price rigidities (as is usually expected), but also a non-Ricardian economy.

Inflation is often given the central role in discussions of monetary policy. Is this emphasis warranted? We investigate this in a DSGE model and find: (1) One can implement the optimal interest rate policy using only employment as an instrument, (2) using inflation as an instrument would lead to lower utility. (c) 2007 Elsevier B.V. All rights reserved.

An important recent advance in macroeconomics is the development of dynamic stochastic general equilibrium (DSGE) macromodels. The use of DSGE models to study monetary policy, however, has led to paradoxical and puzzling results on a number of central monetary issues including price determinacy and liquidity effects. In Money, Interest, and Policy, Jean-Pascal Benassy argues that moving from the standard DSGE models--which he calls because they have the famous equivalence property--to another, model would resolve many of these issues. A Ricardian model represents a household as a homogeneous family of infinitely lived individuals, and Benassy demonstrates that a single modification--the assumption that new agents are born over time (which makes the model non-Ricardian)--can bridge the current gap between monetary intuitions and facts, on one hand, and rigorous modeling, on the other.After comparing Ricardian and non-Ricardian models, Benassy introduces a model that synthesizes the two approaches, incorporating both infinite lives and the birth of new agents. Using this model, he considers a number of issues in monetary policy, including liquidity effects, interest rate rules and price determinacy, global determinacy, the Taylor principle, and the fiscal theory of the price level. Finally, using a simple overlapping generations model, he analyzes optimal monetary and fiscal policies, with a special emphasis on optimal interest rate rules.

We show that Keynesian multiplier effects can be obtained in dynamic optimizing models if one combines both price rigidities and a “non-Ricardian” framework where, due for example to the birth of new agents, Ricardian equivalence does not hold.

The purpose of this article is to characterize optimal interest rate rules in the framework of a dynamic stochastic general equilibrium model, and notably to scrutinize the "Taylor principle", according to which the nominal interest rate should respond more than one for one to inflation. This model yields explicit solutions for the optimal rule. We find that the elasticity of response depends on numerous factors, such as the degree of price rigidity, the autocorrelation of the underlying shocks, or which measure of inflation is used. In general the optimal elasticity of the interest rate with respect to inflation needs not be greater than one.