Part I: Foundations
We present the main theoretical tools used by macroeconomists. Chapters 1-8 are written by the core authors.
Dynamic Optimization
Presents the mathematical tools of dynamic optimization that are heavily used in most macroeconomic modeling. Particular emphasis is placed on infinite horizon models and dynamic programming using recursive methods. We introduce the Neoclassical Growth Model building on the Solow model from the previous chapter.
Empirical strategies and quantitative macroeconomics
This chapter gives an overview of the methods that macroeconomists use to interpret data, evaluate theoretical models, and construct quantitative descriptions of the economy. We pay particular attention to calibration as a widely used technique in quantitative macro: we describe its relationship to structural estimation and we discuss the considerations in using micro-founded models as opposed to statistical models.
Tools
This chapter is a supplementary chapter that presents basic mathematical and computational “tools” that were not covered in the earlier chapters. The first half of the chapter explains continuous-time mathematical techniques that will be used in Chapter 12. The second half covers basic computational tools. Computation is an essential part of modern macroeconomic research, and this part is especially relevant to Chapter 13.
Consumption
by Gianluca Violante
The data show that for most consumers their level of consumption is very sensitive to changes in income and insensitive to changes in interest rates. The basic theory of consumption presented in Part I has the opposite prediction. This chapter therefore presents a richer model of consumption that better aligns with the facts.
Growth
by Timo Boppart and Pete Klenow
There has been steady income growth in advanced economies since the Industrial Revolution and there are now large differences in average income across countries. These facts have huge importance to human welfare, what explains them? A first set of explanations hinges on the accumulation of more materials and tools and working harder. The chapter explains that these forces can only explain a small part of the facts. The accumulation of knowledge is key and the chapter presents the standard framework for modeling investments in knowledge.
Government and Public Policies
by Marina Azzimonti, Jonathan Heathcote, and Kjetil Storesletten
To this point the book has said little about the role of government in the economy despite the fact that governments control a large fraction of the resources in many economies. This chapter describes the tradeoffs governments face when raising tax revenues and describes the theory of optimal taxation.
Asset Prices
by Monika Piazzesi and Martin Schneider
On the whole, the volatility of asset prices is surprisingly high and even despite this the average returns to risky assets exceeds those on safe assets by a surprisingly large amount. This chapter introduces the core theories of asset pricing and explains how they relate to these patterns in the data.
Nominal Frictions and Business Cycles
by Alisdair McKay and Morten Ravn
Empirically, changes in the money supply lead to changes in the level of economic activity. In this chapter we develop the workhorse New
Keynesian model of business cycles that is used to understand the effects of monetary policy and its use as a stabilization tool.
Credit Market Frictions
by Vincenzo Quadrini
Large collapses in economic activity, such as the Great Depression or the Global Financial Crisis of 2008, are often associated with problems in credit markets. This chapter extends our analysis of the economy to incorporate frictions in borrowing and lending relationships, which allows us to understand how credit market problems degrade economic performance
Frictional Labor Markets
by Toshihiko Mukoyama and Aysegul Sahin
One of the most-often cited macroeconomic statistics is the unemployment rate. Moreover, unemployment spells can have important consequences for the welfare of individual workers. Understanding this important topic requires moving beyond the frictionless labor market model we started from in order to explain why some individuals are able and willing to work yet remain unemployed.
Heterogeneous Firms
by Toshihiko Mukoyama
Much like households are heterogeneous, firms too are vastly different in the number of workers they employee and the amount of capital they control. This chapter presents facts on the distribution of firms and discusses the reasons that this heterogeneity among firms may or may not matter for the performance of the aggregate economy.
International Macro
by Giancarlo Corsetti, Luca Dedola, and Simon Lloyd
This chapter explains how two or more economies interact with each other by trading goods and financial assets. How much do countries borrow from one another? What determines the exchange rate between their currencies and between their purchasing powers?
Emerging Markets
by Juan Carlos Hatchondo and Leo Martinez
This chapter explains how the circumstances and economic performance of emerging economies differs from advanced economies. Emerging economies face particular challenges and opportunities including a different sets of government institutions, greater difficulty in borrowing abroad, and perhaps greater exposure to volatile commodity prices. The chapter pays particular attention to understanding the causes and consequences of sovereign default.
Sustainability
by John Hassler, Per Krusell, Conny Olovsson
Climate change could very likely be the most consequential macroeconomic issue of the twenty-first century. This chapter presents facts on carbon emissions and warming and then introduces a macroeconomic model that draws a link from economic activities to carbon emissions to warming. Such a model allows for the analysis of public policies aimed at reducing emissions.