Daily Archives: July 16, 2012

Game Thoery and Macroeconomics

The increasing emphasis on micro-foundations in macroeconomics seems to have lead to modeling efforts incorporating strategic decision making at the individual level in a general equilibrium setting yielding interesting insights on important questions.  A couple of days at a workshop organized by the Center for Game Theory at the scenic Stony Brook university on the use of game theory in macroeconomics was indeed an enjoyable experience in this regard. Here is a peek at a few interesting papers from the workshop.

1. B Ravikumar et al, Unemployment Insurance Fraud and Optimal Monitoring:

How do you address the problem that the unemployment benefits overpaid because of fraud are more than ten times the overpayments due to insufficient search?  Ravikumar and his coauthors  study optimal monitoring of fraudulent behavior in a model of unemployment insurance and suggest an interesting optimal monitoring mechanism to avoid the overpayment .

2. Harold Cole et.al, Why does technology not flow to developing countries?

A very interesting approach to answering the question asked originally by Robert Lucas in his 1990 AER paper.  Cole and his coauthors concentrate on efficiency of financial system of a country as the factor determining technology adoption. They conduct a comparative analysis of technology adoption in the US, Mexico and India to help shed light on the question. They propose that “the ability of an intermediary to monitor and control the cash ‡flows of a fi…rm plays an important role in a fi…rm’s decision to adopt a technology“. This is where the efficiency of the financial system comes into play.  Based on this hypothesis, they develop a costly state verification model of venture capital where the position of a firm wishing to adopt a particular technology on the technology ladder is private information. An intermediary financing the adoption of technology for  such a firm has to incur positive costs for monitoring and where it cannot monitor, it has to develop incentive schemes to ensure successful running of the venture.  The model is then embedded in a general equilibrium framework and calibrated to the US, Mexico and Indian data for applied analysis.

3. Perri Fabrizio and Vincenzo Quadrini, International Recessions.

The recession following the recent financial crisis in the US is different than the ones before in many respects. One of them is that this recession seems to be internationally synchronized at least for the developed countries. How do we explain this synchronization? Perri develops a two-country model with financial market frictions where a credit tightening can emerge as a self-fulling equilibrium caused by pessimistic but fully rational expectations. As a result of the credit tightening, countries experience large and endogenously synchronized declines in asset prices and economic activity (international recessions). The model suggests that these recessions are more severe if they happen after a prolonged period of credit expansion.

4. Xavier Mateos-Planas and Victor Rios Rull, Credit Lines.

An interesting analysis of unsecured credit arising out of use of credit cards:

This paper develops a new quantitative theory of long-term unsecured credit contracts. Households can default and can switch credit lines. Banks can change the credit limit at any time, but must commit to the interest rate or not depending on the regulatory setting. Without commitment, the distribution of households over interest rates, credit limits and wealth matches observed patterns. We study the new regulatory rules in the U.S.credit card market which require a stronger commitment from banks not to raise interest rates discretionally. This results in tighter limits but lower interest rates, reduced indebtedness and lower default.

Overall it was a good food for thought and a much needed intellectual refreshment!

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Filed under game theory, macroeconomics