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Existence of bifurcation in macroeconomic dynamics: Grandmont was right

He, Yijun and Barnett, William A. (2006): Existence of bifurcation in macroeconomic dynamics: Grandmont was right.

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Abstract

Grandmont (1985) found that the parameter space of the most classical dynamic general-equilibrium macroeconomic models are stratified into an infinite number of subsets supporting an infinite number of different kinds of dynamics, from monotonic stability at one extreme to chaos at the other extreme, and with all forms of multiperiodic dynamics between.

But Grandmont provided his result with a model in which all policies are Ricardian equivalent, no frictions exist, employment is always full, competition is perfect, and all solutions are Pareto optimal. Hence he was not able to reach conclusions about the policy relevance of his dramatic discovery. As a result, Barnett and He (1999, 2001, 2002) investigated a Keynesian structural model, and found results supporting Grandmont’s conclusions within the parameter space of the Bergstrom-Wymer continuous-time dynamic macroeconometric model of the UK economy. That prototypical Keynesian model was produced from a system of second order differential equations. The model contains frictions through adjustment lags, displays reasonable dynamics fitting the UK economy’s data, and is clearly policy relevant. In addition, initial results by Barnett and Duzhak (2006) indicate the possible existence of Hopf bifurcation within the parameter space of recent New Keynesian models.

Lucas-critique criticism of Keynesian structural models has motivated development of Euler equations models having policy-invariant deep parameters, which are invariant to policy rule changes. Hence, we continue the investigation of policy-relevant bifurcation by searching the parameter space of the best known of the Euler equations general-equilibrium macroeconometric models: the Leeper and Sims (1994) model. We find the existence of singularity bifurcation boundaries within the parameter space. Although never before found in an economic model, our explanation of the relevant theory reveals that singularity bifurcation may be a common property of Euler equations models. These results further confirm Grandmont’s views.

Beginning with Grandmont’s findings with a classical model, we continue to follow the path from the Bergstrom-Wymer policy-relevant Keynesian model, to New Keynesian models, and now to Euler equations macroeconomic models having deep parameters.

Grandmont was right.

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