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This chapter introduces the long-run structural approach to modelling. It makes brief comparisons with the key alternative approaches, namely large-scale simultaneous equation models, unrestricted and structural VARs, dynamic stochastic general equilibrium models, and New Keynesian models. The strengths of the long-run structural modelling approach are summarized and the organization of the book is described.

This chapter proves that there exists a sequence of equilibrium prices in a general equilibrium model in which markets meet successively over several periods. The general equilibrium model is that of a pure exchange economy, whereby each consumer receives an endowment vector of the goods available in the economy at the beginning of each period. The endowment vectors are determined in a random manner in each period as a function of the endowment of the preceding period. Such an equilibrium sequence of prices is known as a Markovian equilibrium. This chapter also analyses the existence of equilibria in which the households use such Markov decision rules to determine the amount of consumption and the purchase of capital assets in each period. Finally, it examines the efficiency and welfare properties of these equilibria.

A computable general equilibrium (CGE) model is developed to examine the impact of international trade on the labour market. The model confirms the general conclusion that the effects of trade on labour demand or relative wages are small. It is argued that the ‘mainstream’ empirical trade model, of which the CGE model is one version, is unsuitable for providing accurate estimates of the labour market effects of trade, because its structure does not provide an appropriate model of either the skill endowments of the economy or the skill intensity of production.

A core topic of current economic research (and policy debate) is the evaluation of social security systems and their possible reforms. Shows how models of social security can be computed in economies where agents have uncertain lifespans and earnings profiles. In particular, it shows how to solve stationary equilibria and (within a linear quadratic formulation) how to solve transitional equilibria, such as the transition following a reform of the system. The two main sections of the chapter present: a model of social security with heterogeneous agents, which is related to several recent large‐scale general equilibrium, overlapping generations models; and a linear quadratic model of social security. These are both versions of an overlapping generations model with incomplete markets, and both assume that private annuity markets are missing, but they differ in their preference structures and certain other respects.

The aim of this chapter is to acquaint researchers in the field of international business with recent research in the field of international trade, which is beginning to incorporate aspects of international business and multinational firms into the general‐equilibrium trade models that are the tools of analysis of international trade. The typical endogenous variables in general‐equilibrium trade models are described, and a simple knowledge‐capital model of the multinational enterprise (MNE) is presented. This model offers testable hypotheses about the relationship between the pattern of multinational investment and country characteristics. Some empirical results are presented from the model, which incorporate these hypotheses. The results indicate that the model should be useful for policy analysis and positive analysis of MNEs.

This chapter will critically examine today’s common ways to build equilibrium models. These specifically include Dynamic-Stochastic General Equilibrium models, game theoretical models and empirical GE models. Each of these types of equilibrium model try to address the issues of how a model’s decision makers get the information needed to guarantee the attainment of a state of equilibrium. The chapter addresses the alleged limits of general equilibrium models (particularly the issues of dynamics, time and expectations), the current attempts to overcome the limits of general equilibrium models, and three empirical alternatives to Walrasian general equilibrium models. These alternatives include the Computable General Equilibrium models and the Applied General Equilibrium models. The third model involves building econometric models only after evaluating the statistical properties of the data before using them in the model.

This chapter analyzes an equilibrium model where privately owned firms feature either smooth decreasing or constant returns to scale. Profit of the constant returns to scale firms being equal to zero at equilibrium, the equilibrium of the model does not depend on the ownership structure of these firms. In addition, the convex conical production sets of these firms sum up into a convex cone. It is as if the production sector operating under constant returns consists of a unique firm. The general equilibrium model with decreasing and constant returns to scale firms is essentially the same model as the one considered in Chapter 10 with the addition of a unique firm operating under constant returns to scale. Nevertheless, this addition is enough to hamstring the approach of the preceding chapters based on the concept of price system that equates aggregate supply and demand. The solution is to add to that price system the activity of the constant returns to scale firm.

This chapter begins with a brief discussion of the topicality of the standard model. The general equilibrium model studied in this book, a model that we can call the standard model, offers us a description of modern economies with their competitive markets and firms that is sufficiently general to be economically relevant without being too complex to make its study intractable. Many simpler models exist, but their relevance is doubtful at best because those models are too simplistic. The chapter then discusses other ways to extract information from an equation system and the application of the standard model to second-generation general equilibrium models.

This chapter presents a general equilibrium model to theoretically examine the activities of the informal sector in dual economy labour markets. By linking the unorganized sector to the organized sector through aspects of capital mobility and labour productivity, it estimates and theorizes in more formal ways the effects of reforms on the wages and employment status of workers in the informal sector. It establishes via rigorous general equilibrium models that trade liberalization in the formal sector can raise both employment and wages in the informal sector if capital is easily mobile between the two sectors. Even if capital is sticky, downsizing of the capital-intensive import-competing sector may lead to increased output in the labour-intensive informal segment and an increase in informal wages. The issue of capital mobility thus takes on an important role in shaping the magnitude and directionality of informal wages subject to exogenous policy changes in the organized sectors of an economy.

A number of numerical methods are discussed for solving dynamic stochastic general equilibrium models that fall within the common category of discrete state‐space methods. These methods can be applied in situations where the state space of the model in question is given by a finite set of discrete points; in these cases the methods provide an ‘exact’ solution to the model in question. However they are frequently applied in situations where the model's state space is continuous in which case the discrete state space can be viewed as an approximation to the continuous state space. Discrete state‐space methods are discussed in the context of two well‐known examples: a simple one‐asset version of Lucas's (1978) consumption‐based asset pricing model and the one‐sector neoclassical growth model. The discussion does not aim to exhaust the list of possible discrete state‐space methods as they are very numerous; rather it describes several examples that illustrate the basic principles involved. The main sections of the chapter describe the basic principles of numerical quadrature underlying most discrete state‐space methods, show how they can be applied in a very straightforward way to problems in which the state space consists entirely of exogenous state variables, and describe methods that can be used when there are endogenous state variables. The last section notes the several files associated with the chapter for use with MATLAB.

The U.S. statutory corporate income tax rate is now the highest in the world among industrialized countries, and has sparked many proposals for reform. In this chapter, John Diamond, George Zodrow, Thomas Neubig, and Robert Carroll use a dynamic, overlapping generations, computable general equilibrium model that includes an imperfectly competitive sector that earns above-normal returns, international capital flows, and income shifting to simulate the macroeconomic effects of various reforms of the corporate income tax. They consider base-broadening, rate-reducing reforms that are financed through (1) the elimination of a wide range of business tax expenditures, (2) a wage tax increase, and (3) a reduction in government spending. Their model simulation results suggest that reforms that finance rate reduction with the elimination of all business tax expenditures may reduce investment and GDP, while alternative reforms that retain many investment incentives or finance rate reduction with wage tax increases or cuts in government transfers are more likely to result in long run increases in investment and GDP.

The exchange model is the simplest of all general equilibrium models. Studying it will show us the directions to follow when studying more complex models like those that include production or take explicitly into account time and uncertainty. This chapter introduces the exchange model defined by the equilibrium manifold and the natural projection. It presents proof that the equilibrium manifold is indeed a smooth manifold. The smooth manifold structure implies that the natural projection is a smooth map. In terms of comparative statics, this tells us that equilibrium prices can be considered as depending linearly on the fundamentals defining an economy in sufficiently small neighborhoods of regular equilibria.

Section 1 of this chapter investigates whether RTAs have led to increased regionalization of world trade. Section 2 reports on studies using CGE models to identify gainers and losers from the spread of RTAs as opposed to non‐discriminatory trade liberalization. Section 3 draws conclusions, emphasizing that the problem for all empirical work on RTAs is our poor knowledge of elasticities of substitution between imports from different sources.

This chapter discusses an approach to the study of the general equilibrium model with private ownership of smooth production with decreasing returns by adjusting consumers’ individual demand functions for production. The “exchange model” defined by these production adjusted demand functions is then shown to be equivalent to the original general equilibrium model with private ownership of production. The production adjusted demand functions are very close to satisfy the properties considered in the first part of this book, properties that guarantee that the main properties of the exchange model are satisfied. As a result, the general equilibrium model with private ownership of smooth production with decreasing returns features exactly the same properties as the standard smooth exchange model.