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Exam
Date: February 6, 2014, 3:15 - 4:45 p.m., R712
Kt+1 = Kt (1 ) + Kt (At Lt )1 Gt Ct
C,
around the steady-state levels K, G and A.
Gt is govern-
ment spending in period t, Kt is the aggregate capital stock,
Lt denotes labor, Ct consumption, and At is the efficiency of
labor. (3 points)
(d) In the lecture, we discussed a search model of money and ob-
tained the following set of Bellman equations:
V (g) = (1 M )x2 (U + V (g))
+M x max {V (m) + (1 )V (g)}
[0,1]
+ 1 (1 M )x2 M x V (g)
2
Problem #2:
Consider a real business cycle model with full depreciation.The in-
L1+
stantaneous utility function is U (Ct , Lt ) = ln Ct t , where
1+
Ct denotes consumption and Lt denotes labor in period t. Param-
eter is strictly positive. Future utility is discounted by a fac-
tor with 0 < < 1. The production function is Cobb-Douglas
Yt = Zt Kt L1
t with 0 < < 1, where Zt = ln(Zt ) follows an
iid
AR(1) process: Zt = Zt1 + t . 0 < < 1, t N (0, 2 ) and
> 0. (16 points in total)
(a) Explain whether Zt satisfies the Markov property. (1 points)
(b) Formulate the sequential problem for the social planner.
(2.5 points)
(c) Write down the Euler equation, the first-order condition with
respect to labor and the transversality condition for the social
planners problem. (3 points)
(d) Now we turn to the recursive competitive equilibrium. Write
down the Euler equation and the first-order condition with re-
spect to labor. Explain these equations intuitively. (4 points)
(e) Show that the Euler equation from the social planners problem
is automatically satisfied in a recursive competitive equilibrium.
(3.5 points)
(f) Which method could be used to solve the social planners prob-
lem numerically if we were interested in large relative deviations
from steady-state values? Explain briefly. (2 points)