Fiscal Policy and Business Cycles: An Analysis of Imperfectly Competitive Macroeconomic Model
Date Issued
2012
Date
2012
Author(s)
Chang, Cheng-Wei
Abstract
When imperfect competition is introduced to a general equilibrium macroeconomic model, the market allocation mechanism ceases to be efficient. Since the mid-1980s, there have been a vast number of articles that have been discussed in the context of imperfectly competitive macroeconomic models. This thesis attempts to introduce the features of both industry organization and adjustment mechanisms to our analysis, and in so doing reviews how the business fluctuations and government policies are affected by the imperfectly competitive market structure. It is hoped that we can arrive at a better understanding of imperfectly competitive macroeconomic equilibrium models.
In the first essay, we introduce two features to our analysis. First, in line with the viewpoint of industry organization, we consider the feature of returns to production specialization. Second, we consider the congestion effect of the start-up cost. In the industry organization, the greater the number of firms, the greater is the cost of product differentiation. This implies that the cost of initial advertising to make consumers aware of a new brand is greater. By introducing these effects into our model, several main findings emerge from the analysis. First, we find that the necessary and sufficient condition for equilibrium indeterminacy is closely related to the extent of production specialization and the congestion effect of the start-up cost. Second, the effects of government spending on consumption and real wages depend on the extent of production specialization. Third, the output level of an individual firm is positively related to fiscal expansions, provided that the congestion effect of the start-up cost exists.
In the second essay, we suppose that the production technology for individual firms exhibits the feature of internal increasing returns to scale in imperfectly competitive industries. In line with the literature in the public finance field, we consider the role of productive government spending that is subject to the congestion effect. In addition, in order to clarify whether the crucial factor for the local indeterminacy is production specialization or monopoly power, we specify two distinct parameters to reflect the returns to production specialization and the degree of monopolistic competition. Equipped with these features, several interesting results are derived from our analysis. First, the necessary condition for equilibrium indeterminacy is independent of the monopoly power. Second, in the presence of proportional relative congestion, the equilibrium indeterminacy disappears even if productive government expenditures are incorporated. Third, when the production technology of a private firm possesses the feature of internal increasing returns, the possibility of the emergence of local indeterminacy is negatively related to the extent of the internal increasing returns to scale. Fourth, we adopt the parameters set in the existing RBC works, finding that under the situation where public services are subject to purely proportional absolute congestion, the output elasticity of capital is close to zero and the output elasticity of labor is close to one. This result is consistent with the empirical findings.
In the third essay, we analyze the optimal fiscal policies in the presence of consumption and production externalities and consider both the role of the extent of increasing returns to specialization and the role of internal increasing returns to scale. By introducing three differential types of adjustment mechanisms, several main findings emerge. First, if both consumption and income taxes are available to the government, the consumption tax should be utilized to correct consumption externalities and the income tax should be utilized to remedy production externalities. Second, the inclusion of three different types of adjustment mechanism plays an important role in governing the implementation of optimal income taxes. Third, the optimal ratio of government expenditure is solely determined by the extent of production externalities if the number of firms is constant, while the result should be modified if the free entry and exit of firms is brought into the picture. Fourth, free entry in the competitive equilibrium may result in under entry, provided that the degree of increasing returns to specialization is sufficiently strong.
Subjects
Imperfect competition
Indeterminacy
Fiscal policy
Externalities
Business cycles
SDGs
Type
thesis
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