Timo Trimborn

Demographic Change and R&D-based Economic Growth: Reconciling Theory and Evidence

In recent decades, most industrialized countries experienced declining population growth rates caused by declining fertility and associated with rising life expectancy. We analyze the effect of continuing demographic change on medium- and long-run economic growth by setting forth an R&D-based growth model including an analytically tractable demographic structure. Our results show that, in response to demographic change, technological progress and economic growth accelerate in the medium run but slow down in the long run. Numerical investigation reveals that the time period during which technological progress and economic growth are faster than without demographic change can be very long. Since the theoretical predictions for the medium run are consistent with the negative association between population growth and economic growth found in the empirical literature, the present framework can reconcile R&D-based growth theory with the available empirical evidence.

Laffer strikes again: Dynamic scoring of capital taxes

We set up a neoclassical growth model extended by a corporate sector, an investment and finance decision of firms, and a set of taxes on capital income. We provide analytical dynamic scoring of taxes on corporate income, dividends, capital gains, other private capital income, and depreciation allowances and identify the intricate ways through which capital taxation affects tax revenue in general equilibrium. We then calibrate the model for the US and explore quantitatively the revenue effects from capital taxation. We take adjustment dynamics after a tax change explicitly into account and compare with steady-state effects. We find, among other results, a self-financing degree of corporate tax cuts of about 70–90% and a very flat Laffer curve for all capital taxes as well as for tax depreciation allowances. Results are strongest for the tax on capital gains. The model predicts for the US that total tax revenue increases by about 0.3–1.2% after abolishment of the tax.

The dark side of fiscal stimulus

The output multiplier turns negative before a deficit spending program expires. We show the generality of this unpleasant finding for the standard real business cycle model. We then calibrate an extended model for the US and demonstrate how fiscal stimulus slows down economic recovery from recession in the medium-run. We discuss the slowdown from recovery w.r.t. alternative assumptions about the size and persistence of the initial shock (severity of the recession), the assumed power of the impact multiplier, and the scale and duration of the stimulus program. We also show that results are quantitatively very similar independent from whether a recession was caused by an efficiency wedge (input-financing frictions) or a labor wedge (labor market frictions). Capital stock and output are always below their laissez-faire level of recovery when fiscal stimulus expires.

Quantifying Optimal Growth Policy

The optimal mix of growth policies is derived within a comprehensive endogenous growth model. The analysis captures important elements of the tax-transfer system and takes into account transitional dynamics. Currently, for calculating corporate taxable income US firms are allowed to deduct approximately all of their capital and R&D costs from sales revenue. Our analysis suggests that this policy leads to severe underinvestment in both R&D and physical capital. We find that firms should be allowed to deduct between 2-2.5 times their R&D costs and about 1.5-1.7 times their capital costs. Implementing the optimal policy mix is likely to entail huge welfare gains.

Laffer Strikes Again: Dynamic Scoring of Capital Taxes

We set up a neoclassical growth model extended by a corporate sector, an investment and finance decision of firms, and a set of taxes on capital income. We provide analytical dynamic scoring of taxes on corporate income, dividends, capital gains, other private capital income, and depreciation allowances and identify the intricate ways through which capital taxation affects tax revenue in general equilibrium. We then calibrate the model for the US and explore quantitatively the revenue effects from capital taxation. We take adjustment dynamics after a tax change explicitly into account and compare with steady-state effects. We find, among other results, a self-financing degree of corporate tax cuts of about 70–90% and a very flat Laffer curve for all capital taxes as well as for tax depreciation allowances. Results are strongest for the tax on capital gains. The model predicts for the US that total tax revenue increases by about 0.3–1.2% after abolishment of the tax.

Demographic Change and R&D-based Economic Growth

In the second half of the 20th century, most industrialized countries experienced declining fertility, rising life expectancy and a slowdown of population growth. Standard models of R&D-based growth predict that a decline in population growth reduces economic growth. We argue that this implication hinges on the assumption of infinitely lived individuals. The semi-endogenous growth model with overlapping generations that we propose implies a negative relationship between population growth and economic growth during a substantial part of the transitional dynamics if the decline in population growth is accompanied by an increase in life expectancy as observed in industrialized countries.

A NOTE ON VARIABLE CAPITAL UTILIZATION IN GROWTH AND BUSINESS CYCLE THEORY

It was always considered to be a major achievement of modern business cycle economics that it was solidly grounded in neoclassical growth theory. Preserving this joint foundation, however, imposes a discipline on the specification of models with variable capital utilization. In this note we show that conventional specifications of the depreciation cost of capital utilization and the labor supply elasticity, introduced into business cycle theory to generate a satisfactory amplification of shocks, entail counterfactual growth dynamics: the positive association between capital stock and GDP along the growth path turns negative. Across economies with access to the same technology, the economy with the lowest capital stock per capita is predicted to produce the highest output per capita. We compute lower and upper bounds for the involved elasticities between which these counterfactual dynamics are avoided.

Going from bad to worse: Adaptation to poor health, health spending, longevity, and the value of life

Aging humans adapt to their worsening state of health and old people are usually happier than estimated by young individuals. In this paper we investigate how adaptation to a deteriorating state of health affects health spending, life expectancy, and the value of life. We set up a a life cycle model in which individuals are subject to physiological aging, calibrate it with data from gerontology, and compare behavior and outcomes of adapting and non-adapting individuals. While adaptation generally increases the value of life (by about 2 to 5 percent), its impact on health behavior and longevity depends crucially on whether individuals are aware of their adaptive behavior.

Natural Disasters and Macroeconomic Performance: The Role of Residential Investment

Recent empirical research has shown that income per capita in the aftermath of natural disasters is not necessarily lower than before the event. In many cases, income is not significantly affected and surprisingly, can even respond positively to natural disasters. Here, we propose a simple theory based on the neoclassical growth model that explains these observations. Specifically, we show that GDP is driven above its pre-shock level when natural disasters destroy predominantly residential housing (or other durable goods). Disasters destroying mainly productive capital, in contrast, are predicted to reduce GDP. Insignificant responses of GDP can be expected when disasters destroy about equally residential structures and productive capital. We also show that disasters, irrespective of whether their impact on GDP is positive, negative, or insignificant, entail considerable losses of aggregate welfare.

Hyperbolic discounting can be good for your health

It has been argued that hyperbolic discounting of future gains and losses leads to time-inconsistent behavior and thereby, in the context of health economics, not enough investment in health and too much indulgence of unhealthy consumption. Here, we challenge this view. We set up a life-cycle model of human aging and longevity in which individuals discount the future hyperbolically and make time-consistent decisions. This allows us to disentangle the role of discounting from the time consistency issue. We show that hyperbolically discounting individuals, under a reasonable normalization, invest more in their health than they would if they had a constant rate of time preference. Using a calibrated life-cycle model of human aging, we predict that the average U.S. American lives about 4 years longer with hyperbolic discounting than he would if he had applied a constant discount rate. The reason is that, under hyperbolic discounting, experiences in old age receive a relatively high weight in life time utility. In an extension we show that the introduction of health-dependent survival probability motivates an increasing discount rate for the elderly and, in the aggregate, a u-shaped pattern of the discount rate with respect to age.