Formulation, Estimation and Policy Analysis with Dynamic, Stochastic General Equilibrium Models


By Lawrence J. Christiano




The objective is to review the basic New Keynesian model and the extensions that are currently under development. The course is aimed at a broad audience, including people actively doing research with DSGE models, as well as people interested in seeing what these models are about and what they are used for. There will be afternoon homework sessions, which are not required to follow the lectures. The purpose of the homework sessions is to give students hands-on experience solving, estimating and analyzing the models discussed in lectures. We will use the software, Dynare version 4, to do the computations, though no experience with Dynare will be assumed. 




Introductory remarks. 

1)    The consensus, medium sized New Keynesian (NK) DSGE model.

2)    Introducing financial frictions into the NK Model.

a)    Microfoundations for the Costly State Verification (CSV) Approach to Financial Frictions.

b)    Integrating CSV into an NK model and the results of Bayesian estimation of the model using US and EA data.

a)    (Very) brief additional discussion:

i)        CSV in a Small Open Economy Model and CSV in model with risky banking. (Discussion based on papers by Zeng and by Hirakata, Sudo and Ueda.)

ii)    An alternative approach to financial frictions: Two-period financial friction model of Gertler-KiyotakiHandout

3)    Introducing unemployment into the NK Model

a)    Two approaches requiring minimal changes: Christiano-Trabandt-Walentin and Gali.

b)    Alternative approaches based on search and matching.

4)    Implications of the zero lower bound on the nominal rate of interest: The deflation spiral, the government spending multiplier, quantitative analysis of the role of the zero bound in US data, 2008 and 2009, and other topics…. 


5)    Monetary policy and asset prices.

a)    News and inflation targeting.

b)    Using Ramsey optimal policy as a benchmark for evaluating a policy rule. 



Afternoon Sessions

 Apart from giving students hands-on experience with the quantitative analysis of models, the three homework exercises allow us to discuss the following topics: 

1)    The Taylor principle

a)    The rationale for the principle in the standard NK model.

b)    Circumstances when things can go awry with the Taylor principle:

i)       An important working capital channel.

ii)    News shocks.

2)    Ramsey equilibrium: interpretation of ‘inflation targeting’ and a benchmark for policy analysis.

3)    The HP filter as a way to estimate the output gap.

4)    Bayesian estimation of a model.


Assignment #7

Relevant background:

Review of log-linearization strategy for solving models.

News about future technology shocks.

Section 3, Handbook chapter (see below).


Text for distribution:

code to be placed on a subdirectory with name assignment7:


Assignment #8

Relevant background:

The pdf file contained in the following zip file should be available in hard copy. The zip file itself should be placed in a directory labeled assignment8

The following text should be distributed as hard copy:


Assignment #9 

The text for this assignment should be distributed in hard copy, and it is the pdf file in the following zip file:

The zip file should be placed in a folder labeled assignment#9


Background readings


The main reference for the course is my chapter with Trabandt and Walentin, in the forthcoming Handbook of Monetary Economics, edited by Friedman and Woodford.


 Christiano, Trabandt and Walentin, Involuntary Unemployment in a Business Cycle Model


Financial Frictions:

Bernanke, Gertler and Gilchrist’s classic 1999 paper.

Christiano, Motto, Rostagno (2003): Using the BGG model to analyze the cause of the US Great Depression, and the reason it lasted so long.

Christiano, Motto, Rostagno (2009): Using the BGG model to understand the causes of economic fluctuations in the EA and the US.

Christiano, Trabandt and Walentin (2009): Financial and labor market frictions in a small open economy model of Sweden. (Handout)


Government spending and the zero bound: 

Christiano, Eichenbaum and Rebelo (2009) When is the Government Spending Multiplier Large?