A Redux of the Workhorse NOEM Model with Capital Accumulation and Incomplete Asset Markets

180 Pages Posted: 9 Dec 2013

See all articles by Enrique Martínez-García

Enrique Martínez-García

Federal Reserve Bank of Dallas - Research Department

Multiple version iconThere are 2 versions of this paper

Date Written: February 1, 2011

Abstract

I build a symmetric two-country model that incorporates nominal rigidities, local-currency pricing and monopolistic competition distorting the goods markets. The model is similar to the framework developed in Martínez-García and Søndergaard (2008a, 2008b), but it also introduces frictions in the assets markets by restricting the financial assets available to two uncontingent nominal bonds in zero-net supply and by adding quadratic costs on international borrowing (see, e.g., Benigno and Thoenissen (2008) and Benigno (2009). The technical part of the paper contains three basic calculations. First, I derive the equilibrium conditions of the open economy model under local-currency pricing and incomplete asset markets. Second, I compute the zero-inflation (deterministic) steady state and discuss what happens with a non-zero net foreign asset position. Third, I derive the log-linearization of the equilibrium conditions around the deterministic steady state. The quantitative part of the paper aims to give a broad overview of the role that incomplete international asset markets can play in accounting for the persistence and volatility of the real exchange rate. I find that the simulation of the incomplete and complete asset markets models is almost indistinguishable whenever the business cycle is driven primarily by either non-persistent monetary or persistent productivity (but not permanent) shocks. In turn, asset market incompleteness has more sizeable wealth effects whenever the cycle is driven by persistent (but not permanent) investment-specific technology shocks, resulting in significantly lower real exchange rate volatility.

Keywords: NOEM Model, Investment Specific Technological Shocks, Incomplete Asset Markets

JEL Classification: F31, F37, F41

Suggested Citation

Martinez-Garcia, Enrique, A Redux of the Workhorse NOEM Model with Capital Accumulation and Incomplete Asset Markets (February 1, 2011). Available at SSRN: https://ssrn.com/abstract=2365071 or http://dx.doi.org/10.2139/ssrn.2365071

Enrique Martinez-Garcia (Contact Author)

Federal Reserve Bank of Dallas - Research Department ( email )

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