Macro Theory I Part 1 - Assignment 4

Solution suggested by Shang-Chieh Huang

November 3, 2021

Question 1
1. Solve for the steady states before and after the shock

From the neoclassical model in the lecture, we have resource constraint and Euler equation:

ct + kt+1 = Aktα + (1 − δ)kt

c−θ
t = βc−θ α−1
t+1 [αAkt+1 + (1 − δ)]

Evaluating these two equations at steady state gives:

 1
 α−1
∗ 1 1
k = ( − 1 + δ)
αA β
c∗ = Ak ∗α − δk ∗

After calculating on Matlab, we have the following result:

Before the technology shock:

old
kss = 0.8186

cold
ss = 0.4955

After the technology shock:

new
kss = 0.9905

cnew
ss = 0.5955

2. Find the linear approximates of the system at the new steady state.

Rewrite resource constraint and Euler equation as

kt+1 = Aktα + (1 − δ)kt − ct

1
ct+1 = ct β[αA(Aktα + (1 − δ)kt − ct )α−1 + 1 − δ] θ


1
Finding the linear approximation at the new steady state of this dynamic system yields

1
kt+1 − k ∗ −1 kt − k ∗
    
β
∗ = c∗ ∗
ct+1 − c θ α(α − 1)Ak
∗α−2
1 − cθ βα(α − 1)Ak ∗α−2 ct − c∗

3. Find the eigenvalues and eigenvectors of the linearized system.

After calculating on Matlab, we have the following result:

Eigenvalues:
   
λ1 0 0.6626 0
Λ= =
0 λ2 0 1.5886

Eigenvecotrs:
 
  −0.9316 0.8814
V = v1 v2 =
−0.3634 −0.4724

4. Plot the time series of capital, consumption, output, and investment from
t = −5 to t = 30.

See the following figures.

Figure 1: Technology Shock

Question 2
When time discount factor β decreases unexpectedly and permanently, plot
the time series of capital, consumption, output, and investment from t = −5
to t = 30.

See the following figures.

2
Figure 2: Technology Shock