In this paper we construct a stochastic overlapping-generations general equilibrium model in which households are subject to aggregate shocks that affect both wages and asset prices.We use a calibrated version of the model to quantify how the welfare costs of severe recessions are distributed across different household age groups.The model predicts that younger cohorts fare better than older cohorts when the equilibrium decline in asset prices is large relative to the decline in wages, as observed in the data.Asset price declines hurt the old, who rely on asset sales to finance consumption, but benefit the young, who purchase assets at depressed prices.In our preferred calibration, asset prices decline more than twice as much as wages, consistent with the experience of the US economy in the Great Recession.A model recession is approximately welfare-neutral for households in the 20-29 age group, but translates into a large welfare loss of around 10% of lifetime consumption for households aged 70 and over.
A principal incentivizes a team of agents to work by privately offering them bonuses contingent on team success. We study the principal’s optimal incentive scheme that implements work as a unique equilibrium. This scheme leverages rank uncertainty to address strategic uncertainty. Each agent is informed only of a ranking distribution and his own bonus, the latter making work dominant provided that higher-rank agents work. If agents are symmetric, their bonuses are identical. Thus, discrimination is strictly suboptimal, in sharp contrast with the case of public contracts (Winter 2004). We characterize how agents’ ranking and compensation vary with asymmetric effort costs. (JEL D23, D62, D81, D82, D86)
We develop a model of political cycles driven by time-varying risk aversion. Agents choose to work in the public or private sector and to vote Democratic or Republican. In equilibrium, when risk aversion is high, agents elect Democrats—the party promising more redistribution. The model predicts higher average stock market returns under Democratic presidencies, explaining the well-known “presidential puzzle.” The model can also explain why economic growth has been faster under Democratic presidencies.
In the data, Democratic voters are more risk averse, and risk aversion declines during Democratic presidencies. Public workers vote Democratic, while entrepreneurs vote Republican, as the model predicts.