Dynamic stochastic general equilibrium

Dynamic Stochastic General Equilibrium

Dynamic stochastic general equilibrium

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Dynamic stochastic general equilibrium modeling (abbreviated DSGE or sometimes SDGE or DGE) is a branch of applied general equilibrium theory that is influential in contemporary macroeconomics. The DSGE methodology attempts to explain aggregate economic phenomena, such as economic growth, business cycles, and the effects of monetary and fiscal policy, on the basis of macroeconomic models derived from microeconomic principles. One of the main reasons macroeconomists have begun to build DSGE models is that unlike more traditional macroeconometric forecasting models, DSGE macroeconomic models should not, in principle, be vulnerable to the Lucas critique (Woodford, 2003, p. 11; Tovar, 2008, p. 15).

Structure of DSGE models

Like other general equilibrium models, DSGE models aim to describe the behavior of the economy as a whole by analyzing the interaction of many microeconomic decisions. The decisions considered in most DSGE models correspond to some of the main quantities studied in macroeconomics, such as consumption, saving, investment, and labor supply and labor demand. The decision-makers in the model, often called 'agents', may include households, business firms, and possibly others, such as governments or central banks.

Furthermore, as their name indicates, DSGE models are dynamic, studying how the economy evolves over time. They are also stochastic, taking into account the fact that the economy is affected by random shocks such as technological change, fluctuations...
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