Take the 2-minute tour ×
Economics Stack Exchange is a question and answer site for professional and academic economists and analysts. It's 100% free, no registration required.

It seems that overlapping generation model has far more realistic assumptions than ordinary Ramsey-Prescott RBC model for use in macroeconomics. Why is Ramsey-Prescott ones, even New Keynesian variants, are more popular than overlapping generation ones? Is this just due to simplicity, or is there any fundamental problem with the consequences of overlapping generation model?

share|improve this question
1  
According to these lecture notes, it is "widely used" today people.stfx.ca/tleo/AdvMacroLec5.pdf –  charlotte Jan 26 at 0:29
    
Yeah, I think they are used a lot. However, I think they might be less common because they're computationally more difficult to work with. –  jmbejara Jan 26 at 4:13
2  
Two generation OLG models aren't particularly difficult to work with but I'm not sure they add much realism either. The complex models that have many, many, simultaneous generations are much thornier. There are lots of dimensions on which model heterogeneity can be added. OLG seems to take a firm stance that age is a very important dimension of heterogeneity. Perhaps for lots of them age isn't as interesting as impatience, level of modelers human capital, credit constraints, risk tolerance, and others are more important. –  BKay Jan 26 at 14:33

1 Answer 1

Complexity issues are always a factor in choosing model frameworks.

In addition, my feeling is that historically the impressive possibility brought to light by the OG models was that an economy could be "dynamically inefficient" (=being characterized by over-accumulation of capital). After some empirical studies provided evidence that the main western economies did not appear to over-accumulate capital, there was perhaps an impression that the model, while structurally more realistic, had not "that much to offer" to compensate for its added complexity...

Not so, according to Philipe Weil, who celebrated the model's first 50 years of existence in the paper Weil, Philippe. 2008. "Overlapping Generations: The First Jubilee." Journal of Economic Perspectives, 22(4): 115-34. (freely downloadable).

The paper is an enjoyable non-technical read, full of compacted information, knowledge and insights. A quote (bold my emphasis):

"Samuelson’s stroke of genius was to construct a model that makes economies in which the first welfare theorem always holds, absent externalities and distortions, look like quite a special case. It is hard to escape the conclusion that the features of the overlapping generations model are the norm, rather than the exception: after all, can we seriously argue, once we understand what “new” means, against the realism of a model that rests entirely on the assumption that “we live in a world where new generations are always coming along?” In that respect, it is not the overlapping generations model, with the wealth of interesting issues it raises and its rich welfare properties, that is a simple toy model, but rather the competing workhorse of modern macroeconomics, the Ramsey–Cass–Koopmans model that assumes that no “new” generation ever comes along as future agents are all part of pre-existing families. Barro’s (1974) famous paper on debt neutrality and Weil (1987) make it clear that such a model emerges only if parents love their children (or future immigrants) enough to leave all of them positive bequests. This condition is very restrictive, and therefore the Ramsey model, with its long-run interest rate that always exceeds the growth rate, is literally quite extraordinary compared to the overlapping generations model."

This is the rallying cry -in his paper Weil details many aspects and issues raised by the model, and the intuitions that it can provide.

share|improve this answer

Your Answer

 
discard

By posting your answer, you agree to the privacy policy and terms of service.

Not the answer you're looking for? Browse other questions tagged or ask your own question.