Business Cycles with Heterogeneous Agents

I show how to construct a stochastic long-lived overlapping generations model, based on a non-stochastic model developed by Olivier Blanchard [2] and Philippe Weil [14], that nests the RBC model as a special case. My innovation over previous work is to add an aggregate stochastic shock. I provide three different calibrations of the model. One mimics the RBC model and the other two are heterogeneous agent economies (HA and HATAX) with and without corporate income taxes. I show that the HA and HATAX models can explain the low safe rate of interest that has been observed for long periods in U.S. data. The HATAX model can also explain the fact that the investment to GDP ratio in US data is lower than the proÞt share. All three models are almost identical in their predictions for the comovements and volatilities of consumption, investment, employment and GDP at business cycle frequencies.