Working Paper: CEPR ID: DP13403
Authors: Josvctor Rosrull; Marco Bassetto; Zhen Huo
Abstract: This paper proposes a new equilibrium concept - organizational equilibrium - for models with state variables that have a time-inconsistency problem. The key elements of this equilibrium concept are: (1) agents are allowed to ignore the history and restart the equilibrium; (2) agents can wait for future agents to start the equilibrium. We apply this equilibrium concept to a quasi-geometric discounting growth model and to a problem of optimal dynamic fiscal policy. We find that the allocation gradually transits from that implied by its Markov perfect equilibrium towards that implied by the solution under commitment, but stopping short of the Ramsey outcome. The feature that the time inconsistency problem is resolved slowly over time rationalizes the notion that good will is valuable but has to be built gradually.
Keywords: time inconsistency; capital income taxation; quasigeometric discounting; reputation; renegotiation
JEL Codes: E61; C73; E62
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Organizational equilibrium (D50) | Transition from Markov perfect equilibrium (D51) |
| Transition from Markov perfect equilibrium (D51) | Higher saving rates (D14) |
| Building goodwill (M14) | Improved equilibrium allocation (D51) |
| Improved equilibrium allocation (D51) | Pareto superior outcomes (D69) |
| Organizational equilibrium (D50) | Gradual resolution of time inconsistency problem (D15) |