NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

Labor-Market Heterogeneity, Aggregation, and the Lucas Critique

Yongsung Chang, Sun-Bin Kim, Frank Schorfheide

NBER Working Paper No. 16401
Issued in September 2010
NBER Program(s):   EFG   ME

This paper assesses biases in policy predictions due to the lack of invariance of "structural'' parameters in representative-agent models. We simulate data under various fiscal policy regimes from a heterogeneous-agents economy with incomplete asset markets and indivisible labor supply. Imperfect aggregation manifests itself through preference shocks in the estimated representative-agent model. Preference and technology parameter estimates are not invariant with respect to policy changes. As a result, the bias in the representative-agent model's policy predictions is large compared to the length of predictive intervals that reflect parameter uncertainty.

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