UCLA

This thesis consists of three chapters. In Chapter 1, we quantitatively analyze an interaction between the US fiscal debt and Net Foreign Asset (NFA) and examines the shock source of US NFA deterioration. We address two questions: 1. What is the impact of increased US government treasury as a safe asset on portfolio choices and welfare? 2. What shocks are appropriate to explain changes in individual asset classes since the financial crisis? To answer these questions, we construct a two-country heterogeneous agent general equilibrium model augmented with fiscal sector and portfolio choice calibrated to post the global financial crisis era. First, we see how the size of debt affects the impact of regime change from financial autarky to financial integration. We find that the benefit of financial integration is more substantial among wealthy households under a low level of debt. On the other hand, with the high level of debt, poor households would enjoy a convenience yield that emerges after financial integration. Second, we examine three alternative hypotheses for NFA deterioration advocated in the literature, the markup hypothesis, the fiscal deficit hypothesis, and the uncertainty increase in the Rest of the World. We investigate -5% NFA deterioration shock under the alternative hypothesis. To understand the dynamics of different asset classes which compose the US NFA position, the markup shock, and the uncertainty shock are more consistent with the data. All shocks improve US households’ welfare by up to 0.1% in the short run. On the other hand, in the long run, the welfare of US households deteriorates by 0.1%.In Chapter 2, we provide a theoretical framework to solve the Fiscal Theory of Price Level (FTPL) puzzle, in which inflation remains low despite permanent budget deficits. According to the standard FTPL model, budget deficits lead to an increase in the price level. Nevertheless, some country is a counterexample of this theoretical prediction (Brunnermeier et al. (2020)). We solve this puzzle by adding a market segmentation assumption to the standard New Keynesian (NK)-FTPL model. Specifically, by adding the assumption that financial intermediaries directly hold all government bonds, we derived the conditions under which government spending leads to a decline in the price level. The condition is whether the government’s stance toward a sound primary balance is so accommodative that it overrides the riskiness of long-term debt, calculated from the ratio of long-term debt to GDP and the risk premium. If the government’s stance is stronger than the threshold, the fiscal deficit is deflationary; if it is weaker, the fiscal deficit is inflationary. In Chapter 3, we revisit the interrelationship between exchange rates and stock prices and check the following stylized facts: 1) exchange rate volatility is lower than stock price volatility; 2) stock prices of the G7 countries are positively correlated; 3) countries with low-interest rates tend to see their stock prices rise when their exchange rates depreciate, while stock prices tend to fall for countries with high-interest rates as the exchange rate depreciates. We present a two-country Dynamic Stochastic General Equilibrium model with the market segmentation hypothesis (a combination of Itskhoki and Mukhin (2019a) and Hau and Rey (2006)) that can exhibit dynamic behavior consistent with the stylized facts. To reproduce the econometric moments, we propose a positively correlated risk appetite shock between the two countries in the financial market. The second-order moments, which determine the dynamics of exchange rate and stock price, are generated endogenously, given the exogenous shocks to the model.