Transition dynamics in heterogeneous-agent models and the distributional consequences of taxation

Alexandra Gutsch and Christoph Schult

No 7/2026, IWH Discussion Papers from Halle Institute for Economic Research (IWH)

Abstract: We study how idiosyncratic income risk shapes the aggregate and distributional effects of labor and capital income taxation in dynamic general equilibrium models. To this end, we compare a heterogeneous-agent (HA) model with uninsurable idiosyncratic labor productivity risk and a ten-representative-agent (TE) model in which households correspond to fixed wealth deciles without such risk. At the aggregate level, both models generate qualitatively similar responses; however, the HA model exhibits a smaller recessionary impact driven by precautionary savings behavior, which stabilizes investment. At the distributional level, the models differ sharply. In the HA framework, tax shocks trigger endogenous mobility across wealth deciles. These inter-decile transition dynamics tend to benefit lower deciles. In contrast, the TA model features fixed household positions. Our findings highlight that while simpler multi-representative-agent models can approximate aggregate dynamics well, they may miss important distributional adjustment channels. The relevance of these mechanisms ultimately depends on the empirical importance of mobility across the wealth distribution, pointing to a key trade-off between model simplicity and accuracy.

Keywords: computational economics; heterogeneous agents; incomplete markets; Krusell-Smith model (search for similar items in EconPapers)
JEL-codes: C63 D31 D52 D58 E21 (search for similar items in EconPapers)
Date: 2026
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Persistent link: https://EconPapers.repec.org/RePEc:zbw:iwhdps:341395

DOI: 10.18717/dpwnvy-j578

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