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Markov-Chain Approximations for Life-Cycle Models

Giulio Fella, Giovanni Gallipoli () and Jutong Pan

No 827, Working Papers from Queen Mary University of London, School of Economics and Finance

Abstract: Non-stationary income processes are standard in quantitative life-cycle models, prompted by the observation that within-cohort income inequality increases with age. This paper generalizes Tauchen (1986) and Rouwenhorst's (1995) discretization methods to non-stationary AR(1) processes. We evaluate the performance of both methods in the context of a canonical finite-horizon, income-uctuation problem with a non-stationary income process. We find that the generalized Rouwenhorst's method performs extremely well even with a relatively small number of states.

Keywords: Numerical methods; finite state approximations (search for similar items in EconPapers)
JEL-codes: C63 (search for similar items in EconPapers)
Date: 2017-07-20
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Journal Article: Markov-Chain Approximations for Life-Cycle Models (2019) Downloads
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