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Inequality Constraints and Euler Equation‐based Solution Methods

Accepted version
Peer-reviewed

Type

Article

Change log

Authors

Karner Rendahl, Pontus  ORCID logo  https://orcid.org/0000-0003-3052-5732

Abstract

Solving dynamic models with inequality constraints poses a challenging problem for two major reasons: dynamic programming techniques are reliable but often slow, whereas Euler equation‐based methods are faster but have problematic or unknown convergence properties. This study attempts to bridge this gap. I show that a common iterative procedure on the first‐order conditions – usually referred to as time iteration – delivers a sequence of approximate policy functions that converges to the true solution under a wide range of circumstances. These circumstances extend to a large set of endogenous and exogenous state variables as well as a very broad spectrum of occasionally binding constraints.

Description

Keywords

38 Economics, 3802 Econometrics, 10 Reduced Inequalities

Journal Title

The Economic Journal

Conference Name

Journal ISSN

0013-0133
1468-0297

Volume Title

125

Publisher

Wiley

Rights

All rights reserved