October 30, 2009
Jonathan Huntley and Eric Miller
This paper is intended to be pedagogical rather than a presentation of original research. We describe a simple dynamic, stochastic general equilibrium (DSGE) model with capital utilization, capital adjustment costs, and a simple Cobb-Douglas technology to illustrate how DSGE models can be used to explain the past and to forecast the future. We identify one method to directly estimate latent variables and parameters in a DSGE model. We then construct estimates of the latent variables and shocks, the latter of which drive observed variations in economic activity. Those latent variables form the foundation of our economic analyses of past events, and the estimated parameters allow us to construct an economic forecast.