How Small is Small? Non-linearities in Heterogeneous Agent Models

In plausibly calibrated heterogeneous-agent models, marginal propensities to consume (MPCs) are highly non-linear in wealth, falling sharply away from borrowing constraints. As a result, the aggregate consumption response to a fiscal transfer is strongly concave in its size: larger transfers shift households out of high-MPC regions and thereby dampen the consumption response. Across partial- and general-equilibrium settings, linear methods substantially overstate the effects of fiscal stimulus at empirically relevant sizes. Local methods are not reliable for studying shocks and policies where a failure of Ricardian equivalence is important.