Endogenous business cycles : some theory and evidence
Mohamad L . Hammour1989
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Abstract
The three essays that make up this thesis are a contribution toward an endogenous theory of economic fluctuations. The first two essays advance some theoretical arguments why the presence of "aggregate increasing returns" can cause macroeconomic instability and place the economy in a state of self-sustained fluctuations. The third essay is an attempt to detect such instability in postwar U.S. data using nonlinear times series estimation techniques.
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Stochastic Trends and Economic Fluctuations, Working Paper 1991-4
1991
and two referees for helpful discussions and comments, and Craig Burnside and Gustavo Gonzaga for valuable research assistance. This research was supported in part by the National Science Foundation, the Sloan Foundation and the John M. Olin Foundation at the University of Rochester. Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis A bstract Are business cycles mainly the result of permanent shocks to productivity? This paper uses a long-run restriction implied by a large class of real business cycle models-identifying permanent productivity shocks as shocks to the common stochastic trend in output, consumption and investment-to provide new evidence on this question. Econometric tests indicate that this common stochastic trend/cointegration implication is consistent with postwar U.S. data. However, in systems with nominal variables, the estimates of this common stochastic trend indicate that permanent productivity shocks typically explain less than half of the business cycle variability in output, consumption and investment. (JEL 131,211) Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis A central, surprising and controversial result of some current research on real business cycles is the claim that a common stochastic trend-the cumulative effect of permanent shocks to productivity-underlies the bulk of economic fluctuations. If confirmed, this finding would imply that many other forces have been relatively unimportant over historical business cycles, including the monetary and fiscal policy shocks stressed in traditional macroeconomic analysis. This paper shows that the hypothesis of a common stochastic productivity trend has a set of econometric implications that allows us to test for its presence, measure its importance and extract estimates of its realized value. Applying these procedures to consumption, investment and output for the postwar U.S., we find results that both support and contradict this claim in the real business cycle literature. The U.S. data a re consistent with the presence of a common stochastic productivity trend. Such a trend is capable of explaining important components of fluctuations in consumption, investment and output in a three variable reduced form system. But the common trend's explanatory power drops off sharply when measures of money, the price level and the nominal interest rate are added to the system. The key implication of the standard real business cycle model-that permanent productivity shocks are the dominant source of economic fluctuations-is not supported by these data. Moreover, our empirical results cast doubt on other explanations of the business cycle: estimates of permanent nominal shocks, which are constrained to be neutral in the long-run, explain little real activity. Our econometric methodology can determine the importance of productivity shocks within a wide class of real business cycle (RBC) models with permanent productivity disturbances. To explain why this is so, we begin by discussing three features of the research on which our analysis builds. First, there is a long tradition of empirical support for balanced growth in which output, investment and consumption all display positive trend growth but the consumption-output and investment-output "great ratios" do not (see, for example, Robert Kosobud and Lawrence Klein (1961)). Second, in large part because of this ratio stability, most-1-Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis RBC models are one sector models which restrict preferences and production possibilities so that "balanced growth" occurs asymptotically when there is a constant rate of technological progress. Third, these RBC models imply that permanent shifts in productivity will induce (i) long-run equiproportionate shifts in the paths of output, consumption and investment; and (ii) dynamic adjustments with differential movements in consumption, investment and output. The econom etric procedures developed here use the models' long-run balanced growth implication to isolate the permanent shocks in productivity, and then to trace out the short-run effects of these shocks. These econometric procedures rely on the fact that balanced growth under uncertainty implies that consumption, investment and output are cointegrated in the sense of Robert Engle and Clive Granger (1987). In turn, this means that a cointegrated vector autoregression (V A R) nests log-linear approximations of all RBC models that generate long-run balanced growth. Our empirical analysis is based on such a cointegrated V A R (or vector error correction model), which is otherwise unrestricted by preferences or technology. Thus, our conclusions can be interpreted as casting doubt on the strong claims emerging from an entire class of real business cycle models. The empirical analysis is structured around three questions. First, what are the cointegration properties of postwar U.S. data, and are these properties consistent with the predictions of balanced growth? Second, how much of the cyclical variation in the data can be attributed to innovations in the common stochastic trends? Third, a natural alternative to RBC models is one in which nominal variables play an important role. Do innovations associated with nominal variables explain important cyclical movements in the real variables? The empirical results provide robust answers to these questions. First, cointegration tests and estimated cointegrating vectors indicate that the data are consistent with the balanced growth hypothesis. Second, in a three variable model incorporating output, consumption and investment, the balanced growth shock explains 60-75% of the variation of output at business cycle horizons (4 to 20 quarters). Moreover, the estimated response of the real variables to the-2
Sources of Business Cycle Fluctuations
2009
This paper investigates the sources of business cycle fluctuations in China and India since 1978/81. Under the framework of a standard neoclassical open economy model with time-varying frictions (wedges), we study the relative importance of efficiency, labor, investment and government consumption wedges on the business cycle phenomenon. This enables us to contrast and compare the two countries ‟ experience in a way remarkably different from previous studies. The results for both China and India show that efficiency wedge is the main source of economic fluctuations, while the investment wedge and government consumption wedge played minor roles in generating business cycles.
The Business Cycle: Theories and Evidence
Springer eBooks, 1992
Stochastic Trends and Economic Fluctuations
Are business cycles mainly the result of permanent shocks to productivity? This paper uses a long-run restriction implied by a large class of real-business-cycle models -identifying permanent productivity shocks as shocks to the common stochastic trend in output, consumption, and investment -to provide new evidence on this question. Econometric tests indicate that this common-stochastic-trend / cointegration implication is consistent with postwar U.S. data. However, in systems with nominal variables, the estimates of this common stochastic trend indicate that permanent productivity shocks typically explain less than half of the business-cycle variability in output, consumption, and investment. (JEL because of this ratio stability, most RBC models are one-sector models which restrict preferences and production possibilities so that "balanced growth" occurs asymptotically when there is a constant rate of technological progress. Third, these RBC models imply that permanent shifts in productivity will induce (i) long-run equiproportionate shifts in the paths of output, consumption, and investment and (ii) dynamic adjustments with differential movements in consumption, investment, and output.
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This paper presents an analysis of the joint determination of growth and business cycles with the view to studying the long-run implications of short-term monetary stabilization policy. The analysis is based on a simple stochastic growth model in which both real and nominal shocks have permanent effects on output due to nominal rigidities (wage contracts) and an endogenous technology (learning-by-doing). It is shown that there is a negative correlation between the mean and variance of output growth irrespective of the source of fluctuations. It is also shown that, in spite of this, there may exist a conflict between short-term stabilization and long-term growth depending on the type of disturbance. Finally, it is shown that, from a welfare perspective, the optimal monetary policy is that policy which maximizes long-run growth to the exclusion of stabilization considerations.
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