Aggregate Supply Shocks Research Articles

Is deflation cause for panic? Evidence from the National Banking era

This paper examines the relationship between deflation, real output, and bank panics in the United States during the National Banking era from 1868 to 1913, a period marked by frequent deflationary episodes and many bank panics. Using a structural vector autoregression with sign restrictions, I distinguish between deflation as part of negative aggregate demand shocks and deflation as part of positive aggregate supply shocks. My findings indicate that negative aggregate demand shocks are associated with an increased likelihood of bank panics, while positive aggregate supply shocks are not. I then bolster these findings with case studies of the major bank panics of 1873, 1893, and 1907, analyzing stock data, bank clearing data, and narrative evidence. Combined, these results suggest that unexpected declines in nominal income, rather than deflation itself, contribute to financial stress, aligning with recent theoretical work.

Energy-related uncertainty shocks and inflation dynamics in the U.S: A multivariate quantile-on-quantile regression approach

Existing literature suggests that uncertainty shocks can propagate like aggregate demand shocks or aggregate supply shocks. By way of extension, this study investigates the effect of energy-related uncertainty shocks on U.S. inflation while incorporating the effect of industrial production and interest rate uncertainty shocks. Using a multivariate quantile-on-quantile regression for the period 2000:M6 to 2019:M7, the findings reveal that energy-related uncertainty shocks amplify inflation by manifesting as cost-push shocks with a stronger connection emerging in quantiles slightly above the median quantile distribution of energy-related uncertainty. Although industrial production positively drives inflation, its effect is observed less around median quantiles of inflation than in the lower and upper quantiles. Furthermore, the effect of interest rate uncertainty is negative and stronger in quantiles around the median of inflation, suggesting that interest rate uncertainty behaves like aggregate demand shocks. Based on these findings, policy implications are offered.

Relative-Price Changes as Aggregate Supply Shocks Revisited: Theory and Evidence

Relative-Price Changes as Aggregate Supply Shocks Revisited: Theory and Evidence

More than just supply and demand: Macroeconomic shock decomposition in Croatia during and after the transition period

This paper separates macroeconomic shocks into external and domestic aggregate demand and supply shocks in Croatia during and after the transition period using a Bayesian SVAR model. The standard decomposition into aggregate demand and supply shocks covers important information on external sources of economic fluctuations. We find that domestic shocks were a dominant source of fluctuations during the transition period from 1992 to 2000. External shocks increased their importance after 2000, becoming the dominant source of fluctuations with the Global financial crisis. International comparison with other EU post-transition countries shows that short run GDP fluctuations are best explained by domestic aggregate supply shocks in 9 out of 11 analyzed countries, including Croatia. However, in the medium run, GDP fluctuations are dominantly explained by external aggregate demand shocks in 8 out of 11 countries, including Croatia. Inflation in Croatia is driven by external shocks both in the short- and medium run.

Sequencing the COVID‐19 Recession in the USA: What Were the Macroeconomic Drivers?

AbstractWe apply a structural vectorautoregressive analysis to decompose fluctuations in the growth rate of industrial production and inflation precipitated by the COVID‐19 pandemic in the USA into aggregate demand, aggregate supply, and uncertainty shocks. While all three types of shocks contributed to output and inflation dynamics, the surge in economic uncertainty contributed to the decline in output more strongly than aggregate demand or aggregate supply disruptions. In 2021, the decline in uncertainty and adverse aggregate supply shocks emerged to be similarly important in spurring inflation.

Wage growth in Lithuania from 2008 to 2020: observed drivers and underlying shocks

ABSTRACT This paper studies the drivers of wage growth in Lithuania over the period 2008–2020. Using administrative data as well as aggregate measures reflecting the state of the economy, we estimate an extended version of a wage Phillips curve. Our reduced-form estimates indicate that nominal wage growth was tightly linked to labor market fluctuation over this period. Labor productivity, changes in the minimum wage, and the composition of employment also contributed to wage dynamics. However, we find little evidence that past inflation has been a push factor. To understand the underlying economic primitives behind our findings, we estimate a structural Bayesian autoregressive model. Our structural analysis reveals a significant contribution from aggregate supply shocks, reflecting a stronger relationship between productivity and wages than implied by our reduced-form estimates. Moreover, a historical decomposition reveals that since 2013, wages grew over and above productivity due to rising aggregate demand and labor market disturbances.

Comparing the inflationary impacts of uncertainty between advanced and emerging economies

ABSTRACT This paper quantifies the impact of uncertainty shocks on inflation by distinguishing their effect through aggregate supply and demand adjustments for 34 advanced and emerging economies. Methodologically, this quantification starts by identifying structural aggregate supply and demand shocks and evaluating their impacts on output growth and inflation. Results show that uncertainty shocks prompt responses on both sides of the market by shifting aggregate demand and supply curves leftward. The aggregate demand leftward shift causes similar deflationary pressures across all countries. However, the inflationary pressures from the aggregate supply contraction are significantly larger in emerging than in advanced economies.

Optimal carbon tax rates in a dynamic stochastic general equilibrium model with a supply chain

This study investigates the role of the production supply chain in the choice of climate policies. We construct an environmental dynamic stochastic general equilibrium (E-DSGE) model that features multiple stages of production and different types of productivity shocks. Existing E-DSGE models for climate policy evaluation assume a single production stage. We find that the optimal carbon tax rates in all production stages are procyclical to aggregate supply shocks and countercyclical to aggregate demand shocks; however, if the shock arises from a particular production stage, the implied optimal carbon tax rates vary across stages and depend on the nature of the shocks. • We construct an E-DSGE model with a supply chain. • The effects of industry-specific carbon taxation in a supply chain are asymmetric. • Optimal carbon tax rates are procyclical to aggregate supply shocks. • Optimal carbon tax rates are countercyclical to aggregate demand shocks. • The optimal carbon tax rate’s cyclicality to industry-specific shocks is ambiguous.

Is there a national housing market bubble brewing in the United States?

AbstractWe use a time-varying parameter dynamic factor model with stochastic volatility estimated using Bayesian methods to disentangle the relative importance of the common component in Federal Housing Finance Agency house price movements from state-specific shocks, over the quarterly period of 1975Q2 to 2017Q4. We find that the contribution of the national factor in explaining fluctuations in house prices is critical. We then use a Bayesian change-point vector autoregressive model that allows for different regimes throughout the sample period, to study the impact of aggregate supply, aggregate demand, (conventional) monetary policy, and term-spread shocks, identified based on sign restrictions on the national component of house price movements. While monetary policy and other shocks are found to be quite dominant early on, we find evidence that the national factor has been detached from the identified macroeconomic shocks since 2014, thus suggesting that a “national bubble” might be brewing again in the US housing market.

Monetary Policy Without a Frozen Aggregate Supply Curve. A Literature Review

Purpose – The article reviews the literature on the interactions between aggregate demand and aggregate supply. It discusses the relevance of the presented mechanisms for the current economic situation, especially due to the ongoing monetary tightening in major economies. Research method – The article is based on a review of the literature on the linkages between aggregate demand and aggregate supply shocks. Results – According to the presented models, heightened corporate debt makes firms more vulnerable to financial shocks, including an unexpected increase in interest rates. As a result, tight credit conditions (due to monetary tightening) may reduce aggregate demand and aggregate supply, with ambiguous effects on general price level and inflation rate. Originality /value /implications /recommendations – The review summarises the broad but overlooked literature on the links between aggregate demand disturbances and shocks to aggregate supply. The paper’s originality lies in its attempt to present the literature in relation to ongoing increases in the policy of interest rates around the world.

Financial Conditions for the US: Aggregate Supply or Aggregate Demand Shocks?

Financial Conditions for the US: Aggregate Supply or Aggregate Demand Shocks?

A short-run Keynesian model of the COVID-19 recession for Econ 101

Using a simple short-run macroeconomic model of aggregate supply–aggregate demand, an intuitive explanation is offered for the COVID-19 recession in the US in 2020 — one that is appropriate for an economic principles course. The model illustrates the aggregate supply and aggregate demand shocks, with shifts in the short-run aggregate supply and aggregate demand curves, and accounts for the changes in real national output and the aggregate price level over the relevant economic quarters of 2020.

160 Years of aggregate supply and demand in Switzerland

This paper studies the causes of movements in inflation and output in Switzerland over 160 years between 1855 and 2015. Aggregate supply and demand shocks are identified in a structural VAR, and their evolution and effect on prices and output are discussed. Shocks to the Swiss economy have generally, although not uniformly, declined in magnitude over the sample period. The World Wars, the deflation of the 1920s and the Great Depression represented much larger shocks than either of 1970s break-up of Bretton Woods and move to floating exchange rates or the Global Financial Crisis.

A history of aggregate demand and supply shocks for the United Kingdom, 1900 to 2016

This paper presents a history of aggregate demand and supply shocks spanning 1900 – 2016 for the United Kingdom. Sign restrictions derived from a workhorse Keynesian model are used to identify the signs of those shocks. We compare the 30 largest shocks implied by a vector autoregressive model in unemployment and inflation with the narrative historical record. Our approach provides a new perspective on well-known events in economic history. We highlight two episodes of particular interest: an aggregate supply shock in the late 1920s, which we attribute to changes in the bargaining power of labor, and positive aggregate demand shocks in the mid-1970s, which we attribute to fiscal policy.

The stabilizing effect of the zero lower bound: A perspective of interest rate target zones

This study first sets up a simple stochastic macro model embodying rational expectations, and then develops a graphical presentation to examine whether the zero lower bound (ZLB) tends to stabilize or destabilize relevant macroeconomic variables from the viewpoint of interest rate target zones. Within the standard IS−LM&AD−AS framework, this paper finds that in response to an increase in supply or demand shocks, the ZLB leads to a decline in the public’s inflation expectations. We also find that, when the economy experiences an aggregate supply shock, the ZLB will raise the variability of both prices and nominal interest rates, but reduce the variability of output. However, when the economy experiences a money demand shock, the ZLB tends to raise the variability of nominal interest rates, but reduce the variability of both prices and output.

Evolution of Monetary Policy in Peru: An Empirical Application Using a Mixture Innovation TVP-VAR-SV Model

Abstract This article discusses the evolution of monetary policy (MP) in Peru in 1996Q1–2019Q4 using a mixture innovation time-varying parameter vector autoregressive (VAR) model with stochastic volatility (TVP-VAR-SV) as proposed by Koop, Leon-Gonzales and Strachan. The main empirical results are: (i) the VAR coefficients and volatilities change more gradually than the contemporaneous coefficients over time; (ii) the volatility of MP shocks was higher under the pre-Inflation Targeting (IT) regime; (iii) a surprise increase in the interest rate produces gross domestic product (GDP) growth falls and reduces inflation in the long run; (iv) the interest rate reacts more quickly to aggregate supply shocks than to aggregate demand shocks; (v) MP shocks explain a high percentage of domestic variables behavior under the pre-IT regime but their contribution decreases under the IT regime. Overall, these results show that MP has contributed in Peru to lower macroeconomic volatility by (i) reducing average long-term inflation, (ii) increasing the response of GDP growth rate to interest rate, and (iii) by becoming more predictable. (JEL codes: C11, C32, and E52).

Keynesian Supply Shocks and Hayekian Secondary Deflations

In response to the COVID-19 lockdown policies, Guerrieri et al. (2020) developed a new concept: the Keynesian supply shock. A Keynesian supply shock is an aggregate supply shock that leads to an even larger aggregate demand shock. This paper suggests that Keynesian supply shocks are very similar to the secondary deflations suggested by Hayek (1931), and US data from the 2007–09 financial crisis show that these concepts may help to explain employment dynamics in the midst of a crisis. This fact implies that long-standing policy advice based on Austrian business cycle theory would be useful in responding to Keynesian supply shocks.

Credit supply shocks and household consumption in Russia

The paper presents a comparative analysis of the reaction of different consumer groups to the bank credit supply shocks. As parameters of consumer heterogeneity, we consider differences ( i ) in the form of home ownership (households with and without mortgages and tenants) and ( ii ) in the form of credit (households with large debt (mortgages, car loans), households with small (consumer) credit and without loans). For empirical analysis we use RLMS-HSE longitudinal Household Panel Survey for the period from 2006 to 2019, which covers two episodes of the credit crisis and post-crisis recovery. Bank credit supply shocks are estimated using the standard structural vector autoregression (SVAR) model, which also identifies aggregate supply and demand shocks and monetary policy shocks. Our results show that with a positive credit supply shock, which is equivalent to a 0.5 percentage point reduction in the interest rate on loans, households with mortgages increase their consumption by 2.1—2.5% more than households without mortgages. The observed effect is significant, since the average annual growth rate of consumption of households with mortgages in our sample is 3.8%. Our results indicate that the Bank of Russia’s macroprudential policy, which uses countercyclical capital buffers (Basel III) as a tool, can be very effective in smoothing the consumption of households with mortgage debt.

Macro Risks and the Term Structure of Interest Rates

Abstract We use non-Gaussian features in U.S. macroeconomic data to identify aggregate supply and demand shocks while imposing minimal economic assumptions. Macro risks represent the variables that govern the time-varying variance, skewness, and higher-order moments of these two shocks, with ”good” (”bad”) variance associated with positive (negative) skewness. We document that macro risks significantly contribute to the variation of yields and risk premiums for nominal bonds. While overall bond risk premiums are countercyclical, an increase in aggregate demand variance significantly lowers risk premiums. Macro risks also significantly predict future realized bond return variances.

Macro risks and the term structure of interest rates

We use non-Gaussian features in U.S. macroeconomic data to identify aggregate supply and demand shocks while imposing minimal economic assumptions. Macro risks represent the variables that govern the time-varying variance, skewness, and higher-order moments of these two shocks, with ”good” (”bad”) variance associated with positive (negative) skewness. We document that macro risks significantly contribute to the variation of yields and risk premiums for nominal bonds. While overall bond risk premiums are countercyclical, an increase in aggregate demand variance significantly lowers risk premiums. Macro risks also significantly predict future realized bond return variances.