Business Cycle Asymmetry Research Articles

Coordinating Business Cycles

We develop a quantitative theory of business cycles with coordination failures. Because of a standard aggregate demand externality, firms want to coordinate production. The presence of a non-convex capacity decision generates multiple equilibria under complete information. We use a global game approach to show that, under incomplete information, the multiplicity of equilibria disappears to give rise to a unique equilibrium with two stable steady states. The economy exhibits coordination traps: after a negative shock of sufficient size or duration, coordination on the good steady state is harder to achieve, leading to quasi-permanent recessions. In our calibration, the coordination channel improves on the neoclassical growth model in terms of business cycle asymmetries and skewness. The model also accounts for features of the 20072009 recession and its aftermath. Government spending is harmful in general as the coordination problem magnifies the crowding out. It can, however, increase welfare — without nominal rigidities — when the economy is about to transition to the bad steady state. Simple subsidies implement the efficient allocation.

Analyzing business cycle asymmetries in a multi-level factor model

We study the business cycle in the US over 1959–2011 using a large-dimensional multi-level factor model. We find notable asymmetries over the business cycle, but the bulk of common dynamics is stable over time. The comovement among variables is larger in recessions compared to expansions. The recession factor is highly correlated with monetary and financial variables, whereas expansion and symmetric factors are mainly related to real activity variables.

Asymmetric Firm Dynamics under Rational Inattention

We document new evidence on the link between business failures, markups and business cycle asymmetry in the U.S. economy. We study a model where costly information-processing constraints affect exit decisions of heterogeneous firms in the presence of an aggregate demand externality. We show that such a model is capable of explaining both the novel and the classical empirical evidence on output growth asymmetry, the asymmetry between entry and exit rates, as well as counter-cyclical variations in profit margins.

CONVERGENCE OF REGIONAL ECONOMIC CYCLES IN TURKEY

Dissimilar economic fluctuations and asymmetric shocks across the regions of a country might create severe policy distortions that, under these circumstances, aggregate policy interventions (such as taxation and interest rates), are likely to be sub‐optimal for at least a fraction of the regions. For instance, monetary policy can hardly satisfy the needs of all regions when some of the regions are experiencing a boom while others are in a recession phase. For these reasons, similarity of regional business cycles and their convergence are highly desirable from a policy viewpoint. The aim of this paper is, therefore, to provide empirical evidence and policy implications in that context. In particular, I analyze business cycle correlations across Turkish provinces and the tendency of these cycles to converge over the period of analysis between 1975–2000 and 2004–2008 (for Nomenclature of Territorial Units for Statistics [NUTS]‐2 regions). I find that regional business cycle asymmetries have tended to decrease in recent decades. This result, although it seems to provide evidence in favor of rising correlations, shows that the convergence process is rather slow and there still exist asymmetries across the regional business cycles.

Downward wage rigidity and business cycle asymmetries

The growth rates of wages, unemployment and output of a number of OECD countries have a strongly skewed distribution. In this paper we analyze to what extent downward wage rigidities can explain these empirical business cycle asymmetries. To this aim, we introduce asymmetric wage adjustment costs in a New-Keynesian DSGE model with search and matching frictions in the labor market. Increasing wages is less costly than cutting them. It follows that wages increase relatively fast and thus limit vacancy posting and employment creation, but they decline more slowly, leading to a strong reduction in vacancies and employment. The presence of downward wage rigidities strongly improves the fit of the model to the observed skewness of labor market variables and the relative length of expansions and contractions in the output and the employment cycles. The asymmetry also explains the differing transmission of positive and negative monetary policy shocks from wages to inflation.

Testing for Business Cycle Asymmetries: The Case of Croatia

We analyze asymmetries of the business cycle in the Croatian economy, using various annualized growth rate variables for a period of eighteen years (1992-2010), de-trended by Hodrick-Prescott filter, and following the Harding and Pagan procedure in determination of its turning points. The time series in which we are looking for asymmetries over the Croatian business cycle are monthly data sets: gross domestic product (GDP); industry production index (IND); construction production index (CONST); nominal total import in Euro (IMP); nominal total export in Euro (EXP); tourism arrivals (ARR); tourism overnight stays (ON); retail consumer price index (RPCI); nominal wage (WAGE); productivity in industry index (PROD); nominal narrow money (M1); real exchange rate (REAL); real NB discount rate (INTR); unemployment rate (UR); vacancy rate (VR). In testing the issue of asymmetries we used and the procedure consists of the application of the formal Sichel’s tests, which allows for two types of asymmetry in mean to be tested: steepness and deepness. Steepness occurs when contractions are steeper than expansions, whilst deepness is found when troughs are deeper than peak heights. We explore whether the evidence of asymmetries can be associated to an asymmetric behavior over the business cycle by augmented autoregressive models, too.

Have structural changes eliminated the out-of-sample ability of financial variables to forecast real activity after the mid-1980s? Evidence from the Canadian economy

This article evaluates how consistently reliable the information content of individual financial variables is for Canada's future output growth. We estimate the timing of structural changes in linear growth models and check robustness to specification changes, multiple breaks, and business cycle asymmetry. Our simulated out-of-sample forecast evaluation strategy, using the Mean Square Error F-type (MSE-F) and the new encompassing (ENC-NEW) tests, shows that the leading information content of most financial variables for Canada's future Gross Domestic Product (GDP) growth has deteriorated substantially after 1984:04, but the 1–3-year term spread exhibits a consistently reliable predictive ability at the 1 and 2 quarter horizons and has significant forecasting ability at the 8 quarter horizon. Also, the real M1 money growth has regained its ability to forecast output growth since 1991:01.

Do professional forecasters apply the Phillips curve and Okun's law? Evidence from six Asian-Pacific countries

Using survey data from six Asian-Pacific countries, we report that professional forecasters apply the wage Phillips curve, the price Phillips curve, and Okun's law when forecasting macroeconomic variables. This result is robust when using time-varying coefficients, different forecast horizons and when taking business-cycle asymmetries into account. The results also suggest that the confidence in macroeconomic relationships was more pronounced during the economic crisis 2007–2009 and when looking at longer forecast horizons.

Currency Networks, Bilateral Exchange Rate Volatility and the Role of the US Dollar

We investigate monthly bilateral exchange rate volatility for a large sample of currency pairs over the period 1999–2006. Pegs (particularly to the US dollar) and managed floats tend to have lower volatility than independent floats. A deeper investigation shows that the peg effect operates almost entirely through currency networks (i.e. where two currencies are pegged to the same anchor currency), and the lower volatility of US dollar pegs reflects the size of the US dollar network. Managed floats show clear evidence of tracking the US dollar, further increasing the effective size of the US dollar network. Inflation undermines the currency-stabilizing effect of peg networks. Currencies in smaller peg networks have higher unweighted but not trade-weighted exchange rate volatility, which is consistent with anchors being chosen to minimize trade-weighted volatility. The size of the effective US dollar network revealed here is a plausible explanation of the rarity of basket pegs. Volatility also reflects a range of structural factors such as country size, level of development, population density, inflation differentials and business cycle asymmetry.

Business cycle asymmetry via occasionally binding international borrowing constraints

This paper illustrates how occasionally binding credit constraints can be quantitatively important to delivering business-cycle asymmetries. An empirical exercise suggests that countries display some business-cycles asymmetries, and an open-economy real business-cycle model is assessed where an international borrowing constraint binds occasionally. In the model, downward movements with a slack constraint are sharper and quicker than upward movements with a binding constraint, and this can deliver asymmetry over the business cycle. The model is calibrated to Canadian data and suggests that a necessary ingredient for asymmetry is a high initial level of foreign debt.

Business Cycle Asymmetry in China: Evidence from Friedman's Plucking Model

AbstractFriedman's plucking model of business fluctuations suggests that output cannot exceed an upper limit, but it is occasionally “plucked” downward below trends as a result of economic recessions. This paper investigates China's business fluctuations using quarterly real GDP data for the period 1978–2009. Our results show some evidence supporting Friedman's plucking model. We find that a ceiling effect of real output exists, and that negative asymmetric shocks significantly affect the transitory component, which captures the plucking downward behavior during the recession. The results also suggest that the basic asymmetric unobserved component model is not appropriate for directly modeling China's real output because the business cycle is inaccurately measured, but it works quite well when considering a structural break in the second quarter of 1992. The results reveal that although China's economy strengthened in the second quarter of 2009, it is essential for China's government to take further positive and effective measures to maintain sustainable development of the economy.

Investigating business cycle asymmetry for the G7 countries: Evidence from over a century of data

In this paper we test for asymmetric behaviour of business cycles for the G7 countries, using the entropy-based test for asymmetry suggested by Racine and Maasoumi [Racine, J.S., & Maasoumi, E. (in press-a). A versatile and robust metric entropy test of time-reversibility, and other hypotheses, Journal of Econometrics; Racine, J.S., & Maasoumi, E. (in press-b). A robust entropy based test for asymmetry. Econometric Reviews.]. We find overwhelming evidence of symmetry. In only 14% of the cases, we find some evidence of asymmetric behaviour of GDP and per capita GDP. More importantly, the period marked by the flexible exchange rate regime, over which much of the empirical work for the G7 countries has been conducted, evidence suggests that the two GDP series are symmetric.

Asymmetric stock market volatility and the cyclical behavior of expected returns

Recent explanations of aggregate stock market fluctuations suggest that countercyclical stock market volatility is consistent with rational asset evaluations. In this paper, I develop a framework to study the causes of countercyclical stock market volatility. I find that countercyclical risk premia do not imply countercyclical return volatility. Instead, countercyclical stock volatility occurs if risk premia increase more in bad times than they decrease in good times, thereby inducing price–dividend ratios to fluctuate more in bad times than in good. The business cycle asymmetry in the investors’ attitude toward discounting future cash flows plays a novel and critical role in many rational explanations of asset price fluctuations.

Nonlinearities and Fractional Integration in the US Unemployment Rate*

AbstractThis paper proposes a model of the US unemployment rate which accounts for both its asymmetry and its long memory. Our approach introduces fractional integration and nonlinearities simultaneously into the same framework, using a Lagrange multiplier procedure with a standard null‐limit distribution. The empirical results suggest that the US unemployment rate can be specified in terms of a fractionally integrated process, which interacts with some nonlinear functions of labour‐demand variables such as real oil prices and real interest rates. We also find evidence of a long‐memory component. Our results are consistent with a hysteresis model with path dependency rather than a non‐accelerating inflation rate of unemployment (NAIRU) model with an underlying unemployment equilibrium rate, thereby giving support to more activist stabilization policies. However, any suitable model should also include business cycle asymmetries, with implications for both forecasting and policy‐making.

STATE DEPENDENT PRICING AND BUSINESS CYCLE ASYMMETRIES*

We present a tractable, dynamic general equilibrium model of state‐dependent pricing and study the response of output and prices to monetary policy shocks. We find important nonlinearities in these responses. For empirically relevant shocks, this generates substantially different predictions from time‐dependent pricing. We also find a distinct asymmetry with state‐dependent pricing: Prices respond more to positive shocks than they do to negative shocks. This is due to a strategic linkage between firms in the incentive for price adjustment. Our state‐dependent model can account for business cycle asymmetries in output of the magnitude found in empirical studies.

Oil prices, inflation and interest rates in a structural cointegrated VAR model for the G-7 countries

Sharp increases in the price of oil are generally seen as a major contributor to business cycle asymmetries. Moreover, the very recent highs registered in the world oil market are causing concern about possible slowdowns in the economic performance of the most developed countries. In this paper a structural cointegrated VAR model has been considered for the G-7 countries in order to study the direct effects of oil price shocks on output and prices, and the reaction of monetary variables to external shocks. Our results can be summarized as follows: i) a stationary money demand, as suggested by the classic theory of money, can be identified for most countries; ii) according to the estimated coefficients of the structural part of the model, for all countries except Japan and U.K. the null hypothesis of an influence of oil prices on the inflation rate cannot be rejected. Inflation rate shocks are transmitted to the real economy by increasing interest rates; iii) impulse response analysis suggests, for most countries, the existence of an instantaneous, temporary effect of oil price innovations on prices; iv) impulse response functions indicate different monetary policy reactions to inflationary and growth shocks; v) the simulation exercises directed to estimate the total impact of the 1990 oil price shock indicate that for some countries (U.S.) a significant part of the effects of the oil price shock is due to the monetary policy reaction function. For other countries (Canada, France and Italy), however, the total impact is offset, at least in part, by an easing of monetary conditions.

International Business Cycle Asymmetry and Time Irreversible Nonlinearities

Using tests of time reversibility, this paper provides further statistical evidence on the long-standing conjecture in economics concerning the potentially asymmetric behaviour of output over the expansionary and contractionary phases of the business cycle. A particular advantage of this approach is that it provides a discriminating test that is instructive as to whether any asymmetries detected are due to asymmetric shocks to a linear model, or an underlying non-linear model with symmetric shocks, and in the latter case is informative as to the potential form of that nonlinear model. Using a long span of international per capita output growth data, the asymmetry detected is overwhelmingly consistent with the long standing perception that the output business cycle is characterized by steeper recessions and longer more gentle expansions, but the evidence for this form of business cycle asymmetry is weaker in the data adjusted for the influence of outliers associated with wars and other extreme events. Statistically significant time irreversibility is reported for the output growth rates of almost all of the countries considered in the full sample data, and there is evidence that this time irreversibility is of a form implying an underlying nonlinear model with symmetrically distributed innovations for 15 of the 22 countries considered. However, the time irreversibility test results for the outlier-trimmed full sample data reveal significant time irreversibility in output growth for around one half of the countries considered, predominantly in Northern Europe and North America, and of a form implying a nonlinear underlying model in only a further half of those cases.

An Investigation of the Effects of Data Transformation on Nonlinearity

This paper investigates the effects of data transformation on nonlinearity by means of a simulation analysis based on empirical threshold models for the unemployment rate. Unemployment rate series are particularly suitable because they exhibit a number of interesting features: business cycle asymmetries, persistence, long memory and seasonality. The main finding is that evidence of nonlinearity is not independent of the form in which data are analysed and that most data transformations result in a loss of nonlinearity. This is particularly the case for seasonal adjustment transformations, which remove not only seasonality but also nonlinear features, as shown for the commonly applied Census X12 method.

Learning asymmetries in real business cycles

When a boom ends, the downturn is generally sharp and short. When growth resumes, the boom is more gradual. Our explanation rests on learning about productivity. When agents believe productivity is high, they work, invest, and produce more. More production generates higher precision information. When the boom ends, precise estimates of the slowdown prompt decisive reactions: investment and labor fall sharply. When growth resumes, low production yields noisy estimates of recovery. Noise impedes learning, slows recovery, and makes booms more gradual than downturns. A calibrated model generates growth rate asymmetry similar to macroeconomic aggregates. Fluctuations in agents’ forecast precision match observed countercyclical errors of forecasters. “ There is, however, another characteristic of what we call the trade cycle that our explanation must cover; namely, the phenomenon of the crisis—the fact that the substitution of a downward for an upward tendency often takes place suddenly and violently, whereas there is, as a rule, no such sharp turning point when an upward is substituted for a downward tendency.” J.M. Keynes ( 1936)

Detecting Business Cycle Asymmetries Using Artificial Neural Networks and Time Series Models

This study examines possible existence of business cycle asymmetries in Canada, France, Japan, UK, and USA real GDP growth rates using neural networks nonlinearity tests and tests based on a number...