Business Cycle Dynamics Research Articles

Shock persistence, uncertainty, and news-driven business cycles

Abstract This paper distinguishes news about short-lived events from news about changes in longer term prospects using surveys of expectations. Employing a multivariate GARCH-in-Mean model for the US, the paper illustrates how the different types of news influence business cycle dynamics. The influence of transitory output shocks can be relatively large on impact but gradually diminishes over two to three years. Permanent shocks drive the business cycle, generating immediate stock price reactions and gradually building output effects, although they have more immediate output effects during recessions through the uncertainties they create. Markedly different macroeconomic dynamics are found if these explicitly identified types of news or uncertainty feedbacks are omitted from the analysis.

Labour market skills, endogenous productivity and business cycles

This paper analyses how labour market heterogeneity affects unemployment, productivity and business cycle dynamics. To this aim, we set up a model with asymmetric search and matching frictions across skilled and unskilled workers, and endogenous productivity through R&D investment and intangible capital accumulation. Skill mismatch and skill-specific labour market institutions have three main effects on business cycles and growth dynamics. First, the relative scarcity of skilled workers increases the natural rate of unemployment and reduces total factor productivity with long-run effects on the growth rate of output. Second, skill heterogeneity in the labour market generates asymmetric outcomes and amplifies measures of employment, wages and consumption inequality. Finally, the model provides important insights for the Phillips and Beveridge curves. Incorporating skill heterogeneity leads to a flattening of the Phillips curve as wages and unemployment respond unevenly across skill types. Also, the model generates sideward shifts of the Beveridge curve following business cycle shocks, with the extent of these shifts depending on the degree of skill heterogeneity.

Business Cycle Dynamics in the Romanian Economy: Phases and Developments

Romania's economy is not yet sufficient / complete and competitive connected to the developed European economy and the global one. In recent economic and general political history, the political, institutional and economic changes that have taken place since 1990 in Central and Eastern Europe, including Romania, are already recognized. The article deals with the evolutionary situational stages towards the New Economy of Romania. It also describes the post-transformation horizon for achieving quasi-constant inverted levels between “tangible-intangible” for the transition to a new business cycle in the New Knowledge-Based Economy and Risk. It follows that if GDP reflects the sum of the market value of all goods and services intended for final consumption, not intermediate ones, produced in all branches of the economy within Romania within a year, by way of investigative proximity, business and cycles of manifestation of these were closely followed by dimensional evolutionary trends of similarity and aggregation with GDP. In fact, the New Knowledge-Based Economy has radically and positively changed Romania's advance towards the digitalized society, based more and more on the operationalization of intangible assets. The problem of vision, strategy and development tactics through new business cycles is found in the search for the optimal structural ratio between tangible and intangible assets (knowledge) insurers for competitiveness and sustainability. Keywords: business cycle, Romanian economy, business, entrepreneurship, investment, new knowledge-based economy, tangible assets, intangible assets

Examining business cycles and optimal monetary policy in a regional DSGE model

I construct a dynamic stochastic general equilibrium (DSGE) model consisting of geographic regions and use state level data to estimate the effects that monetary policy and financial shocks have on the four census regions of the United States. The DSGE model I use is constructed around a centralized monetary authority and financial market with regional output, labor and investment markets. I find significant heterogeneity amongst the regional structural parameters of the model, creating different business cycle dynamics for the four regions. The estimated model aligns with other economic studies that suggest that monetary shocks have a greater impact in certain geographic regions in terms of employment, inflation, wages, and consumption. Simulating the estimated model, I find that monetary policy that considers the regional variation in output and inflation can significantly lower the volatility around national output and inflation. The paper’s results suggest that regional macroeconomic conditions should be considered in monetary policy decisions.

Capital flow dynamics and the synchronization of financial cycles and business cycles in emerging market economies

This study assesses the dynamics of capital flow, financial cycles, and business cycles in Emerging Market Economies (EMEs). We show that: (a) capital flow cycles tend to be more volatile than financial and business cycles, (b) although significant heterogeneities exist in the dynamics of these cycles across EMEs, financial and business cycles tend to be similar in terms of amplitudes, (c) significant concordance exists between different cycles and between the same cycles across countries, and (d) capital flow cycles tend to lead financial and business cycles. These findings provide clear guidance on the use of central bank policy mix strategy in response to capital flows, financial, and business cycles. Our results also imply strong interconnection between EMEs, in the sense that they appear to simultaneously experience expansions and recessions.

Estimating financial integration in Europe: How to separate structural trends from cyclical fluctuations

We construct a new indicator of de facto financial integration for the EU. The resulting indicator is pro-cyclical as it evolves along the cyclical pattern of economic activity in the European Union. It is then appended to a set of relevant financial and macroeconomic variables, within a FAVAR framework, to allow us to separate the impact of cyclical boom-bust shocks from structural integration shocks. Increasing structural financial integration tends to improve risk absorption and reduce income disparities among European countries. However, our analysis suggests that most of the movements in the indicator reflect business cycle dynamics, not proper integration. Given the estimated beneficial effects of stronger structural financial integration, these results highlight the need to develop further policies to foster it in the EU.

Inter-industry trade and business cycle dynamics

Abstract Motivated by the increased importance of trade between industrialized and less-developed countries, we build a two-sector dynamic stochastic general equilibrium model featuring inter-industry trade as well as intra-industry trade to analyze the business cycle dynamics of industrialized countries. We find that import-competing sectors are more sensitive to domestic productivity shocks than exporting sectors, due to their stronger reliance on domestic demand. This generates pressure to adjust relative prices and to reallocate factors of production. It also propagates the international spillover effects of productivity shocks leading to stronger business cycle comovement across countries, relative to a traditional business cycle model that does not feature inter-industry trade.

Fiscal Policy and Business Cycle Dynamics in Morocco: An Empirical Study

Fiscal Policy and Business Cycle Dynamics in Morocco: An Empirical Study

Macroeconomic Health Shocks and Business Cycle Dynamics

The article is a study of the impact of macroeconomic health shocks in their role as business cycle fluctuation factors. They appear in the form of exogenous shocks for the economic system, influencing macroeconomic activity. The analysis contributes to the develop­ment of a better understanding of those types of shock in two aspects. The first aspect is in relation to a clearer delineation of their idiosyncrasies. The second aspect is in regard to the study of their contemporary dimensions. In order to do that, a comparative analysis of their influence on business cycle dynamics is conducted in two directions. The first one compares the exogenous health factors in the last two decades. The epidemics of SARS-CoV-1, H5N1, H7N9, and EVD are included, as well as the SARS-CoV-2 pandemic. The study examines each of them, evaluating how much their characteristics comply with the criteria defining an exog­enous macroeconomic shock. The second direction realizes a comparative analysis in a longer historical context, focusing on the manifestation of the Spanish flu during the 1918-1920 period.

Comparing the dynamics of financial and business cycles in the BRICS countries

Subject. The BRICS countries are among the fastest developing and growing economies. However, research on relationship between their financial and business cycles is insufficient. The article intends to address this gap and provide such information. Objectives. The aim is to determine the main characteristics of cycle phases (amplitude and duration) for the BRICS countries and to assess the degree of their synchronization. Methods. The study employs an algorithm for periodization of various phases of financial and business cycles, proposed by D. Harding and A. Pagan in 2003, the analysis of concordance coefficients to determine the degree of synchronization of different cycles, and the logistic regression to quantify the probability of recession in the real sector, if there is a crisis in the financial sector. Results. The findings revealed a high degree of synchronization of financial and business cycles in the BRICS countries, comparable to the EU member States. At the same time, the degree of synchronization changes during crisis events and after political decisions. The degree of synchronization of business cycles turns out to be much higher than financial cycles. Conclusions. The findings should be considered when coordinating the economic policies of the BRICS countries. Using certain fiscal, monetary, or macroprudential tools, countries should take into account that their decisions will also affect other member countries of this organization.

Estimation of DSGE Models with the Effective Lower Bound

We propose a new approach for the efficient and robust Bayesian estimation of medium- and large-scale DSGE models with occasionally binding constraints. At its core lies the Ensemble Kalman filter, a novel nonlinear recursive filter, which allows for fast likelihood approximations even for models with large state spaces. We combine the filter with a computationally efficient solution method for piece-wise linear models a state-of-the-art MCMC sampler. Using artificial data, we demonstrate that our approach accurately captures the true parameters of models with a lower bound on nominal interest rates, even with very long lower bound episodes. We use the approach to analyze the US business cycle dynamics until the Covid-19 pandemic, with a focus on the long lower bound episode after the Global Financial Crisis.

Dollar invoicing, global value chains, and the business cycle dynamics of international trade

This paper reexamines the relationship between monetary policy, exchange rates and international trade in a world characterized by the dominant currency paradigm and global value chains. Using a three-country dynamic stochastic general equilibrium (DSGE) model, it documents key differences between the response of gross and value added trade flows to interest rate shocks, and offers a framework to test them in the data. The exercise uncovers a new margin of adjustment where value added trade flows react significantly to shocks, even as gross trade flows that are typically measured in the data remain relatively flat. This provides a reconciliation between the output effects of textbook models that assume producer currency pricing and no value chains, and the low aggregate exchange rate passthrough and muted adjustment of gross trade flows that has been documented in the data.

Is the exchange rate a shock absorber? The shocks matter

This paper provides a new perspective on the relationship between exchange rate fluctuations and business cycle dynamics by focusing on the underlying macroeconomic shocks. We study how domestic and global macroeconomic shocks, which we identify using zero and sign restrictions, are transmitted through exchange rate adjustments in 8 small open economies. Based on a counterfactual analysis, we find that the capacity of the exchange rate to absorb business cycle fluctuations depends on the underlying shock and differs across the short and the medium run. Following domestic aggregate demand shocks, endogenous exchange rate dynamics stabilize real GDP, primarily in the short run, and inflation dynamics over the medium run, while they amplify the effects of monetary policy shocks. Following domestic aggregate supply as well as global shocks the exchange rate exerts only small effects.

The Federal Reserve's output gap: The unreliability of real‐time reliability tests

SummaryOutput gap revisions can be large even after many years. Real‐time reliability tests might therefore be sensitive to the choice of the final output gap vintage that the real‐time estimates are compared to. This is the case for the Federal Reserve's output gap. When accounting for revisions in response to the global financial crisis in the final output gap, the improvement in real‐time reliability since the mid‐1990s is much smaller than found by Edge and Rudd (Review of Economics and Statistics, 2016, 98(4), 785–791). The negative bias of real‐time estimates from the 1980s has disappeared, but the size of revisions continues to be as large as the output gap itself. We systematically analyse how the real‐time reliability assessment is affected through varying the final output gap vintage. We find that the largest changes are caused by output gap revisions after recessions. Economists revise their models in response to such events, leading to economically important revisions for not only the most recent years but also reaching back up to two decades. This might improve the understanding of past business cycle dynamics but decreases the reliability of real‐time output gaps ex post.

Technology shocks - Gold market connection: Is the effect episodic to business cycle behaviour?

We explore the connection between technology shocks (TS) and gold return volatility using the various variants of the newly developed TS data and covering several decades from 1950. The consideration for a long range of data affords us to test whether or not the nexus is sensitive to business cycle dynamics. We employ the GARCH-MIDAS framework to establish the connection owing to the mixed data frequencies of the variables of interest. Overall, we find that technological innovations drive higher volatilities in the gold market from a long term perspective. Examining the role of business cycles in the nexus, we partition the analyses into expansion and recession periods. Consequently, we show that the role of business cycles is indeed crucial as the TS increase the level of gold volatility during the period of expansion relative to the period of recession. This justifies that improvements in the economy may further stimulate technological innovations, and by extension, enhance the trading activity in the gold market. Finally, we also demonstrate the forecast gains of including the TS in the predictive model of gold volatility rather than subsuming it in the (aggregate) market risk. Our results are robust to multiple out-of-sample forecast horizons and alternative measures of gold returns, and technology shocks.

Sentiment-driven business cycle dynamics: An elementary macroeconomic model with animal spirits

We propose an elementary macroeconomic model with animal spirits in which aggregate investment expenditure depends on firms’ sentiment. Firms display one of three sentiment states. When national income increases (decreases) strongly, firms are optimistic (pessimistic) and aggregate investment expenditure is high (low). Otherwise, firms are neutral and aggregate investment expenditure is normal. A rigorous mathematical analysis of our elementary macroeconomic model sheds new light on how animal spirits may contribute to fluctuations in economic activity. In particular, we show that a bidirectional feedback process between national income and investor sentiment may create endogenous business cycles that coevolve with waves of optimism and pessimism.

A Literature Study on Business Cycle Theory

Business cycle theory is always a research focus during the last couple of decades as a tool to explain the fluctuation in economic growth. In chronological order, this review sorts out the theories trying to explain the business cycle into five main influential schools of economics based on previous studies: Keynesian economics, Monetarism, New classical economics, Real business cycle theory, and New Keynesian economics. This review summarizes these theories respectively, introducing their origins, main mechanism, related models and empirical evidence, drawbacks, and challenges they face from other economists. Meanwhile, this review also compares the differences and similarities between each theory from three aspects: the determinant of aggregate production, the driving force of the business cycle dynamics, and the effectiveness of fiscal and monetary policies. The motivation is to gain a general view of modern business cycle theory to provoke thinking in long-term growth and short-term fluctuations in economic activities to support further research.

Leasing as a Mitigation of Financial Accelerator Effects

Abstract We document that leased capital accounts for about 20% of total physical productive assets used by US public firms, and its proportion is more than 40% among small and financially constrained firms. The leased capital ratio exhibits a strong countercyclical pattern over business cycles and a positive correlation with cross-sectional idiosyncratic uncertainty. We argue that existing macro models with financial frictions assume that firms cannot rent capital and overlook the effects of leasing activities on business cycle dynamics. We explicitly introduce a buy-versus-lease decision into the Bernanke–Gertler–Gilchrist financial accelerator model setting to demonstrate a novel and quantitatively important economic mechanism: that the increased use of leased capital when financial constraints become tighter in bad states significantly mitigates the financial accelerator mechanism and thus also mitigates the response of macroeconomic variables to negative total factor productivity shocks and risk shocks. We provide strong empirical evidence to support our mechanism.

CBDC and Business Cycle Dynamics in a New Monetarist New Keynesian Model

CBDC and Business Cycle Dynamics in a New Monetarist New Keynesian Model

Recession Signals and Business Cycle Dynamics: Tying the Pieces Together

Examining a parsimonious, yet comprehensive, set of recession signals yields three lessons. First, signals from financial markets, leading indicators of activity, and gauges of the macroeconomic environment are each useful at different horizons, with leading indicators and financial signals informative at short horizons and the state of the business cycle at medium horizons. Second, approaches emphasizing the yield curve overstate the recession signal from the term spread if other factors are not considered; given correlations among indicators, these differences are often small, but were large in 2022. Finally, simulations of a reduced-form vector autoregression of unemployment and financial conditions, which captures the time-series properties of the series well, suggest the patterns are consistent with a typical hump-shape characterization of business cycle dynamics; this synthesis tightens the connections of the recession prediction literature with the business-cycle literature.