Sources Of Aggregate Fluctuations Research Articles

Policy Effects in a Simple Fully Non-Linear New Keynesian Model of the Liquidity Trap

We analyze a simple yet fully non-linear New Keynesian model of the liquidity trap. Productivity shocks are the only source of aggregate fluctuations and the central bank acts as a discretionary policy maker that pursues an inflation targeting strategy. We use this model to assess the effects of fiscal policy in a liquidity trap, the consequences of a commitment to change government expenditures in the future as well as the implications of lower taxes on labor and a higher inflation target. In contrast with some previous papers, we find that the effects of fiscal policy in a liquidity trap are moderate and that reductions in labor income taxes are expansionary. We do not find support for higher inflation targets.

Closed and Open Economy Models of Business Cycles with Marked Up and Sticky Prices

Shifts in the extent of competition, which affect markups, are possible sources of aggregate fluctuations. Markups are countercyclical; during booms the economy operates more efficiently. In our benchmark model, markups correspond to the prices of differentiated inputs relative to that of undifferentiated final product. If nominal prices of differentiated goods are relatively sticky, unexpected inflation reduces markups, mimicking the effects of increased competition. Similar effects stem from reductions in markups of foreign intermediates and unexpected inflation abroad. The models imply that prices of less competitive goods are more countercyclical. We find support for this hypothesis using data of four-digit manufacturing industries.

The business cycle with nominal contracts

In this paper we study the quantitative implications of nominal wage contracts for business cycle fluctuations. We address this issue using a model economy based on the neoclassical growth model supplemented by the assumption that cash is needed to purchase goods. We consider a variation of the standard recursive competitive equilibrium concept that is intended to capture the important features of wage contracting. We use this equilibrium construct to address three issues. First, we consider whether monetary shocks, propagated by nominal contracts, constitute a viable alternative to technology shocks as a source of aggregate fluctuations. Our results suggest that, while monetary shocks and nominal rigidities succeed in causing output volatility of the required magnitude, the resulting data have properties that are inconsistent with several key features of U.S. data. Second, we consider how the behavior of the economy varies with contract length. We find that the volatility induced by both monetary and technology shocks increases sharply with contract length. Finally we consider how much rigidity would be necessary to match the volatility of U.S. output. We find that only a very small amount of rigidity would be necessary to cause output volatility of the magnitude observed.

Hours and employment variation in business cycle theory

In previous studies (Kydland and Prescott, 1982 and 1988a) we estimate the importance of variations in the Solow technology parameter as a source of aggregate fluctuations. We find that they were a major source accounting for over half of the fluctuations in the output of the American economy in the period immediately after the Korean War. These conclusions are based upon the study of model economies with the property that all workers work the same number of hours in equilibrium and that there is no variation in the number employed. Hansen (1985) studied a growth economy with the Roger- son (1988) labour indivisibilities. In his environment individuals are constrained each period either to work some fixed number of hours or not to work at all. By construction, it is the number employed rather than the hours worked per employed person that varies. In such worlds the aggregate willingness of people to substitute leisure intertemporally is considerably higher than that of the individuals whose behaviour is being aggregated. For the Hansen economy, fluctuations exceeded those experienced by the US economy in the period immediately after the Korean War.