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Title: Determinacy Through Intertemporal Capital Adjustment Costs

Author(s): Berthold Herrendorf and Akos Valentinyi

Publication Date: October 2002

Keyword(s): capital adjustment costs, determinacy, local indeterminacy, local stability and sector-specific externality

Programme Area(s): International Macroeconomics

Abstract: It is well known that if there are mild sector-specific externalities, then the steady state of the standard two-sector real business cycle model can become locally indeterminate and endogenous business cycles can arise. We show that this result is not robust to the introduction of standard intertemporal capital adjustment costs, which may accrue when total capital is adjusted or when each sector?s capital is adjusted. We find for both forms of adjustment costs that the steady state is determinate for all empirically plausible parameter values. We also find that determinacy occurs for a much larger range of parameter values when adjusting each sector?s capital is costly.

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Bibliographic Reference

Herrendorf, B and Valentinyi, A. 2002. 'Determinacy Through Intertemporal Capital Adjustment Costs'. London, Centre for Economic Policy Research. https://cepr.org/active/publications/discussion_papers/dp.php?dpno=3581