DP7878 Business Cycles With A Common Trend in Neutral and Investment-Specific Productivity

Author(s): Stephanie Schmitt-Grohé, Martín Uribe
Publication Date: June 2010
Keyword(s): Common Trend, Investment Specific Technlogy Shocks, Maximum Likelihood Estimation of DSGE Model, Neutral Technology Shocks, Sources of Business Cycles
JEL(s): E31
Programme Areas: International Macroeconomics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=7878

This paper identifies a new source of business-cycle fluctuations. Namely, a common stochastic trend in neutral and investment-specific productivity. We document that in U.S. postwar quarterly data total factor productivity (TFP) and the relative price of investment are cointegrated. We show theoretically that TFP and the relative price of investment are cointegrated if and only if neutral and investment-specific productivity share a common stochastic trend. We econometrically estimate an RBC model augmented with a number of real rigidities and driven by a multitude of shocks. We find that in the context of our estimated model, innovations in the common stochastic trend explain a sizable fraction of the unconditional variances of output, consumption, investment, and hours.