Despite the substantial effort devoted to measuring the dynamic effects of shocks, policies, capital investment and stability on aggregate output, macroeconomists have largely ignored those of disaggregate dynamics. For example, common theories of the business cycle cannot capture any significant fluctuations in aggregate output induced by the interregional relocation of economic activity. In Discussion Paper No. 873, Research Fellow Danny Quah investigates the interregional distribution of US nominal per capita personal income over 1982-90 and finds substantial divergence across states. This may require models of `the' technology, monetary or aggregate demand shock to be modified to account for the differential effects of `the' business cycle on individual regions or the spillover effects of their independent, exogenous fluctuations on each other and hence on the aggregate economy.

Quah studies the distribution of US states' income relative to the national average over time by estimating a matrix of `transition probabilities' that regions will shift their relative positions from one period to the next. He then tests for a causal relationship between (aggregate) real GNP growth and the regional income distribution's shape and finds that aggregate real GNP growth helps to predict the dynamics of the 0.6 quantile (the point in the distribution below which 60% of states' incomes lie) but not vice versa; aggregate GNP growth and the distribution's maximum exhibit the reverse relationship. No single state or region displays these characteristics, however, since different states were at the 0.6 quantile and the top of the distribution over the period. Quah concludes that the distribution of regional incomes interacts with aggregate output but not in any simple direct way; the identity of states or regions is less important than their locations within the overall dynamically evolving distribution. These preliminary results suggest that conventional aggregate models cannot capture the relationship between regional movements and aggregate fluctuations; indeed, many observed aggregate business cycles may not be induced by single large shocks.

One Business Cycle and One Trend from (Many) Many Disaggregates
Danny Quah

Discussion Paper No. 873, January 1994 (IM)