Economic Theory

, Volume 32, Issue 1, pp 43–58 | Cite as

Why have business cycle fluctuations become less volatile?

Symposium

Abstract

This paper shows that a standard Real Business Cycle model driven by productivity shocks can successfully account for the 50% decline in cyclical volatility of output, its components, and labor input that has occurred since 1983. The model is successful because the volatility of productivity shocks has also declined significantly over the same time period. We then investigate whether the decline in the volatility of the Solow Residual is due to changes in the volatility of some other shock operating through a channel that is absent in the standard model. We therefore develop a model with variable capacity and labor utilization. We investigate whether government spending shocks, shocks that affect the household’s first order condition for labor, and shocks that affect the household’s first order condition for saving can plausibly account for the change in TFP volatility and in the volatility of output, its components, and labor. We find that none of these shocks are able to do this. This suggests that successfully accounting for the post-1983 decline in business cycle volatility requires a change in the volatility of a productivity-like shock operating within a standard growth model.

Keywords

Aggregate fluctuations Volatility Real business cycles Factor utilization Technology shocks 

JEL Classification Number

E32 

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Copyright information

© Springer-Verlag 2007

Authors and Affiliations

  • Andres Arias
    • 1
  • Gary D. Hansen
    • 2
    • 3
  • Lee E. Ohanian
    • 2
    • 3
    • 4
  1. 1.Ministerio de Agricultura y Desarrollo RuralBogotáRepublic of Colombia
  2. 2.UCLALos AngelesUSA
  3. 3.NBERCambridgeUSA
  4. 4.Federal Reserve Bank of MinneapolisMinneapolisUSA

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