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What's real about the business cycle?

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  • James D. Hamilton

Abstract

This paper argues that a linear statistical model with homoskedastic errors cannot capture the nineteenth-century notion of a recurring cyclical pattern in key economic aggregates. A simple nonlinear alternative is proposed and used to illustrate that the dynamic behavior of unemployment seems to change over the business cycle, with the unemployment rate rising more quickly than it falls. Furthermore, many but not all economic downturns are also accompanied by a dramatic change in the dynamic behavior of short-term interest rates. It is suggested that these nonlinearities are most naturally interpreted as resulting from short-run failures in the employment and credit markets and that understanding these short-run failures is the key to understanding the nature of the business cycle.

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Bibliographic Info

Article provided by Federal Reserve Bank of St. Louis in its journal Review.

Volume (Year): (2005)
Issue (Month): Jul ()
Pages: 435-452

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Handle: RePEc:fip:fedlrv:y:2005:i:jul:p:435-452:n:v.87no.4

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Keywords: Business cycles ; Unemployment ; Interest rates;

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References

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  1. Miron, Jeffrey A, 1986. "Financial Panics, the Seasonality of the Nominal Interest Rate, and theFounding of the Fed," American Economic Review, American Economic Association, vol. 76(1), pages 125-40, March.
  2. Marine Carrasco & Liang Hu, 2004. "Optimal test for Markov switching," 2004 Meeting Papers 374, Society for Economic Dynamics.
  3. Hamilton, James D., 1987. "Monetary factors in the great depression," Journal of Monetary Economics, Elsevier, vol. 19(2), pages 145-169, March.
  4. Philip Rothman, 1998. "Forecasting Asymmetric Unemployment Rates," The Review of Economics and Statistics, MIT Press, vol. 80(1), pages 164-168, February.
  5. Stock, James H, 1987. "Measuring Business Cycle Time," Journal of Political Economy, University of Chicago Press, vol. 95(6), pages 1240-61, December.
  6. Andrew Ang & Geert Bekaert, 1998. "Regime Switches in Interest Rates," NBER Working Papers 6508, National Bureau of Economic Research, Inc.
  7. Pablo A. Neumeyer & Fabrizio Perri, 2004. "Business cycles in emerging economies: the role of interest rates," Staff Report 335, Federal Reserve Bank of Minneapolis.
  8. Arthur F. Burns & Wesley C. Mitchell, 1946. "Measuring Business Cycles," NBER Books, National Bureau of Economic Research, Inc, number burn46-1.
  9. Brock, William A. & Mirman, Leonard J., 1972. "Optimal economic growth and uncertainty: The discounted case," Journal of Economic Theory, Elsevier, vol. 4(3), pages 479-513, June.
  10. Kydland, Finn E & Prescott, Edward C, 1982. "Time to Build and Aggregate Fluctuations," Econometrica, Econometric Society, vol. 50(6), pages 1345-70, November.
  11. Garcia, Rene, 1998. "Asymptotic Null Distribution of the Likelihood Ratio Test in Markov Switching Models," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 39(3), pages 763-88, August.
  12. van Dijk, Dick & Franses, Philip Hans & Paap, Richard, 2002. "A nonlinear long memory model, with an application to US unemployment," Journal of Econometrics, Elsevier, vol. 110(2), pages 135-165, October.
  13. James D. Hamilton, 1988. "Role Of The International Gold Standard In Propagating The Great Depression," Contemporary Economic Policy, Western Economic Association International, vol. 6(2), pages 67-89, 04.
  14. Granger, Clive W.J. & Machina, Mark J., 2006. "Structural attribution of observed volatility clustering," Journal of Econometrics, Elsevier, vol. 135(1-2), pages 15-29.
  15. Hamilton, James D., 1996. "Specification testing in Markov-switching time-series models," Journal of Econometrics, Elsevier, vol. 70(1), pages 127-157, January.
  16. Stock, James H., 1987. "Measuring Business Cycle Time," Scholarly Articles 3425950, Harvard University Department of Economics.
  17. J. Bradford De Long & Lawrence H. Summers, 1986. "Are Business Cycles Symmetric?," NBER Working Papers 1444, National Bureau of Economic Research, Inc.
  18. Wesley Clair Mitchell, 1927. "Business Cycles: The Problem and Its Setting," NBER Books, National Bureau of Economic Research, Inc, number mitc27-1.
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Citations

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Cited by:
  1. Chai, Jian & Guo, Ju-E. & Meng, Lei & Wang, Shou-Yang, 2011. "Exploring the core factors and its dynamic effects on oil price: An application on path analysis and BVAR-TVP model," Energy Policy, Elsevier, vol. 39(12), pages 8022-8036.
  2. Alisdair McKay & Ricardo Reis, 2006. "The Brevity and Violence of Contractions and Expansions," NBER Working Papers 12400, National Bureau of Economic Research, Inc.
  3. Thomas B. King, 2005. "Labor productivity and job-market flows: trends, cycles, and correlations," Supervisory Policy Analysis Working Papers 2005-04, Federal Reserve Bank of St. Louis.
  4. Benoit Bellone, 2005. "Classical Estimation of Multivariate Markov-Switching Models using MSVARlib," Econometrics 0508017, EconWPA.
  5. Spyros Andreopoulos, 2006. "The real interest rate, the real oil price, and US unemployment revisited," Bristol Economics Discussion Papers 06/592, Department of Economics, University of Bristol, UK.
  6. Julie L. Hotchkiss & John C. Robertson, 2006. "Asymmetric labor force participation decisions over the business cycle: evidence from U.S. microdata," Working Paper 2006-08, Federal Reserve Bank of Atlanta.
  7. Mark W. Watson, 2005. "Commentary on "what's real about the business cycle?"," Review, Federal Reserve Bank of St. Louis, issue Jul, pages 453-458.
  8. Çakmaklı, Cem & Paap, Richard & van Dijk, Dick, 2013. "Measuring and predicting heterogeneous recessions," Journal of Economic Dynamics and Control, Elsevier, vol. 37(11), pages 2195-2216.
  9. Kang, Wensheng & Ratti, Ronald A., 2013. "Structural oil price shocks and policy uncertainty," MPRA Paper 49007, University Library of Munich, Germany.
  10. Yetman, James, 2011. "Exporting recessions: International links and the business cycle," Economics Letters, Elsevier, vol. 110(1), pages 12-14, January.

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