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The Adjusted Solow Residual and Asset Returns (Subsequently published in "Eastern Economic Journal", 2007, 33,(2), pp. 231-255. )

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  • Jeong-Joon Lee

    (Department of Economics, Towson University)

Abstract

The purpose of this study is to examine the effects of a measured aggregate productivity shock on asset returns. To achieve this, a simple equilibrium business cycle model is presented to show that an aggregate productivity shock can be identified as a factor affecting asset returns. The paper uses the Solow residual to measure productivity changes, but deviates from standard practice by incorporating variations in capital utilization rates. The paper first develops the theoretical link between productivity shocks and asset returns with no adjustment costs, and then tests that link with the two measures of productivity, the Solow residual with and without variation in capital utilization. Results based on U.S post-war data show significant differences in the dynamic impacts of these two measures of productivity. The VAR evidence suggests that technology changes, measured with variation in capital utilization, have a delayed impact on asset returns, a distinct finding. Finally, policy implications of the findings are discussed.

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Bibliographic Info

Paper provided by Center for Advanced Research in Finance, Faculty of Economics, The University of Tokyo in its series CARF F-Series with number CARF-F-056.

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Length: 46 pages
Date of creation: Jan 2006
Date of revision:
Handle: RePEc:cfi:fseres:cf056

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  1. Robert E. Hall, 2004. "Measuring Factor Adjustment Costs," The Quarterly Journal of Economics, MIT Press, vol. 119(3), pages 899-927, August.
  2. John Moore & Nobuhiro Kiyotaki, . "Credit Cycles," Discussion Papers 1995-5, Edinburgh School of Economics, University of Edinburgh.
  3. Roberto Rigobon & Brian P. Sack, 2002. "The Impact of Monetary Policy on Asset Prices," NBER Working Papers 8794, National Bureau of Economic Research, Inc.
  4. Owen Lamont, 1999. "Investment Plans and Stock Returns," NBER Working Papers 6973, National Bureau of Economic Research, Inc.
  5. Christopher J. Erceg & Luca Guerrieri & Christopher Gust, 2005. "Can Long-Run Restrictions Identify Technology Shocks?," Journal of the European Economic Association, MIT Press, vol. 3(6), pages 1237-1278, December.
  6. Susanto Basu & John G. Fernald, 1996. "Returns to scale in U.S. production: estimates and implications," International Finance Discussion Papers 546, Board of Governors of the Federal Reserve System (U.S.).
  7. Chen, Nai-Fu & Roll, Richard & Ross, Stephen A, 1986. "Economic Forces and the Stock Market," The Journal of Business, University of Chicago Press, vol. 59(3), pages 383-403, July.
  8. Serena Ng & Pierre Perron, 2001. "LAG Length Selection and the Construction of Unit Root Tests with Good Size and Power," Econometrica, Econometric Society, vol. 69(6), pages 1519-1554, November.
  9. Alain Paquet & Benoit Robidoux, 1997. "Issues on the Measurement of the Solow Residual and the Testing of its Exogeneity: a Tale of Two Countries," Cahiers de recherche CREFE / CREFE Working Papers 51, CREFE, Université du Québec à Montréal.
  10. Kocherlakota, N., 1995. "The Equity Premium: It's Still a Puzzle," Working Papers 95-05, University of Iowa, Department of Economics.
  11. Jermann, Urban J., 1998. "Asset pricing in production economies," Journal of Monetary Economics, Elsevier, vol. 41(2), pages 257-275, April.
  12. Cochrane, John H, 1996. "A Cross-Sectional Test of an Investment-Based Asset Pricing Model," Journal of Political Economy, University of Chicago Press, vol. 104(3), pages 572-621, June.
  13. Marianne Baxter & Dorsey Farr, 2001. "Variable Factor Utilization and International Business Cycles," NBER Working Papers 8392, National Bureau of Economic Research, Inc.
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