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Are structural VARs with long-run restrictions useful in developing business cycle theory?

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V. V. Chari
Patrick J. Kehoe
Ellen R. McGrattan

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Abstract

The central finding of the recent structural vector autoregression (SVAR) literature with a differenced specification of hours is that technology shocks lead to a fall in hours. Researchers have used this finding to argue that real business cycle models are unpromising. We subject this SVAR specification to a natural economic test and show that when applied to data from a multiple-shock business cycle model, the procedure incorrectly concludes that the model could not have generated the data as long as demand shocks play a nontrivial role. We also test another popular specification, which uses the level of hours, and show that with nontrivial demand shocks, it cannot distinguish between real business cycle models and sticky price models. The crux of the problem for both SVAR specifications is that available data require a VAR with a small number of lags and such a VAR is a poor approximation to the model’s VAR. ; Formerly titled: A critique of structural VARs using business cycle theory ; Originally Working paper no. 631

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Paper provided by Federal Reserve Bank of Minneapolis in its series Staff Report with number 364.

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Date of creation: 2007
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Handle: RePEc:fip:fedmsr:364

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Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
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  7. Chari, V.V. & Kehoe, Patrick J. & McGrattan, Ellen R., 2008. "Are structural VARs with long-run restrictions useful in developing business cycle theory?," Journal of Monetary Economics, Elsevier, vol. 55(8), pages 1337-1352, November. [Downloadable!] (restricted)
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  29. McGrattan, Ellen R., 1994. "The macroeconomic effects of distortionary taxation," Journal of Monetary Economics, Elsevier, vol. 33(3), pages 573-601, June. [Downloadable!] (restricted)
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Jesus Fernandez-Villaverde & Juan F. Rubio-Ramirez & Thomas J. Sargent, 2005. "A, B, C’s (And D’s) For Understanding VARS," PIER Working Paper Archive 05-018, Penn Institute for Economic Research, Department of Economics, University of Pennsylvania. [Downloadable!]
    Other versions:
  2. Robert B. Barsky & Eric R. Sims, 2009. "News Shocks," NBER Working Papers 15312, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  3. Giannone, Domenico & Reichlin, Lucrezia, 2006. "Does Information Help Recovering Structural Shocks from Past Observations?," CEPR Discussion Papers 5725, C.E.P.R. Discussion Papers. [Downloadable!] (restricted)
    Other versions:
  4. Federico Ravenna, 2006. "Vector autoregressions and reduced form representations of DSGE models," Banco de España Working Papers 0619, Banco de España. [Downloadable!]
  5. Elmar Mertens, 2005. "Puzzling Comovements between Output and Interest Rates? Multiple Shocks are the Answer," Working Papers 05.05, Swiss National Bank, Study Center Gerzensee. [Downloadable!]
  6. Carlo Favero & Francesco Giavazzi, 2007. "Debt and the effects of fiscal policy," Working Papers 07-4, Federal Reserve Bank of Boston. [Downloadable!]
    Other versions:
  7. Jon Faust, 2009. "Commentary on Issues on potential growth measurement and comparison: how structural is the production function approach?," Review, Federal Reserve Bank of St. Louis, issue Jul, pages 241-246. [Downloadable!]
  8. Peter N. Ireland & Scott Schuh, 2006. "Productivity and U.S. macroeconomic performance: interpreting the past and predicting the future with a two-sector real business cycle model," Working Papers 06-10, Federal Reserve Bank of Boston. [Downloadable!]
    Other versions:
  9. Zeno Enders & Gernot J. Mueller, 2006. "S-Curve Redux: On the International Transmission of Technology Shocks," Economics Working Papers ECO2006/36, European University Institute. [Downloadable!]
  10. Andreas Beyer & Roger E. A. Farmer, 2006. "A method to generate structural impulse-responses for measuring the effects of shocks in structural macro models," Working Paper Series 586, European Central Bank. [Downloadable!]
  11. Uluc Aysun, 2006. "Testing for Balance Sheet Effects in Emerging Market Countries," Working papers 2006-28, University of Connecticut, Department of Economics. [Downloadable!]
  12. Belzil, Christian & Hansen, Jörgen, 2008. "Calibration and IV Estimation of a Wage Outcome Equation in a Dynamic Environment," IZA Discussion Papers 3528, Institute for the Study of Labor (IZA). [Downloadable!]
  13. Domenico Giannone & Lucrezia Reichlin, 2005. "Does information help recovering fundamental structural shocks from past observations?," Macroeconomics 0511017, EconWPA. [Downloadable!]
  14. Peter N. Ireland, 2007. "On the Welfare Cost of Inflation and the Recent Behavior of Money Demand," Boston College Working Papers in Economics 662, Boston College Department of Economics. [Downloadable!]
    Other versions:
  15. Ellen R. McGrattan, 2006. "Measurement with minimal theory," Working Papers 643, Federal Reserve Bank of Minneapolis. [Downloadable!]
    Other versions:
  16. Paul Beaudry & Bernd Lucke, 2009. "Letting Different Views about Business Cycles Compete," NBER Working Papers 14950, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  17. V. V. Chari & Patrick J. Kehoe & Ellen R. McGrattan, 2008. "Are Structural VARs with Long-Run Restrictions Useful in Developing Business Cycle Theory?," NBER Working Papers 14430, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  18. Yi Wen, 2005. "By force of demand: explaining international comovements and the saving-investment correlation puzzle," Working Papers 2005-043, Federal Reserve Bank of St. Louis. [Downloadable!]
  19. Luca Dedola & Stefano Neri, 2006. "What does a technology shock do? A VAR analysis with model-based sign restrictions," Working Paper Series 705, European Central Bank. [Downloadable!]
    Other versions:
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