Interpreting Permanent Shocks to Output When Aggregate Demand May Not be Neutral in the Long Run
AbstractThis paper studies Blanchard and Quah’s (1989) statistical model of permanent and transitory shocks to output using a set of arguably more plausible structural assumptions. Economists typically motivate this statistical model by assuming aggregate demand shocks have no long-run effect on the level of output. Many economic theories are, however, inconsistent with that assumption. We reinterpret this statistical model assuming a positive shock to aggregate supply lowers the price level and in the long run raises output while a positive shock to aggregate demand raises the price level. No assumption is made about the long-run output effect of aggregate demand. Based on these assumptions, we show that a puzzling finding from the empirical literature implies that a positive (negative) aggregate demand shock had a long-run positive (negative) effect on the level of output in a number of pre-World War I economies.
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Bibliographic InfoPaper provided by University of Kansas, Department of Economics in its series WORKING PAPERS SERIES IN THEORETICAL AND APPLIED ECONOMICS with number 201205.
Length: 13 pages
Date of creation: Feb 2012
Date of revision:
vector autoregression; identification restrictions; moving average representations; aggregate demand and supply theory; permanent and transitory shock decomposition;
Find related papers by JEL classification:
- C32 - Mathematical and Quantitative Methods - - Multiple or Simultaneous Equation Models; Multiple Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
- C52 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Evaluation, Validation, and Selection
- E3 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles
This paper has been announced in the following NEP Reports:
- NEP-ALL-2012-03-08 (All new papers)
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