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Machine Replacement and the Business Cycle: Lumps and Bumps

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Author Info
Russell Cooper
John Haltiwanger
Laura Power

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Abstract

This paper explores cyclical fluctuations in investment due to discrete changes in the plant's stock of capital. To do so, we focus on a machine replacement problem in which a producer decides whether to replace its entire existing stock of capital with new machinery and equipment. This decision is undertaken in a stochastic, dynamic environment which allows us to characterize the relationship between lumpy investment and the state of the aggregate economy. Our theoretical results are supplemented by numerical and empirical analyses of the dynamics of lumpy investment at the plant level and the associated aggregate implications. The dynamics are surprisingly rich since they represent the interaction between a replacement cycle, the cross sectional distribution of the age of the capital stock and the state of the aggregate economy. The empirical analysis of these dynamics is based on plant level investment data for the Longitudinal Research Database (LRD) for the 1972-91 period. Overall, we find that the frequency of lumpy investment activity is higher during periods of high economic activity and more likely the older is the capital. These empirical results are consistent with the predictions of our theoretical model. Nonetheless, the predicted path of aggregate investment that neglects the interaction of the non-flat hazard and the cross sectional distribution of the age of the capital stock tracks actual aggregate investment quite well. However, ignoring the fluctuations in the cross sectional distribution can yield predictable nontrivial errors in forecasting changes in aggregate investment in periods following large swings in aggregate investment.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 5260.

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Date of creation: Sep 1995
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Handle: RePEc:nbr:nberwo:5260

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  1. Caballero, Ricardo J & Engel, Eduardo M R A, 1993. "Microeconomic Adjustment Hazards and Aggregate Dynamics," The Quarterly Journal of Economics, MIT Press, vol. 108(2), pages 359-83, May. [Downloadable!] (restricted)
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  2. Rust, John, 1987. "Optimal Replacement of GMC Bus Engines: An Empirical Model of Harold Zurcher," Econometrica, Econometric Society, vol. 55(5), pages 999-1033, September. [Downloadable!] (restricted)
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  5. Cooper, Russell W. & Haltiwanger, John Jr., 1992. "Macroeconomic implications of production bunching : Factor demand linkages," Journal of Monetary Economics, Elsevier, vol. 30(1), pages 107-127, October. [Downloadable!] (restricted)
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  6. Ricardo J. Caballero, 1997. "Aggregate Investment," NBER Working Papers 6264, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  7. Jovanovic, Boyan, 1982. "Selection and the Evolution of Industry," Econometrica, Econometric Society, vol. 50(3), pages 649-70, May. [Downloadable!] (restricted)
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  9. Kiefer, Nicholas M, 1988. "Economic Duration Data and Hazard Functions," Journal of Economic Literature, American Economic Association, vol. 26(2), pages 646-79, June. [Downloadable!] (restricted)
  10. Russell Cooper & John Haltiwanger & Laura Power, 1995. "Machine Replacement and the Business Cycle: Lumps and Bumps," NBER Working Papers 5260, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  11. Davis, Steven J & Haltiwanger, John C, 1992. "Gross Job Creation, Gross Job Destruction, and Employment Reallocation," The Quarterly Journal of Economics, MIT Press, vol. 107(3), pages 819-63, August. [Downloadable!] (restricted)
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  12. Giuseppe Bertola & Ricardo J. Caballero, 1990. "Kinked Adjustment Costs and Aggregate Dynamics," NBER Chapters, in: NBER Macroeconomics Annual 1990, Volume 5, pages 237-296 National Bureau of Economic Research, Inc. [Downloadable!]
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  13. Cooley, T.F. & Greenwood, J. & Yorukoglu, M., 1997. "The Replacement Problem," RCER Working Papers 444, University of Rochester - Center for Economic Research (RCER).
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  14. Andrew B. Abel, 1988. "Consumption and Investment," NBER Working Papers 2580, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  15. Cecchetti, Stephen G., 1986. "The frequency of price adjustment : A study of the newsstand prices of magazines," Journal of Econometrics, Elsevier, vol. 31(3), pages 255-274, April. [Downloadable!] (restricted)
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  17. Dolton, Peter J & van der Klaauw, Wilbert, 1995. "Leaving Teaching in the UK: A Duration Analysis," Economic Journal, Royal Economic Society, vol. 105(429), pages 431-44, March. [Downloadable!] (restricted)
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  19. G. Steven Olley & Ariel Pakes, 1992. "The Dynamics of Productivity in the Telecommunications Equipment Industry," NBER Working Papers 3977, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  21. Rothschild, Michael, 1971. "On the Cost of Adjustment," The Quarterly Journal of Economics, MIT Press, vol. 85(4), pages 605-22, November. [Downloadable!] (restricted)
  22. Mark E. Doms & Timothy Dunne, 1998. "Capital Adjustment Patterns in Manufacturing Plants," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 1(2), pages 409-429, April. [Downloadable!] (restricted)
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  23. Chamberlain, Gary, 1980. "Analysis of Covariance with Qualitative Data," Review of Economic Studies, Blackwell Publishing, vol. 47(1), pages 225-38, January. [Downloadable!] (restricted)
  24. Ben Bernanke & Mark Gertler & Simon Gilchrist, 1994. "The Financial Accelerator and the Flight to Quality," NBER Working Papers 4789, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  25. Ricardo J. Caballero & Eduardo M. R. A. Engel & John C. Haltiwanger, 1995. "Plant-Level Adjustment and Aggregate Investment Dynamics," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 26(1995-2), pages 1-54. [Downloadable!]
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  27. King, Robert G. & Plosser, Charles I. & Rebelo, Sergio T., 1988. "Production, growth and business cycles : I. The basic neoclassical model," Journal of Monetary Economics, Elsevier, vol. 21(2-3), pages 195-232. [Downloadable!] (restricted)
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