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Intertemporal substitution and the business cycle

  • Barro, Robert J.

This paper summarizes the theoretical role of intertemporal substitution variables in the "new classical macroeconomics." An important implication is that positive monetary shocks tend to raise expected real returns that are calculated from the usual partial information set, but tend to lower realized real returns. After reviewing previous empirical findings in the area, the study reports new results on the behavior of returns on the New York Stock Exchange and on Treasury Bills. The analysis isolates realized real rate of return effects that are significantly positive for a temporary government purchases variable and significantly negative for monetary movements. However, the results do not support the theoretical distinction between money shocks and anticipated changes in money. Since the study focuses on realized real returns, which can be measured in a straightforward manner, there is no evidence on the hypothesis that expected real returns, which are calculated on the basis of incomplete in-formation, rise with monetary disturbances. Because this proposition is sensitive to the specification of information sets, It may be infeasible to test it directly.

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Article provided by Elsevier in its journal Carnegie-Rochester Conference Series on Public Policy.

Volume (Year): 14 (1981)
Issue (Month): 1 (January)
Pages: 237-268

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Handle: RePEc:eee:crcspp:v:14:y:1981:i::p:237-268
Contact details of provider: Web page: http://www.elsevier.com/locate/jme

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  1. A. S. Blinder & S. Fischer, 1978. "Inventories, Rational Expectations, and the Business Cycle," Working papers 220, Massachusetts Institute of Technology (MIT), Department of Economics.
  2. Thomas J. Sargent, 1973. "Rational Expectations, the Real Rate of Interest, and the Natural Rate of Unemployment," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 4(2), pages 429-480.
  3. Ray C. Fair, 1978. "An Analysis of the Accuracy of Four Macroeconometric Models," Cowles Foundation Discussion Papers 492, Cowles Foundation for Research in Economics, Yale University.
  4. Lucas, Robert E., 1977. "Understanding business cycles," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 5(1), pages 7-29, January.
  5. Jaffe, Jeffrey F & Mandelker, Gershon, 1976. "The "Fisher Effect" for Risky Assets: An Empirical Investigation," Journal of Finance, American Finance Association, vol. 31(2), pages 447-58, May.
  6. Robert E. Hall, 1979. "Labor Supply and Aggregate Fluctuations," NBER Working Papers 0385, National Bureau of Economic Research, Inc.
  7. Fama, Eugene F. & Schwert, G. William, 1977. "Asset returns and inflation," Journal of Financial Economics, Elsevier, vol. 5(2), pages 115-146, November.
  8. Gray, Jo Anna, 1976. "Wage indexation: A macroeconomic approach," Journal of Monetary Economics, Elsevier, vol. 2(2), pages 221-235, April.
  9. Fischer, Stanley, 1977. "Long-Term Contracts, Rational Expectations, and the Optimal Money Supply Rule," Journal of Political Economy, University of Chicago Press, vol. 85(1), pages 191-205, February.
  10. Nelson, Charles R, 1976. "Inflation and Rates of Return on Common Stocks," Journal of Finance, American Finance Association, vol. 31(2), pages 471-83, May.
  11. Barro, Robert J., 1976. "Rational expectations and the role of monetary policy," Journal of Monetary Economics, Elsevier, vol. 2(1), pages 1-32, January.
  12. McCallum, B. T., 1978. "Dating, discounting, and the robustness of the Lucas-Sargent proposition," Journal of Monetary Economics, Elsevier, vol. 4(1), pages 121-129, January.
  13. Lucas, Robert Jr., 1972. "Expectations and the neutrality of money," Journal of Economic Theory, Elsevier, vol. 4(2), pages 103-124, April.
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