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Durable Goods Inventories and the Volatility of Production: Explaining the Less Volatile U.S. Economy

  • Wen, Yi

    (Cornell U)

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Despite the important role played by durable goods production and inventory investment in the business cycle, theoretical models featuring durable goods inventories are rarely available in the literature. This paper provides a simple dynamic optimization model of durable goods inventories and applies the model to analyzing the behavior of durable goods production and sales. It shows that small change in demand shocks can have large effect on the volatility of production relative to that of sales. The more durable is the good, the stronger the effect is. Calibrated exercise shows that the well documented dramatic reduction of output volatility in the U.S. economy since 1984 may be attributable to a decrease in the persistence of demand shocks. The analysis complements and reinforces the analysis of Ramey and Vine (2003).

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Paper provided by Cornell University, Center for Analytic Economics in its series Working Papers with number 04-01.

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Date of creation: Jan 2004
Date of revision:
Handle: RePEc:ecl:corcae:04-01
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  1. Kim, Chang-Jin & Nelson, Charles R & Piger, Jeremy, 2004. "The Less-Volatile U.S. Economy: A Bayesian Investigation of Timing, Breadth, and Potential Explanations," Journal of Business & Economic Statistics, American Statistical Association, vol. 22(1), pages 80-93, January.
  2. Blinder, Alan S, 1986. "Can the Production Smoothing Model of Inventory Behavior Be Saved?," The Quarterly Journal of Economics, MIT Press, vol. 101(3), pages 431-53, August.
  3. Deaton, A., 1989. "Saving And Liquidity Constraints," Papers 153, Princeton, Woodrow Wilson School - Public and International Affairs.
  4. Mark Bils & James Kahn, 1998. "What inventory behavior tells us about business cycles," Research Paper 9817, Federal Reserve Bank of New York.
  5. Margaret McConnell & Gabriel Perez Quiros, 2000. "Output fluctuations in the United States: what has changed since the early 1980s?," Proceedings, Federal Reserve Bank of San Francisco, issue Mar.
  6. Kahn, James A, 1987. "Inventories and the Volatility of Production," American Economic Review, American Economic Association, vol. 77(4), pages 667-79, September.
  7. Ramey, Valerie A, 1991. "Nonconvex Costs and the Behavior of Inventories," Journal of Political Economy, University of Chicago Press, vol. 99(2), pages 306-34, April.
  8. Wen, Yi, 2005. "Understanding the inventory cycle," Journal of Monetary Economics, Elsevier, vol. 52(8), pages 1533-1555, November.
  9. Eichenbaum, Martin, 1989. "Some Empirical Evidence on the Production Level and Production Cost Smoothing Models of Inventory Investment," American Economic Review, American Economic Association, vol. 79(4), pages 853-64, September.
  10. Maccini, Louis J & Zabel, Edward, 1996. "Serial Correlation in Demand, Backlogging and Production Volatility," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 37(2), pages 423-52, May.
  11. Abel, Andrew B, 1985. "Inventories, Stock-Outs and Production Smoothing," Review of Economic Studies, Wiley Blackwell, vol. 52(2), pages 283-93, April.
  12. Chow, Gregory C., 1997. "Dynamic Economics: Optimization by the Lagrange Method," OUP Catalogue, Oxford University Press, number 9780195101928.
  13. Blinder, Alan S, 1982. "Inventories and Sticky Prices: More on the Microfoundations of Macroeconomics," American Economic Review, American Economic Association, vol. 72(3), pages 334-48, June.
  14. James H. Stock & Mark W. Watson, 2002. "Has the Business Cycle Changed and Why?," NBER Working Papers 9127, National Bureau of Economic Research, Inc.
  15. Valerie A. Ramey & Daniel J. Vine, 2005. "Tracking the source of the decline in GDP volatility: an analysis of the automobile industry," Finance and Economics Discussion Series 2005-14, Board of Governors of the Federal Reserve System (U.S.).
  16. Amihud, Yakov & Mendelson, Haim, 1983. "Price Smoothing and Inventory," Review of Economic Studies, Wiley Blackwell, vol. 50(1), pages 87-98, January.
  17. Martin Feldstein & Alan Auerbach, 1976. "Inventory Behavior in Durable-Goods Manufacturing: The Target-Adjustment Model," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 7(2), pages 351-408.
  18. Alan S. Blinder & Louis J. Maccini, 1991. "Taking Stock: A Critical Assessment of Recent Research on Inventories," Journal of Economic Perspectives, American Economic Association, vol. 5(1), pages 73-96, Winter.
  19. Valerie A. Ramey & Kenneth D. West, 1997. "Inventories," NBER Working Papers 6315, National Bureau of Economic Research, Inc.
    • Ramey, Valerie A. & West, Kenneth D., 1999. "Inventories," Handbook of Macroeconomics, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 13, pages 863-923 Elsevier.
  20. Olivier Blanchard & John Simon, 2001. "The Long and Large Decline in U.S. Output Volatility," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 32(1), pages 135-174.
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