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Inflation, Investment Composition and Total Factor Productivity

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  • Niemann, S
  • Evers, M
  • Schiffbauer, M

Abstract

This paper employs a dynamic stochastic general equilibrium model with a financial market friction to rationalize the empirically observed negative relationship between inflation and total factor productivity (TFP). Specifically, an empirical analysis of US macroeconomic time series establishes that there is a negative causal effect of inflation on aggregate productivity. Rather than taking the productivity process as exogenous, the model is therefore set up to feature an endogenous component of TFP. This is achieved by allowing physical investment to be channelled into two distinct technologies: a safe, but return-dominated technology and a superior technology which is subject to idiosyncratic liquidity risk. An agency problem prevents complete insurance against liquidity risk, and the scope for insurance is endogenously determined via the relevant liquidity premium. Since the liquidity premium is positively related to the rate of inflation, the model demonstrates how nominal fluctuations have an influence not only on the overall amount, but also on the qualitative composition of aggregate investment and hence on TFP. The quantitative relevance of the underlying transmission mechanism which links nominal fluctuations to TFP via corporate liquidity holdings and the composition of aggregate investment is corroborated by means of the quantitative analysis of the calibrated model economy as well as a detailed analysis of industry-level and firm-level panel data. Notably, the empirical findings are consistent with both the properties of the agency problem postulated in the theoretical model and its implications for corporate liquidity holdings and physical investment portfolios.

Suggested Citation

  • Niemann, S & Evers, M & Schiffbauer, M, 2007. "Inflation, Investment Composition and Total Factor Productivity," Economics Discussion Papers 2900, University of Essex, Department of Economics.
  • Handle: RePEc:esx:essedp:2900
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    File URL: http://repository.essex.ac.uk/2900/
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    References listed on IDEAS

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    1. Stockman, Alan C., 1981. "Anticipated inflation and the capital stock in a cash in-advance economy," Journal of Monetary Economics, Elsevier, vol. 8(3), pages 387-393.
    2. Fisher, Jonas D M, 1999. "Credit Market Imperfections and the Heterogeneous Response of Firms to Monetary Shocks," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 31(2), pages 187-211, May.
    3. Moses Abramovitz, 1956. "Resource and Output Trends in the United States Since 1870," NBER Books, National Bureau of Economic Research, Inc, number abra56-1.
    4. Kato, Ryo, 2006. "Liquidity, infinite horizons and macroeconomic fluctuations," European Economic Review, Elsevier, vol. 50(5), pages 1105-1130, July.
    5. Carlstrom, Charles T & Fuerst, Timothy S, 1997. "Agency Costs, Net Worth, and Business Fluctuations: A Computable General Equilibrium Analysis," American Economic Review, American Economic Association, vol. 87(5), pages 893-910, December.
    6. Moses Abramovitz, 1956. "Resource and Output Trends in the United States Since 1870," NBER Chapters,in: Resource and Output Trends in the United States Since 1870, pages 1-23 National Bureau of Economic Research, Inc.
    7. Jones, Larry E & Manuelli, Rodolfo E, 1990. "A Convex Model of Equilibrium Growth: Theory and Policy Implications," Journal of Political Economy, University of Chicago Press, vol. 98(5), pages 1008-1038, October.
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    Cited by:

    1. Angus C. Chu & Guido Cozzi, 2014. "R&D And Economic Growth In A Cash‐In‐Advance Economy," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 55, pages 507-524, May.
    2. Chu, Angus C. & Ji, Lei, 2016. "Monetary Policy And Endogenous Market Structure In A Schumpeterian Economy," Macroeconomic Dynamics, Cambridge University Press, vol. 20(05), pages 1127-1145, July.
    3. Chu, Angus C. & Cozzi, Guido & Lai, Ching-Chong & Liao, Chih-Hsing, 2013. "Monetary Policy, R&D and Economic Growth in an Open Economy," MPRA Paper 47364, University Library of Munich, Germany.
    4. Chu, Angus C. & Cozzi, Guido & Lai, Ching-Chong & Liao, Chih-Hsing, 2015. "Inflation, R&D and growth in an open economy," Journal of International Economics, Elsevier, vol. 96(2), pages 360-374.

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