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Vintage Capital and Expectations Driven Business Cycles

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Abstract

This paper demonstrates that increased optimism about future productivity can generate an immediate economic expansion in a neoclassical model with vintage capital and variable capacity utilization. Previous research has documented that standard neoclassical models cannot generate a simultaneous increase in consumption, investment, and hours in response to news shocks, and that optimism in these models tends to reduce investment and hours. When technology is vintage specific, however, expectations of higher future productivity raise the demand for new vintages of capital relative to old capital. Capital depreciates faster when utilization is high, but this depreciation only affects installed capital. The cost of high depreciation therefore falls when the value of installed capital falls. It is demonstrated here that with standard parameter values, more optimism raises utilization, consumption, investment, hours, and output.

Suggested Citation

  • Floden, Martin, 2006. "Vintage Capital and Expectations Driven Business Cycles," SSE/EFI Working Paper Series in Economics and Finance 643, Stockholm School of Economics.
  • Handle: RePEc:hhs:hastef:0643
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    Cited by:

    1. Gomes, Sandra & Iskrev, Nikolay & Mendicino, Caterina, 2017. "Monetary policy shocks: We got news!," Journal of Economic Dynamics and Control, Elsevier, vol. 74(C), pages 108-128.
    2. Stefano Eusepi & Bruce Preston, 2011. "Expectations, Learning, and Business Cycle Fluctuations," American Economic Review, American Economic Association, vol. 101(6), pages 2844-2872, October.
    3. Sandra Gomes & Caterina Mendicino, 2011. "Housing Market Dynamics: Any News?," Working Papers w201121, Banco de Portugal, Economics and Research Department.
    4. Lambertini, Luisa & Mendicino, Caterina & Punzi, Maria Teresa, 2017. "Expectations-driven cycles in the housing market," Economic Modelling, Elsevier, vol. 60(C), pages 297-312.
    5. Per Krusell & Alisdair McKay, 2010. "News shocks and business cycles," Economic Quarterly, Federal Reserve Bank of Richmond, issue 4Q, pages 373-397.

    More about this item

    Keywords

    Expectations; News; Business cycles; Vintage capital; Capital-embodied technological change;

    JEL classification:

    • E13 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Neoclassical
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles

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