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The Cost of Business Cycles Under Endogenous Growth

  • Gadi Barlevy

In his famous monograph, Lucas (1987) put forth an argument that the welfare gains from reducing the volatility of aggregate consumption are negligible. Subsequent work that revisited Lucas' calculation continued to find only small benefits from reducing the volatility of consumption, further reinforcing the perception that business cycles don't matter. This paper argues instead that fluctuations can affect welfare by affecting the growth rate of consumption. I present an argument for why fluctuations can reduce growth starting from a given initial consumption, which could imply substantial welfare effects as Lucas (1987) already observed in his calculation. Empirical evidence and calibration exercises suggest that the welfare effects are likely to be substantial, about two orders of magnitude greater than Lucas' original estimates.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 9970.

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Date of creation: Sep 2003
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Publication status: published as Barlevy, Gadi. "The Cost Of Business Cycles Under Endogenous Growth," American Economic Review, 2004, v94(4,Sep), 964-990.
Handle: RePEc:nbr:nberwo:9970
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