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Real Business Cycle Dynamics under Rational Inattention

Listed author(s):
  • Martins, Guilherme
  • Sinigaglia, Daniel

This paper incorporates Rational Inattention as defined by Sims (2003a) to a traditional RBC model with multiple sources of uncertainty. Our model distinguishes between transitory and permanent labor and relative investment productivity shocks. The introduction of information frictions works as an endogenous adjustment cost: given the model parameters, the degree of sluggishness of endogenous variables in response to shocks is optimally determined. In practical terms, Rational Inattention increases the volatility and the contemporaneous correlations with output of consumption and decreases those of investment and hours. Moreover, it generates a trade-off between short-run and long-run shock variances. We believe these effects might have important welfare implications and can provide an analytical understanding on the links between business cycle fluctuations and the long-run performance of an economy.

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File URL: https://mpra.ub.uni-muenchen.de/14089/1/MPRA_paper_14089.pdf
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Paper provided by University Library of Munich, Germany in its series MPRA Paper with number 14089.

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Date of creation: 14 Mar 2009
Handle: RePEc:pra:mprapa:14089
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  1. Sims, Christopher A., 2005. "Rational inattention: a research agenda," Discussion Paper Series 1: Economic Studies 2005,34, Deutsche Bundesbank, Research Centre.
  2. Greenwood, Jeremy & Hercowitz, Zvi & Krusell, Per, 2000. "The role of investment-specific technological change in the business cycle," European Economic Review, Elsevier, vol. 44(1), pages 91-115, January.
  3. Jordi Gali, 1999. "Technology, Employment, and the Business Cycle: Do Technology Shocks Explain Aggregate Fluctuations?," American Economic Review, American Economic Association, vol. 89(1), pages 249-271, March.
  4. Justiniano, Alejandro & Primiceri, Giorgio E. & Tambalotti, Andrea, 2010. "Investment shocks and business cycles," Journal of Monetary Economics, Elsevier, vol. 57(2), pages 132-145, March.
  5. Bartosz Mackowiak & Mirko Wiederholt, 2009. "Optimal Sticky Prices under Rational Inattention," American Economic Review, American Economic Association, vol. 99(3), pages 769-803, June.
  6. Jonas D. M. Fisher, 2006. "The Dynamic Effects of Neutral and Investment-Specific Technology Shocks," Journal of Political Economy, University of Chicago Press, vol. 114(3), pages 413-451, June.
  7. Christian Hellwig & Laura Veldkamp, 2009. "Knowing What Others Know: Coordination Motives in Information Acquisition," Review of Economic Studies, Oxford University Press, vol. 76(1), pages 223-251.
  8. King, Robert G. & Rebelo, Sergio T., 1999. "Resuscitating real business cycles," Handbook of Macroeconomics,in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 14, pages 927-1007 Elsevier.
  9. Benigno, Pierpaolo & Woodford, Michael, 2006. "Optimal taxation in an RBC model: A linear-quadratic approach," Journal of Economic Dynamics and Control, Elsevier, vol. 30(9-10), pages 1445-1489.
  10. Lawrence J. Christiano & Michele Boldrin & Jonas D. M. Fisher, 2001. "Habit Persistence, Asset Returns, and the Business Cycle," American Economic Review, American Economic Association, vol. 91(1), pages 149-166, March.
  11. Luo Yulei & Young Eric R, 2009. "Rational Inattention and Aggregate Fluctuations," The B.E. Journal of Macroeconomics, De Gruyter, vol. 9(1), pages 1-43, April.
  12. Stock, James H. & Watson, Mark W., 1999. "Business cycle fluctuations in us macroeconomic time series," Handbook of Macroeconomics,in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 1, pages 3-64 Elsevier.
  13. Yulei Luo, 2008. "Consumption Dynamics under Information Processing Constraints," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 11(2), pages 366-385, April.
  14. Michael Woodford, 2001. "Imperfect Common Knowledge and the Effects of Monetary Policy," NBER Working Papers 8673, National Bureau of Economic Research, Inc.
  15. Greenwood, Jeremy & Hercowitz, Zvi & Krusell, Per, 1997. "Long-Run Implications of Investment-Specific Technological Change," American Economic Review, American Economic Association, vol. 87(3), pages 342-362, June.
  16. Sims, Christopher A., 2003. "Implications of rational inattention," Journal of Monetary Economics, Elsevier, vol. 50(3), pages 665-690, April.
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