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Embodied Technology and Money Shocks

Embodied Technology and Money Shocks. Lumps, Bumps, and Humps. Money, Output, and Prices in the long Run. The long run correlation between money growth and inflation is nearly one. Lucas (1980) Barro (1991) Rolnick/Weber (1994). Money, Output, and Prices in the long Run.

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Embodied Technology and Money Shocks

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  1. Embodied Technology and Money Shocks Lumps, Bumps, and Humps

  2. Money, Output, and Prices in the long Run • The long run correlation between money growth and inflation is nearly one. • Lucas (1980) • Barro (1991) • Rolnick/Weber (1994)

  3. Money, Output, and Prices in the long Run • The long run correlation between money growth and GDP growth is nearly zero • Geweke (1986) • Poirier (1991)

  4. Money and Output in the Short Run • The contemporaneous correlation between is positive. • Further, the dynamic correlations are also positive for both leads and lags • Cooley/Cho (1993)

  5. Money and Output in the Short Run

  6. VAR Analysis (Christiano,Eichenbaum,Evans - 1998 ) • ‘Y’ is a measure of real economic activity • ‘X’ is a measure of monetary policy

  7. Impulse Responses: Humps

  8. Impulse Responses: Humps

  9. Impulse Responses: Humps

  10. Modeling Money • Any model based on the quantity theory with flexible prices can explain long run correlations between money/output/prices MV = PY

  11. Modeling Money • The positive contemporaneous correlation are also easily reproducible by introducing various market frictions • Fixed nominal wage contracts • Short run price frictions • Financial market frictions

  12. Explaining the Humps with Lumps and Bumps • Existing frameworks have difficulty explaining the dynamic effects of money • Existing frameworks rely on a “generic” treatment of capital equipment

  13. Explaining the Humps with Lumps and Bumps • At the plant level, capital investment is very “lumpy” – occurring is short bursts • Over a 15 year period, 25% of a plant’s capital expenditure take place within one year – 50% occurs within a contiguous 3 year period (Doms/Dunne – 1993) • Further, with rapidly evolving technology, compatibility issues arise between old and new machines

  14. Modeling “Vintage Capital” • New capital equipment embodies the latest technology which makes new capital incompatible with old capital • Therefore, capital must be indexed by age

  15. Solving the Model • The model can be solved using standard methods for solving dynamic systems • Linearize the system around the steady state • Solve for the stable saddle path using linear difference equation techniques • Adding the vintage structure, however, greatly increases the complexity of the system • A “standard” treatment would involve a system of 6 equations/unknowns (first order) • A vintage model with 8 vintage of capital involves a system of 49 equations (8th order)

  16. Results • Capital is assumed to have a lifetime of 8 periods (two years) • An experiment is run in which a monetary innovation of one standard deviation is introduced • The model can reproduce the hump shaped pattern found in the data. However, the model tends to exhibit excessive volatility.

  17. References • Barro, Robert, “Economic Growth in a Cross-Section of Countries", 1991, QJE • Christiano, L., M. Eichenbaum, C. Evans (1998), “Monetary Policy Shocks: What Have We Learned and to What End?”, Handbook of Macroeconomics • Cho, J.O. & Cooley, T.F., 1991. "The Business Cycle with Nominal Contracts," RCER Working Papers • Doms M. and Timothy Dunne (1993), "Capital Adjustment Patterns in Manufacturing Plants; Lumps and Bumps" • Geweke, John (1986),"The Super neutrality of Money in the United States: An Interpretation of the Evidence“, Econometrica • Lucas, Robert (1980), “Two Illustrations of the Quantity Theory of Money”, American Economic Review, 70 • McCandless, George and Warren Weber (1995), “Some Monetary Facts”, Federal Reserve of Minneapolis Quarterly Review • Poirier, Dale (1991), “A Bayesian View of Nominal Money and Real Output Through a New Classical Macroeconomic Window”, Journal of Business & Economic Statistics

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