Input and Output Inventory Dynamics
Federal Reserve Bank of St. Louis - Research Department; Tsinghua University
January 23, 2009
FRB of St. Louis Working Paper No. 2008-008B
This paper develops an analytically-tractable general-equilibrium model of inventory dynamics based on a precautionary stockout-avoidance motive. The model's predictions are broadly consistent with the U.S. business cycle and key features of inventory behavior, including (i) a large inventory stock-to-sales ratio and a small inventory investment-to-sales ratio in the long run, (ii) excess volatility of production relative to sales, (iii) procyclical inventory investment but countercyclical stock-to-sales ratio over the business cycle, and (iv) more volatile input inventories than output inventories. It is also shown that technological improvement of inventory management (that eliminates production/ordering lags) can increase, rather than decrease, the volatility of aggregate output. Key to this seemingly counter-intuitive result is that a stockout- avoidance motive leads to procyclical liquidity-value of inventories (hence, procyclical relative prices of output), which acts as an automatic stabilizer that discourages final sales in a boom and encourages final sales during a recession, thereby reducing the variability of GDP.
Number of Pages in PDF File: 32
Keywords: Inventory Behavior, Input and Output Inventory Investment, Aggregate Fluctuations, Stockout Avoidance, Stock-to-Sales Ratio, Business Cycle
JEL Classification: E13, E20, E32working papers series
Date posted: March 18, 2008 ; Last revised: February 25, 2009
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