The Network Origins of Aggregate Fluctuations
Massachusetts Institute of Technology (MIT) - Department of Economics; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)
Vasco M. Carvalho
Universitat Pompeu Fabra/CREI; Centre for Economic Policy Research (CEPR); University of Cambridge
Asuman E. Ozdaglar
Massachusetts Institute of Technology (MIT) - Department of Electrical Engineering and Computer Science
Columbia Business School - Decision Risk and Operations
October 20, 2011
MIT Department of Economics Working Paper No. 11-23
This paper argues that in the presence of intersectoral input-output linkages, microeconomic idiosyncratic shocks may lead to aggregate fluctuations. In particular, it shows that, as the economy becomes more disaggregated, the rate at which aggregate volatility decays is determined by the structure of the network capturing such linkages. Our main results provide a characterization of this relationship in terms of the importance of different sectors as suppliers to their immediate customers as well as their role as indirect suppliers to chains of downstream sectors. Such higher-order interconnections capture the possibility of “cascade effects” whereby productivity shocks to a sector propagate not only to its immediate downstream customers, but also indirectly to the rest of the economy. Our results highlight that sizable aggregate volatility is obtained from sectoral idiosyncratic shocks only if there exists significant asymmetry in the roles that sectors play as suppliers to others, and that the “sparseness” of the input-output matrix is unrelated to the nature of aggregate fluctuations.
Number of Pages in PDF File: 36
Keywords: business cycle, aggregate volatility, diversification, input-output linkages, intersectoral network, cascades
JEL Classification: C67, D57, E32
Date posted: October 22, 2011
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