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Two Flaws in Business Cycle Accounting
Lawrence J. Christiano
Northwestern University; Federal Reserve Bank of Cleveland; Federal Reserve Bank of Chicago; Federal Reserve Bank of Minneapolis; National Bureau of Economic Research (NBER)
Joshua Mark Davis
Pacific Investment Management Company (PIMCO); Northwestern University - Department of Economics
October 2006
NBER Working Paper No. w12647
Abstract:
Using 'business cycle accounting' (BCA), Chari, Kehoe and McGrattan (2006) (CKM) conclude that models of financial frictions which create a wedge in the intertemporal Euler equation are not promising avenues for modeling business cycle dynamics. There are two reasons that this conclusion is not warranted. First, small changes in the implementation of BCA overturn CKM's conclusions. Second, one way that shocks to the intertemporal wedge impact on the economy is by their spillover effects onto other wedges. This potentially important mechanism for the transmission of intertemporal wedge shocks is not identified under BCA. CKM potentially understate the importance of these shocks by adopting the extreme position that spillover effects are zero.
Number of Pages in PDF File: 60
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Date posted: November 20, 2006
Suggested CitationChristiano, Lawrence J. and Davis, Joshua Mark, Two Flaws in Business Cycle Accounting (October 2006). NBER Working Paper No. w12647. Available at SSRN: http://ssrn.com/abstract=940596
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