The Network Origins of Large Economic Downturns
23 Pages Posted: 16 Jul 2013
There are 3 versions of this paper
The Network Origins of Large Economic Downturns
Microeconomic Origins of Macroeconomic Tail Risks
The Network Origins of Large Economic Downturns
Date Written: June 30, 2013
Abstract
This paper shows that large economic downturns may result from the propagation of micro-economic shocks over the input-output linkages across different firms or sectors within the economy. Building on the framework of Acemoglu et al. (2012), we argue that the economy’s input-output structure can fundamentally reshape the distribution of aggregate output, increasing the likelihood of large downturns from infinitesimal to substantial. More specifically, we show that an economy with non-trivial inter-sectoral input-output linkages that is subject to thin-tailed productivity shocks may exhibit deep recessions as frequently as economies that are subject to heavy-tailed shocks. Moreover, we show that in the presence of input-output linkages, aggregate volatility is not necessarily a sufficient statistic for the likelihood of large downturns. Rather, depending on the shape of the distribution of the idiosyncratic shocks, different features of the economy’s input-output network may be of first-order importance. Finally, our results establish that the effects of the economy’s input-output structure and the nature of the idiosyncratic firm level shocks on aggregate output are not separable, in the sense that the likelihood of large economic downturns is determined by the interplay between the two.
Keywords: input-output networks, aggregate output, business cycles, economic downturns
JEL Classification: C67, E32
Suggested Citation: Suggested Citation
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