Empirical Evidence on the Euler Equation for Investment in the US

Abstract

Is the typical specification of the Euler equation for investment employed in DSGE models consistent with aggregate macro data? Using state-of-the-art econometric methods that are robust to weak instruments and exploit information in possible structural changes, the answer is yes. Unfortunately, however, there is very little information about the values of the parameters in aggregate data because investment is unresponsive to changes in capital utilization and the real interest rate. Bayesian estimation using fully-specified DSGE models is more accurate likely due to informative priors and cross-equation restrictions.

Keywords: Investment, Adjustment costs, Weak identification

JEL Classification: C2, E22.