26 Pages Posted: 5 Jan 2005
Date Written: October 2004
We investigate the role of permanent and transitory shocks for firms and aggregate dynamics. We directly model the dynamics of a large panel of firms. We find that permanent shocks to productivity and permanent shifts in the composition of output explain at least 4/5 of firms dynamics. However, these permanent shocks are almost uncorrelated across firms, and are therefore less relevant for aggregate dynamics. Transitory shocks, on the other hand, are not very important at the firm level. However, because they are significantly correlated across firms they account for most of the volatility of aggregate hours and output. We also show that not using firm level data leads to misidentification of the permanent shocks. Finally, we try to make some progress on the interpretation of the shocks. We show that monetary shocks cause only transitory dynamics, while oil shocks also have permanent effects. We find that public spending shocks have a positive transitory effect, and that tax shocks have a negative transitory effect. We also find some evidence suggesting that both spending and tax shocks have negative permanent effects.
Keywords: Technology shocks, business cycles, long-run restrictions
JEL Classification: E2, E3
Suggested Citation: Suggested Citation