Asymmetry in the Business Cycle: Friedman's Plucking Model with Correlated Innovations

31 Pages Posted: 16 Dec 2005 Last revised: 16 Sep 2008

See all articles by Tara M. Sinclair

Tara M. Sinclair

George Washington University - Department of Economics; George Washington University - Elliott School of International Affairs (ESIA); George Washington University - Institute For International Economic Policy (GWIIEP); George Washington University - Research Program on Forecasting; George Washington University - George Washington Institute of Public Policy (GWIPP); Australian National University (ANU) - Centre for Applied Macroeconomic Analysis (CAMA); Halle Institute for Economic Research

Date Written: September 14, 2008

Abstract

Recent research has shown that unobserved components (UC) models can, under certain conditions, be estimated without imposing the common zero-correlation restriction between the permanent and transitory innovations. Estimates applying this model to US real GDP suggest that US output experiences considerable permanent movements. This result is in stark contrast to the findings based on estimates of zero-correlation models which suggest that fluctuations in output are primarily transitory. If the transitory component of US real GDP is asymmetric, particularly during recessions, then the linear UC model may over-emphasize permanent movements due to the dominance of expansions in the data. This paper produces and estimates an unobserved components model that allows for asymmetric transitory movements and for correlation between all the innovations. The asymmetry is modeled using Markov-switching in the transitory component, in the spirit of Kim and Nelson's (1999) version of Friedman's plucking model. The findings suggest that both permanent movements and asymmetric transitory shocks are important for explaining post-war output fluctuations in the U.S.

Keywords: Asymmetry, Unobserved Components, Markov-Switching, Business Cycles

JEL Classification: C22, E32

Suggested Citation

Sinclair, Tara M., Asymmetry in the Business Cycle: Friedman's Plucking Model with Correlated Innovations (September 14, 2008). Available at SSRN: https://ssrn.com/abstract=870575 or http://dx.doi.org/10.2139/ssrn.870575

Tara M. Sinclair (Contact Author)

George Washington University - Department of Economics ( email )

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George Washington University - Elliott School of International Affairs (ESIA) ( email )

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HOME PAGE: http://home.gwu.edu/~tsinc/

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George Washington University - Research Program on Forecasting ( email )

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Australian National University (ANU) - Centre for Applied Macroeconomic Analysis (CAMA) ( email )

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