Nominal Rigidities, News-Driven Business
Cycles, and Monetary Policy
Keiichiro Kobayashi†
Kengo Nutahara‡
† Research Institute of Economy, Trade and Industry (RIETI)
‡ University of Tokyo
December 19th, 2008 @ CEPR-RIETI Workshop
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News-Driven Business Cycle
Pigou (1927): If agents receive positive news (or have
optimistic expectations) about the future, booms occur at
current period.
News-Driven Business Cycles (NDBC)
I
Definition: Positive comovements in output, consumption,
investment, and labor when positive news about the future
arrives.
Why do we care?
I
I
Japan’s late 1980s, US’s late 1990s (Internet bubble), and the
Subprime housing boom
Standard RBC models cannot generate NDBCs!
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What is news?
Evolution of technology:
log(At ) = ρA log(At−1 ) + utA .
Technology shock utA consists of two components:
utA =
εtA
|{z}
observed at t
+
A
νt−p
|{z}
.
observed at t − p
A
νt−p
: news shock.
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Why Do RBCs Fail? (1/2)
Standard RBC with
I
Utility:
nt1+σn
u(ct , nt ) = log(ct ) − γ
.
1 + σn
I
Production technology:
[ ]1−α
α
yt = At · kt−1
· ζt nt
,
and
A
log(At ) = ρA log(At−1 ) + εtA + νt−p
,
g
g
log(gt ) = ρg log(gt−1 ) + εt + νt−p ,
where gt ≡
Kobayashi and Nutahara (2008)
ζt
ζt−1 .
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Why Do RBCs Fail? (2/2)
Effects of the news about positive future productivity shocks
g
(νtA or νt ):
I
I
Consumption ↑ (wealth effect & consumption smoothing)
Labor, output, and investment ↓
[
]α
kt−1
= (1 − α)
At ζt1−α ,
nt
[ ]1−α
α
ct + it = At kt−1
ζt nt
.
γct nσt n
To generate NDBC, we have to violate the intratemporal
condition!
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Related Literature (1/2)
Strategy (1): NDBC w/o market failure: Change production
technology or preference
Beaudry and Portier (2004, 2007)
I
I
Multi-sector production technology (change of technology)
Complementarity btw consumption and investment goods
Jaimovich and Rebelo (2006, 2008)
I
I
I
Preferences without income effect on labor supply
Capital utilization
Adjustment costs of investment (flow specification)
Christiano, Ilut, Motto, and Rostagno (2007, 2008) (CIMR)
I
I
I
Habit persistence
Adjustment costs of investment (flow specification)
(+ sticky price-wage, and Taylor rule)
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News-Driven Business Cycles
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Related Literature (2/2)
Strategy (2): NDBC w/ market failure: Labor wedge (≡
MRS/MPL)
Den Haan and Kaltenbrunner (2006)
I
I
Matching friction in the labor market
Complementarity btw consumption and investment goods
Kobayashi, Nakajima and Inaba (2007) / Kobayashi and
Nutahara (2007)
I
I
Collateral constraints on working capital
Adjustment costs of investment (level specification)
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.
.
What We Do
New mechanism of NDBC: Nominal rigidities
(sticky prices) + (adjustment costs of investment)
Our models can generate
1
.
2
3
.
NDBCs due to news about both technology growth and level
Procyclical movements of Tobin’s q
Recessions if the news turns out to be false (growth)
Mechanism:
.
[
]α
1 − α kt−1
·
At ζt1−α ,
=
xt
nt
[ ]1−α
α
ct + it = At kt−1 ζt nt
.
γct nσt n
.
Decrease of markup xt causes comovements of consumption,
labor, investment, and output.
Kobayashi and Nutahara (2008)
News-Driven Business Cycles
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Our Model (1/3)
Standard New Keynesian sticky-price model
1. Household:
1+σn
I Utility: u(c , n ) = log(c ) − γ 1 n
.
t t
t
1+σn t
I
Adjustment costs of investment (level: it /kt−1 )
kt = (1 − δ)kt−1 + Φ
( i )
t
kt−1 ,
kt−1
where Φ(0) = 0, Φ′ (·) > 0 and Φ′′ (·) < 0.
2. Final goods firms: Competitive
yt =
[∫
1
Yt (z)θ/(θ−1) dz
](θ−1)/θ
.
0
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News-Driven Business Cycles
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Our Model (2/3)
3. Intermediate goods firms: Monopolistically competitive
I
Production technology:
[
]α [
]1−α
Yt (z) = At Kt (z) ζt Nt (z)
,
and
A
log(At ) = ρA log(At−1 ) + εtA + νt−p
,
g
g
log(gt ) = ρg log(gt−1 ) + εt + νt−p ,
where gt ≡ ζt /ζt−1 .
I
Calvo-pricing with price indexation:
⋆
⋆
Probability of price re-optimization: 1 − κ
Backward-pricing firms: η
π̂t =
Kobayashi and Nutahara (2008)
β
η
(1 − κβ)(1 − κ)
Et π̂t+1 +
π̂t−1 −
x̂t .
1 + ηβ
1 + ηβ
κ(1 + ηβ)
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Our Model (3/3)
4. Monetary Authority: Forward-looking Taylor rule
[
]
R̂t = ρR R̂t−1 + (1 − ρR ) ρπ Et π̂t+1 + ρy ŷt .
5. Specification of adjustment costs of investment:
(
Φ
)
it
kt−1
(
)
δσΦ
it
≡
log
+ ā + b̄,
q
kt−1
where Φ(0) = 0, Φ(δ) = δ, and σΦ is the elasticity of investment
w.r.t. Tobin’s q:
ît = σΦ q̂t + k̂t−1 + ĝt .
Kobayashi and Nutahara (2008)
News-Driven Business Cycles
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.
News-Shock Experiments
We try Christiano, Ilut, Motto, and Rostagno (2007) type
experiment:
.
.
.
.
.
1
2
3
At t < 0, the economy is at the steady state.
At t = 0, news arrives; positive technology growth or level
j
shock, ν0 = .01 for j = A or g.
At t = 4, agents know that the news turns out to be false:
j
j
ε4 + ν0 = 0.
Parameters;
β
1.01358−.25
1−κ
σn
γ
α
δ
ρg
ρA
1
109.82
.4
.025
.83
.83
η
σΦ
θ
ρR
ρπ
ρy
.37
.84
1.01
6
.81
1.95
.18
(same as CIMR except for σΦ & ρg )
Kobayashi and Nutahara (2008)
News-Driven Business Cycles
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NDBC (1): Growth
consumption
capital
output
0.1
0.5
0
−0.5
−1
−1.5
0.5
0
−0.5
−1
−1.5
0.05
0
0
10
20
0
inflation
10
20
1
0.5
0
−0.5
20
10
20
10
20
10
20
Kobayashi and Nutahara (2008)
10
20
10
20
wage rate
6
4
2
0
−2
0
0
markup
1
0
−1
−2
−3
20
0.5
0
−0.5
−1
−1.5
0
labor
10
investment
0.1
0
−0.1
−0.2
−0.3
0
0
rental rate
1.5
1
0.5
0
−0.5
20
0.8
0.6
0.4
0.2
0
0
c
10
nominal interest
0.5
0
−0.5
−1
−1.5
0
10
lambda
0
Tobins q
2
0
−2
−4
0
10
20
News-Driven Business Cycles
0
10
20
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Mechanism of NDBC: Growth
Why do booms occur?
I
Positive news arrives...
=⇒ Future ct ↑ and future nt ↓ (future wealth effect)
=⇒ For nt ↑, future wt ↑ and future markup ↓ (competitivness ↑)
=⇒ Future price ↑ (NKPC)
=⇒ Current optimal price ↑
=⇒ Markup↓ (sticky-price)
=⇒ Aggregate demand, output, labor input ↑
=⇒ Investment, consumption ↑ (loosened household’s budget)
Why do recessions occur?
I
If news turns out to be false
=⇒ Markup↑ (more than level of s.s.) (sticky-price)
=⇒ Aggregate demand, output, and labor input ↓
=⇒ Investment, consumption ↓ (similar to that of boom)
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News-Driven Business Cycles
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NDBC (2): Level
consumption
capital
output
0.1
0.2
0.1
0
0.2
0.1
0
0.05
0
0
10
20
0
inflation
10
20
0.15
0.1
0.05
0
−0.05
20
0
−0.1
10
20
0.1
20
0
labor
10
20
0
Kobayashi and Nutahara (2008)
10
20
10
20
wage rate
0.6
0.4
0.2
0
0
−0.2
−0.4
−0.6
−0.8
0.2
0
0
markup
0.4
20
0.2
0.1
0
0
10
10
investment
0.05
0
0
rental rate
0.1
0
−0.1
−0.2
20
0.1
0
c
10
nominal interest
0.2
0.1
0
0
10
lambda
0
Tobins q
0
10
20
News-Driven Business Cycles
0
10
20
2008/12/19 @ CEPR-RIETI
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.
.
Mechanism of NDBC: Level
.
Differences from the case of growth shock:
1
.
2
Delay of responses
No recessions even if the news turns out to be false
Key: Adjustment costs of investment
=⇒ investment ↑ (want to smooth by adjustment costs) &
consumption ↑ (wealth effects)
=⇒ Increase in aggregate demand causes both increase in
labor input and decrease in markup.
[
]α
ct
1 − α kt−1
γ
=
At ζt1−α ,
1 − nt
xt
nt
[ ]1−α
α
ct + it = At kt−1
ζ t nt
.
Kobayashi and Nutahara (2008)
News-Driven Business Cycles
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NDBC (3): Level (ρπ = 1.5)
consumption
capital
output
0.1
0.4
0.2
0
0.4
0.2
0
0.05
0
0
10
20
0
inflation
10
20
0.2
−0.2
20
10
20
0.1
20
0
labor
10
20
Kobayashi and Nutahara (2008)
10
20
10
20
wage rate
0
−0.5
−1
−1.5
0
0
markup
0.8
0.6
0.4
0.2
0
20
0.4
0.2
0
0
10
10
investment
0.05
0
0
rental rate
0
−0.2
−0.4
20
0.1
0
−0.1
−0.2
0
c
10
nominal interest
0.4
0.2
0
0
0
10
lambda
0
Tobins q
1
0.5
0
0
10
20
News-Driven Business Cycles
0
10
20
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Comparison with CIMR (1/2)
CIMR employ sticky prices!
Difference btw our model and CIMR:
I
I
Remove (i) habit persistence and (ii) sticky wage from CIMR
and
Change (iii) the adjustment costs of investment (flow ⇒ level).
CIMR:
1
2
3
Find the role of (i) habit persistence and (ii) flow adjustment
costs of investment for NDBC.
Add (i) sticky price-wage and (ii) inflation targeting rule for
procyclical movements of Tobin’s q.
Show the interaction btw sticky wage and monetary policy
amplify NDBC. (CIMR, 2008)
.
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Comparison with CIMR (2/2)
They do not check whether nominal rigidities alone (w/o habit)
can generate NDBC.
We find that nominal rigidities alone can generate NDBC.
I
I
Nominal rigidities vs. Habit: Frictions to violate the intratemporal
condition
Sticky wage is also mechanism of NDBCs. (see Appendix)
Kobayashi and Nutahara (2008)
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.
.
Summary
New Mechanism of NDBCs: nominal rigidities
Standard New Keynesian model
1
sticky price
2
adjustment costs of investment
⇒ Key: Countercyclical markup
.
.
Our model generates
1
2
3
NDBCs due to news about both technology growth and level
Procyclical movements of Tobin’s q
Recessions if the news turns out to be false (growth)
Kobayashi and Nutahara (2008)
News-Driven Business Cycles
2008/12/19 @ CEPR-RIETI
20 / 24
References (1/2)
Beaudry, P., and F. Portier. (2004) “An Exploration into Pigou’s Theory of
Cycles,” Jounal of Monetary Economics 51, 1183-1216.
Fujiwara, I. (2008) “Growth Expectations,” Bank of Japan IMES Discussion
Paper 2008–E–21.
Christiano, L.M., C. Ilut, R. Motto, and M. Rostagno. (2007) “Monetary
Policy and Stock Market Boom-Bust Cycles,” European Central Bank
Working Paper Series 955.
Christiano, L.M., C. Ilut, R. Motto, and M. Rostagno. (2008) “Signals:
Implications for Business Cycles and Monetary Policy,” Northwestern
University.
Den Haan, W.J., and G. Kaltenbrunner. (2007). “Anticipated Growth and
Business Cycle in Matching Models.” Centre for Economic Policy Research
Discussion Paper 6063.
Kobayashi and Nutahara (2008)
News-Driven Business Cycles
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References (2/2)
Jaimovich, N., and S. Rebelo. (2006) “Can News about the Future Drive the
Business Cycle?” forthcoming in American Economic Review.
Jaimovich, N., and S. Rebelo. (2008) “News and Business Cycles in Open
Economies.” Journal of Money, Credit and Banking 40, 1699–1711.
Kobayashi, K., T. Nakajima, and M. Inaba. (2007) “Collateral Constraint and
News-Driven Cycles.” Research Institute of Economy, Trade and Industry
Discussion Paper 07–E–013.
Kobayashi, K., and K. Nutahara. (2007) “Collateralized Capital and
News-Driven Cycles.” Economics Bulletin 5, 1–9.
Pigou, A. (1927) Industrial Fluctuations MacMillan: London.
Kobayashi and Nutahara (2008)
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Appendix: Frictions and NDBCs
habit
CIMR(a)
CIMR(b)
KN
(1)
(2)
(3)
(4)
(5)
(6)
(7)
(8)
(9)
(10)
(11)
√
√
√
√
√
Frictions
AC
SP
flow
level
√
flow
√
flow
√
flow
flow
flow
√
flow
√
level
level
√
level
SW
Level
√
√
√
√
√
√
√
√
√
√
√
√
√
√
√
√
Results on NDBCs
q(L) Growth q(G)
√
√
√
√
√
√
√
√∗
√∗
√∗
√∗
√∗
√∗
√
√
√
√
Note: AC: adjustment costs, SP: sticky prices, SW: sticky wages, Results:
NDBC due to news about growth and level, q: procyclical Tobin’s q
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Appendix: Impulse Responses to Current
Growth Shocks
inflation
Tobins q
1
2
0.5
0
0
0
20
40
60
0
20
nominal interest rate
40
60
40
60
labor
0.8
0.6
0.4
0.2
0
0.5
0
0
20
40
60
0
20
markup
0
−1
−2
−3
0
Kobayashi and Nutahara (2008)
20
40
60
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