The Cost of Business Cycles Under Endogenous Growth / Gadi Barlevy.

By:

Barlevy, Gadi

Contributor(s):

National Bureau of Economic Research

Material type: Text

TextSeries: Working Paper Series (National Bureau of Economic Research) ; no. w9970.Publication details: Cambridge, Mass. National Bureau of Economic Research 2003.Description: 1 online resource: illustrations (black and white)Subject(s):

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Abstract: In his famous monograph, Lucas (1987) put forth an argument that the welfare gains from reducing the volatility of aggregate consumption are negligible. Subsequent work that revisited Lucas' calculation continued to find only small benefits from reducing the volatility of consumption, further reinforcing the perception that business cycles don't matter. This paper argues instead that fluctuations can affect welfare by affecting the growth rate of consumption. I present an argument for why fluctuations can reduce growth starting from a given initial consumption, which could imply substantial welfare effects as Lucas (1987) already observed in his calculation. Empirical evidence and calibration exercises suggest that the welfare effects are likely to be substantial, about two orders of magnitude greater than Lucas' original estimates.

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Previous	nber w9967 Wage Determination and Employment Fluctuations /	nber w9968 Optimal Monetary Policy in a Liquidity Trap /	nber w9969 Monetary Policy in an Uncertain Environment /	nber w9970 The Cost of Business Cycles Under Endogenous Growth /	nber w9971 An Essay on the Revived Bretton Woods System /	nber w9972 How Do Hospitals Respond to Price Changes? /	nber w9973 What Effect do Unions Have on Wages Now and Would 'What Do Unions Do' Be Surprised? /	Next

September 2003.

In his famous monograph, Lucas (1987) put forth an argument that the welfare gains from reducing the volatility of aggregate consumption are negligible. Subsequent work that revisited Lucas' calculation continued to find only small benefits from reducing the volatility of consumption, further reinforcing the perception that business cycles don't matter. This paper argues instead that fluctuations can affect welfare by affecting the growth rate of consumption. I present an argument for why fluctuations can reduce growth starting from a given initial consumption, which could imply substantial welfare effects as Lucas (1987) already observed in his calculation. Empirical evidence and calibration exercises suggest that the welfare effects are likely to be substantial, about two orders of magnitude greater than Lucas' original estimates.