Turbulent Business Cycles

RePEc Short ID: pli18
ORCID iD: 0000-0003-2073-0898

Dong, Ding; Liu, Zheng; Wang, Pengfei

doi:10.24148/wp2021-22

Working Paper

Turbulent Business Cycles

Abstract: Firm-level evidence suggests that turbulence that reshuffles firms’ productivity rankings rises sharply in recessions. An increase in turbulence reallocates labor and capital from high- to low-productivity firms, reducing aggregate TFP and the stock market value of firms. A real business cycle model with heterogeneous firms and financial frictions can generate the observed macroeconomic and reallocation effects of turbulence. In the model, increased turbulence makes high-productivity firms less likely to remain productive, reducing their expected equity values and tightening their borrowing constraints relative to low-productivity firms. This leads to a reallocation that reduces aggregate TFP. Unlike uncertainty, turbulence changes both the conditional mean and the conditional variance of the firm productivity distribution, enabling a turbulence shock to generate a recession with synchronized declines in aggregate activities.

JEL Classification: D24; D25; E32;

https://doi.org/10.24148/wp2021-22