Ebook Monetary Policy and Business Cycles with Endogenous Entry and Product Variety
Since the mid 1980s, a large body of literature has developed in which monetary policy is analyzed in micro founded, dynamic, stochastic, general equilibrium (DSGE) models of the business cycle with monopolistic competition and nominal rigidity. The importance of this New Keynesian literature (summarized, for instance, by Woodford, 2003) for policy making is evidenced by the current use of such models by many central banks or international institutions as input for policy decisions. Most of this literature, however, relies on monopolistic competition merely as a vehicle to introduce price (or wage) setting power and then assume that price (or wage) setting is not frictionless, resulting in nominal rigidity and a role for monetary policy.
The overwhelming majority of models abstracts from producer entry mechanisms and assumes a constant number of producers. The joint assumptions of monopolistic competition and no entry raise both theoretical and empirical questions. First, absent either properly designed markup-offsetting subsidies or increasing returns of appropriate degree, monopolistic competition in these models results in permanent (i.e., steady state) positive profits, casting doubts on the theoretical appeal of the zero-entry assumption. Furthermore, recent empirical evidence for the U.S. has substantiated the endogenous fluctuations in the number of producers and the range of available goods that take place over the typical length of a business cycle.
A previous literature documented the strong procyclical behavior of net producer entry (measured either as incorporated firms or as production establishments). Bernard, Redding, and Schott (2006) document how existing U.S. manufacturing establishments devote a substantial portion of their production to goods that they did not previously produce. For U.S. aggregate manufacturing, the value of new goods produced represents just under 10% of annual manufacturing output. Axarloglou (2003) and Broda and Weinstein (2007) directly measure the introduction of new varieties in the U.S. economy and document a strong correlation with the business cycle.
Across a wide sample of U.S. consumer purchases, Broda and Weinstein (2007) document that a 1%increase in aggregate sales is associated with a 0.35% increase in the sales of newly introduced products in that quarter. These theoretical and empirical observations suggest that there is scope for introducing producer entry and product creation in models with monopolistic competition and imperfect price adjustment, and studying the consequences of endogenous product variety for business cycle propagation and policy in these models.
Download
PDF Ebook Monetary Policy and Business Cycles with Endogenous Entry and Product Variety
Posted in :
