Supply and Demand in Disaggregated Keynesian Economies with an Application to the COVID-19 Crisis

David Baqaee and Emmanuel Farhi

American Economic Review, 2022, vol. 112, issue 5, 1397-1436

Abstract: We study supply and demand shocks in a disaggregated model with multiple sectors, multiple factors, input-output linkages, downward nominal wage rigidities, credit-constraints, and a zero lower bound. We use the model to understand how the COVID-19 crisis, an omnibus supply and demand shock, affects output, unemployment, and inflation, and leads to the coexistence of tight and slack labor markets. We show that negative sectoral supply shocks are stagflationary, whereas negative demand shocks are deflationary, even though both can cause Keynesian unemployment. Furthermore, complementarities in production amplify Keynesian spillovers from supply shocks but mitigate them for demand shocks. This means that complementarities reduce the effectiveness of aggregate demand stimulus. In a stylized quantitative model of the United States, we find supply and demand shocks each explain about one-half of the reduction in real GDP from February to May 2020. Although there was as much as 6 percent Keynesian unemployment, this was concentrated in certain markets. Hence, aggregate demand stimulus is one quarter as effective as in a typical recession where all labor markets are slack.

JEL-codes: E12 E23 E24 E31 E32 E62 I12 (search for similar items in EconPapers)
Date: 2022
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Citations: View citations in EconPapers (103)

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Related works:
Working Paper: Supply and Demand in Disaggregated Keynesian Economies with an Application to the Covid-19 Crisis (2020)
Working Paper: Supply and Demand in Disaggregated Keynesian Economies with an Application to the Covid-19 Crisis (2020)
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DOI: 10.1257/aer.20201229

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