The Variety-Effect Multiplier: On the transmission of uncertainty shocks

Francesco Saverio Gaudio and Poilly, Céline

No 21112, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: The variety effect, arising from monopolistic competition and increasing returns to specialization, acts as an amplification mechanism in the transmission of aggregate, especially uncertainty, shocks. By generating endogenous fluctuations in aggregate productivity through changes in the range of available products, it shapes the joint dynamics of households' marginal utility, firms' profits, and relative prices. Thus, it ultimately reinforces the risk channels through which (uncertainty) shocks propagate to the economy. When the equity risk-premium channel dominates the precautionary-saving one, the variety effect implies deeper uncertainty-driven recessions. However, the relative importance and amplification of these channels depend on the source of perturbation.

Keywords: Product variety; Firm entry and exit; Uncertainty shocks; Risk premia; Precautionary savings (search for similar items in EconPapers)
JEL-codes: E21 E32 G12 (search for similar items in EconPapers)
Date: 2026-02
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