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When do inventories destabilize the economy? an analytical approach to (S,s) policies

Pengfei Wang (), Yi Wen () and Zhiwei Xu ()

No 2011-014, Working Papers from Federal Reserve Bank of St. Louis

Abstract: Conventional wisdom has it that inventory investment destabilizes the economy because it is procyclical to sales. Khan and Thomas (2007) show that the conventional wisdom is wrong in a general equilibrium (S,s) model with capital. We argue that their finding is not robust?the conventional wisdom can still hold in general equilibrium if firms can adjust output by varying the capacity utilization rate. Our result also holds true if there exist investment adjustment costs. Unlike the existing (S,s) inventory literature that relies on the Krusell-Smith (1998) numerical solution methods, we characterize (S,s) inventory policies in closed form despite the large state space in our general equilibrium model. Standard log-linearization methods can be used to solve the model and generate impulse response functions.>

Keywords: Inventories; Business cycles (search for similar items in EconPapers)
Date: 2011
New Economics Papers: this item is included in nep-bec and nep-dge
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