Idiosyncratic shocks and the role of granularity in business cycle
Tatsuro Senga () and
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Iacopo Varotto: Queen Mary University of London
No 1012, 2018 Meeting Papers from Society for Economic Dynamics
Idiosyncratic shocks faced by large ﬁrms in the U.S. appears to be volatile. Such idiosyncratic shocks may not average out in the cross-section and thus can even generate aggregate ﬂuctuations. In this paper, we ﬁrst construct a panel of US ﬁrms using data from Compustat and show a set of stylized facts about cross-sectional and cyclical features of idiosyncratic shocks faced by large ﬁrms. Our panel data reveals that the mean and kurtosis of idiosyncratic shocks decrease with ﬁrm size, while the standard deviation and skewness increase with ﬁrm size. In particular, the distribution of idiosyncratic shocks faced by the largest firms has a negative mean and positive skew. We also show that the mean of idiosyncratic shocks faced by the largest firms is signiﬁcantly countercyclical. To examine the quantitative importance of such features of idiosyncratic shocks faced by large ﬁrms, we then develop an equilibrium business cycle model wherein idiosyncratic shocks can alone alter the shape of the distribution of ﬁrms and thus can drive aggregate ﬂuctuations. We develop a general framework to study such models, wherein the law of large number does not hold and the distribution of ﬁrms over productivities becomes a random object, rendering infeasible the use of a standard numerical method. The flexibility of this new approach allows us to isolate the two channels through which the idiosyncratic movements of the ﬁrms generate aggregate volatility: average productivity and dynamic ineﬃciency. In addition we quantify the relative importance of the shocks to large ﬁrms in driving the cycle. The model is estimated to match micro-level moments of ﬁrm size distribution and idiosyncratic shocks, together with standard macro moments. Consistent with existing studies, our results show that idiosyncratic shocks are a quantitatively important micro-origin of aggregate ﬂuctuations, accounting for 25 percent of output volatility relative to the data. Large ﬁrm movements account for 11 percent of aggregate volatility, wherein 63 percent reﬂects dynamic inefficiency channel.
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Persistent link: https://EconPapers.repec.org/RePEc:red:sed018:1012
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