
We investigate the role of uncertainty in business cycles. First, we demonstrate that microeconomic uncertainty rises sharply during recessions, including during the Great Recession of 2007–2009. Second, we show that uncertainty shocks can generate drops in gross domestic product of around 2.5% in a dynamic stochastic general equilibrium model with heterogeneous firms. However, we also find that uncertainty shocks need to be supplemented by first‐moment shocks to fit consumption over the cycle. So our data and simulations suggest recessions are best modelled as being driven by shocks with a negative first moment and a positive second moment. Finally, we show that increased uncertainty can make first‐moment policies, like wage subsidies, temporarily less effective because firms become more cautious in responding to price changes.
Dynamic stochastic general equilibrium theory, Economics, Statistics & Probability, Social Sciences, 2002 Economics and Econometrics, AGGREGATE FLUCTUATIONS, LUMPY INVESTMENT, adjustment costs, 10007 Department of Economics, Business & Economics, INVESTMENT DYNAMICS, Interdisciplinary Applications, uncertainty, Science & Technology, Uncertainty, Mathematical Methods, IRREVERSIBLE INVESTMENT, 330 Economics, MODEL, Economic time series analysis, EQUILIBRIUM, business cycles, ADJUSTMENT COSTS, Economic growth models, IDIOSYNCRATIC RISK, Physical Sciences, VOLATILITY SHOCKS, uncertainty, adjustment costs, and business cycles., Mathematics, Mathematical Methods In Social Sciences, INDIVISIBLE LABOR, jel: jel:C23, jel: jel:E22, jel: jel:E3, jel: jel:D92, jel: jel:D8
Dynamic stochastic general equilibrium theory, Economics, Statistics & Probability, Social Sciences, 2002 Economics and Econometrics, AGGREGATE FLUCTUATIONS, LUMPY INVESTMENT, adjustment costs, 10007 Department of Economics, Business & Economics, INVESTMENT DYNAMICS, Interdisciplinary Applications, uncertainty, Science & Technology, Uncertainty, Mathematical Methods, IRREVERSIBLE INVESTMENT, 330 Economics, MODEL, Economic time series analysis, EQUILIBRIUM, business cycles, ADJUSTMENT COSTS, Economic growth models, IDIOSYNCRATIC RISK, Physical Sciences, VOLATILITY SHOCKS, uncertainty, adjustment costs, and business cycles., Mathematics, Mathematical Methods In Social Sciences, INDIVISIBLE LABOR, jel: jel:C23, jel: jel:E22, jel: jel:E3, jel: jel:D92, jel: jel:D8
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