DP8274 No News in Business Cycles

Author(s): Mario Forni, Luca Gambetti, Luca Sala
Publication Date: February 2011
Keyword(s): fundamentalness, invertibility, news shocks, structural factor model
JEL(s): C32, E32, E62
Programme Areas: International Macroeconomics
Link to this Page: http://www.cepr.org/pubs/dps/DP8274

This paper uses a structural, large dimensional factor model to evaluate the role of 'news' shocks (shocks with a delayed effect on productivity) in generating the business cycle. We find that (i) existing small-scale VECM models are affected by 'non-fundamentalness' and therefore fail to recover the correct shock and impulse response functions; (ii) news shocks have a limited role in explaining the business cycle; (iii) their effects are in line with what predicted by standard neoclassical theory; (iv) the bulk of business cycle fluctuations is explained by shocks unrelated to technology.