Working Paper: NBER ID: w8850
Authors: Jordi Gal; Mark Gertler; J. David López-Salido
Abstract: In this paper we present a simple, theory-based measure of the variations in aggregate economic efficiency associated with business fluctuations. We decompose this indicator, which we refer to as 'the gap', into two constituent parts: a price markup and a wage markup, and show that the latter accounts for the bulk of the fluctuations in our gap measure. Finally, we derive a measure of the welfare costs of business cycles that is directly related to our gap variable, and which takes into account explicitly the existence of a varying aggregate inefficiency. When applied to postwar U.S. data, for plausible parametrizations, our measure suggests welfare losses of fluctuations that are of a higher order of magnitude than those derived by Lucas (1987). It also suggests that the major postwar recessions involved substantial efficiency costs.
Keywords: business fluctuations; welfare costs; inefficiency gap; price markup; wage markup; economic efficiency
JEL Codes: E3
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| price and wage markups (E64) | inefficiency gap (D61) |
| marginal product of labor (MP) and marginal rate of substitution (MRS) (F16) | inefficiency gap (D61) |
| business cycle (E32) | inefficiency gap (D61) |
| inefficiency gap (D61) | welfare costs of business cycles (D69) |
| inefficiency gap (D61) | stabilization policies (E63) |
| wage markup (J31) | inefficiency gap (D61) |