Is the Macroeconomy Locally Unstable and Why Should We Care?

Paul Beaudry, Dana Galizia, Franck Portier

Chapter in NBER book NBER Macroeconomics Annual 2016, Volume 31 (2017), Martin Eichenbaum and Jonathan A. Parker, editors (p. 479 - 530)
Conference held April 15-16, 2016
Published in May 2017 by University of Chicago Press
© 2017 by the National Bureau of Economic Research
in NBER Book Series NBER Macroeconomics Annual

In most modern macroeconomic models, the steady state (or balanced growth path) of the system is a local attractor, in the sense that, in the absence of shocks, the economy would converge to the steady state. In this paper, we examine whether the time series behavior of macroeconomic aggregates (especially labor market aggregates) is in fact supportive of this local-stability view of macroeconomic dynamics, or if it instead favors an alternative interpretation in which the macroeconomy may be better characterized as being locally unstable, with nonlinear deterministic forces capable of producing endogenous cyclical behavior. To do this, we extend a standard AR representation of the data to allow for smooth nonlinearities. Our main finding is that, even using a procedure that may have low power to detect local instability, the data provide intriguing support for the view that the macroeconomy may be locally unstable and involve limit-cycle forces. An interesting finding is that the degree of nonlinearity we detect in the data is small, but nevertheless enough to alter the description of macroeconomic behavior. We complete the paper with a discussion of the extent to which these two different views about the inherent dynamics of the macroeconomy may matter for policy.

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This chapter first appeared as NBER working paper w22275, Is the Macroeconomy Locally Unstable and Why Should We Care?, Paul Beaudry, Dana Galizia, Franck Portier
Commentary on this chapter:
  Comment, Roxana Mihet, Laura Veldkamp
  Comment, Iván Werning
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