NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

The Aggregate Implications of Regional Business Cycles

Martin Beraja, Erik Hurst, Juan Ospina

NBER Working Paper No. 21956
Issued in February 2016
NBER Program(s):   EFG   IFM   ITI   ME

We argue that it is difficult to make inferences about the drivers of aggregate business cycles using regional variation alone because (i) the local and aggregate elasticities to the same type of shock are quantitatively different and (ii) purely aggregate shocks are differenced out when using cross-region variation. We highlight the importance of these confounding factors by contrasting the behavior of U.S. aggregate time-series and cross-state patterns during the Great Recession. In particular, using household and scanner data for the US, we document a strong relationship across states between local employment growth and local nominal and real wage growth. These relationships are much weaker in US aggregates. In order to identify the shocks driving aggregate (and regional) business cycles we develop a semi-structural methodology that combines regional and aggregate data within a model of a monetary union. The methodology uses theoretical restrictions implied by a wage setting equation with nominal wage rigidities. Taking this methodology to the data, we find that a combination of both "demand" and "supply" shocks are necessary to account for the joint dynamics of aggregate prices, wages and employment during the 2007-2012 period in the US while only "demand" shocks are necessary to explain most of the observed cross-state variation. We conclude that the wage stickiness necessary to get demand shocks to be the primary cause of aggregate employment declines during the Great Recession is inconsistent with the flexibility of wages estimated from cross-state variation.

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Document Object Identifier (DOI): 10.3386/w21956

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