Monetary policy shocks and productivity measures in the G-7 countries

Byline: Charles L. Evans (1), F. Teixeira Santos (2) Keywords: Monetary policy shocks; Productivity; International real business cycles; Exogeneity tests Abstract: An implication of two-country international real business cycle models is that total factor productivity should be an exogenous stochastic process. Economic theories which feature labor hoarding, variable capacity utilization, and increasing returns predict that measured productivity shifts are not exogenous instead, expansionary aggregate demand shocks should lead to an increase in measured productivity. For each of the G-7 countries, this paper measures quarterly aggregate total factor productivity for the domestic country and its rest-of-world (G-6) counterpart. In each case the domestic productivity measures are not strictly exogenous: expansionary U.S. monetary policy shocks, as well as other G-6 monetary policy shocks, lead to productivity expansions. The evidence indicates that international business cycle models are misspecified unless they feature endogenous productivity mechanisms. Author Affiliation: (1) Research Department, Federal Reserve Bank of Chicago, P.O. Box 834, IL 60690-0834, Chicago, USA (2) Department of Economics, University of Porto, Rua Dr. Roberto Frias, 4200, Porto, Portugal Article History: Registration Date: 01/01/2001 Article note: Received: June 2001, Accepted: December 2001, JEL Classification: Correspondence to: Charles L. Evans For their helpful comments, we thank Mario Crucini, Patricia Reynolds, and Steve Strongin. The views expressed in this paper do not necessarily reflect the views of the Federal Reserve Bank of Chicago or the Federal Reserve System.