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Stock and Watson Disentangling the Channels of the 2007-2009 Recession

Stock and Watson Disentangling the Channels of the 2007-2009 Recession. Research Questions. Beyond severity, how did this recession differ from previous post-war recessions? What specific economic shocks triggered the 2007 recession and what were their quantitative contributions ?

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Stock and Watson Disentangling the Channels of the 2007-2009 Recession

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  1. Stock and WatsonDisentangling the Channels of the 2007-2009 Recession

  2. Research Questions • Beyond severity, how did this recession differ from previous post-war recessions? • What specific economic shocks triggered the 2007 recession and what were their quantitative contributions? • What is responsible for the anemic recovery in output and employment?

  3. Approach • Dynamic Factor Model • 1959:Q1 – 2011:Q2 • 200 Macroeconomic variables • Six shocks • Oil prices (3 instruments, taken from the literature) • Monetary policy (4) • Productivity (3) • Uncertainty (2) • Liquidity/Financial risk (3) • Fiscal policy (3)

  4. Answers • There is little evidence of a new factor associated with the 2007:Q4 recession and its aftermath. Rather, the factors driving this recession are those associated with previous recessions. • The response to “old” factors seems to have been the same post 2007:Q4 as pre 2007:Q4. • The shocks to “old” factors were large, particularly in fall 2008 (i.e., no need to bring in a special “financial crisis” factor).

  5. Answers (2) • Interpretation of 2007-09 recession: • Economy was hit in close succession by a sequence of unusually large shocks, all of which have been experienced before, but not in such magnitude or close succession. • Specifically, an initial oil shock, followed by the financial crisis, financial market disruptions and prolonged uncertainty due to policy uncertainty. • Financial crisis affected the economy through uncertainty/liquidity and financial risk (i.e., traditional channels, just larger shocks)

  6. Answers (3) • Most of the slow recovery in employment and nearly all the slow recovery in output is due to a secular decline in trend labor force growth. • Traceable to demographic factors • Plateau-ing of the historic increase in the female labor force participation rate (1960-1990) • Somewhat smaller decline in male labor force participation rate.

  7. Potential Explanations of Weak Recovery • Tight monetary policy • Post-financial crisis hangover • Bad policy / policy uncertainty • Decline in growth of labor force (demographic factors)

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