Quantitative Economics: Jul, 2011, Volume 2, Issue 2
Sources of macroeconomic fluctuations: A regime-switching DSGE approach
Zheng Liu, Daniel F. Waggoner, Tao Zha
We examine the sources of macroeconomic fluctuations by estimating a variety
of richly parameterized DSGE models within a unified framework that incorpo-
rates regime switching both in shock variances and in the inflation target. We
propose an efficient methodology for estimating regime-switching DSGE mod-
els. Our counterfactual exercises show that changes in the inflation target are not
the main driving force of high inflation in the 1970s. The model that best fits the
U.S. time-series data is the one with synchronized shifts in shock variances across
two regimes, and the fit does not rely on strong nominal rigidities. We provide ev-
idence that a shock to the capital depreciation rate, which resembles a financial
shock, plays a crucial role in accounting for macroeconomic fluctuations.
Keywords. Regime switch, depreciation shock, financial shock, Müeller method,
volatility changes, inflation target.
JEL classification. C11, C51, E32, E42, E52.
Supplement to "TECHNICAL APPENDIX I SOURCES OF MACROECONOMIC FLUCTUATIONS: A REGIME-SWITCHING DSGE APPROACH"