Essays Concerning the Nature of Business Cycles

This dissertation contains three essays concerning business cycles and the appropriate fiscal policy response. Chapter one studies the state-dependence of the output and welfare effects of shocks to government purchases in a DSGE model with real and nominal frictions and a rich fiscal financing structure. Both the output multiplier (the change in output for a one dollar change in government spending) and the welfare multiplier (the consumption equivalent change in welfare for the same change in spending) are found to move significantly across states, but tend to co-move negatively with one another. In an historical simulation, the output multiplier is found to be countercyclical (correlation of -0.4) and strongly negatively correlated with the welfare multiplier (correlation of -0.9). Chapter two continues this focus on state dependent fiscal policy by studying the state-dependent effects of consumption, labor, and capital tax cuts. The tax output multiplier is defined as the change in output for a one dollar change in tax revenue caused by a shock to tax rates on consumption, labor income, or capital income. Adopting language newly introduced in the first chapter, this chapter defines the tax welfare multiplier as the consumption equivalent change in welfare for the same change in tax revenue. Magnitudes of tax multipliers are found to vary across the type of tax and the state of the business cycle. The output multipliers for all three tax cuts tend to be largest in states of the economy in which output is low. Output multipliers tend to be positively correlated with welfare multipliers for all three kinds of tax changes. The final chapter considers the primary cause of the recent episode of relatively modest business cycles. Decomposing the United States' 1984 aggregate business cycle volatility reduction shows that declines in state-level business cycle co-movements account for approximately 19% of the Great Moderation while individual state-level volatility declines and changing share weights account for approximately 74% and 6%, respectively. The primary source of the state-level volatility decline is then analyzed using region and state-level moderation experiences. The ability of leading Moderation theories to account for these new data facts is considered.