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American Economic Review: Vol. 97 No. 4 (September 2007)
AER Volume. 97, Issue 4 | 
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Inventories and the Business Cycle: An Equilibrium Analysis of (S, s) Policies
Article Citation
Khan, Aubhik, and
Julia K. Thomas. 2007. "Inventories and the Business Cycle: An Equilibrium Analysis of (S, s) Policies."
American Economic Review,
97(4): 1165-1188.
DOI: 10.1257/aer.97.4.1165
DOI: 10.1257/aer.97.4.1165
Abstract
We develop an equilibrium business cycle model where nonconvex delivery costs lead
firms to follow (S, s) inventory policies. Calibrated to postwar US data, the model
reproduces two-thirds of the cyclical variability of inventory investment. Moreover,
it delivers strongly procyclical inventory investment, greater volatility in production
than sales, and a countercyclical inventory-to-sales ratio. Our model challenges
several prominent claims involving inventories, including the widely held belief
that they amplify aggregate fluctuations. Despite the comovement between inventory
investment and final sales, GDP volatility is essentially unaltered by inventory
accumulation, because procyclical inventory investment diverts resources from
final production, thereby dampening fluctuations in sales. (JEL E22, E32).
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Authors
Khan, Aubhik
Thomas, Julia K.
Thomas, Julia K.
