Economists have recently revived the notion that recessions play a useful role in fostering innovation and growth. Yet a major source of growth, R&D, is procyclical. This paper argues one reason why R&D might be procyclical is because of a dynamic externality inherent to R&D that makes entrepreneurs short-sighted and concentrate their innovation in booms even though it is optimal to concentrate it in recessions. Even if additional forces imply that procyclical R&D is desirable, equilibrium R&D in a decentralized environment is likely to be too procyclical, and it would be better if some R&D would be shifted to recessions. * I am grateful to the editor and two anonymous referees who made extremely valuable suggestions in improving the paper. I would also like to thank
Previous work has established that recessions involve a ''cleansing'' effect, so that in downturns, only high productivity jobs remain. But empirical evidence suggests job quality is procyclical: jobs created in recessions are likely to be low-paying and temporary. This paper modifies previous models by adding on-the-job search, which leads to an additional ''sullying'' effect. Calibration of the model suggests this offsetting sullying effect is likely to be much larger than the cleansing effect, and can account for the procyclical match quality we observe in the data.
In his famous monograph, Lucas (1987) put forth an argument that the welfare gains from reducing the volatility of aggregate consumption are negligible. Subsequent work that revisited Lucas' calculation continued to find only small benefits from reducing the volatility of consumption, further reinforcing the perception that business cycles don't matter. This paper argues instead that fluctuations can affect welfare by affecting the growth rate of consumption. I present an argument for why fluctuations can reduce growth starting from a given initial consumption, which could imply substantial welfare effects as Lucas (1987) already observed in his calculation. Empirical evidence and calibration exercises suggest that the welfare effects are likely to be substantial, about two orders of magnitude greater than Lucas' original estimates.
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