Can RBC Models Explain Business Cycles in Korea?

Abstract

I examine whether an RBC model can generate a higher volatility of consumption relative to output, a strong negative correlation between output and the trade balance, and a weak countercyclicality of the real interest rate, phenomena that have been observed in the business cycles of emerging economies, including Korea. From an RBC model with recursive utility, I show that it is not the degree of relative risk aversion, but the elasticity of intertemporal substitution (EIS), that governs the movements of the variables of the model in the log linearized environment. The Bayesian estimation results based on Korean data from the period 1987 to 2013 suggest that there are some elements of success in describing the Korean economy based on the simple RBC model both with the EIS larger than one and with an error term for the real interest rate equation. An EIS larger than one improves the performance of the simple RBC model mainly in the direction of raising the volatility of consumption relative to output. Simulation results show that the error term for the real interest rate process mostly reflects the endogenous channel of financial frictions where the domestic real interest rate depends negatively on the expected (transitory) productivity shock.

Growth and real business cycles in Vietnam and the Asean-5. Does the trend shock matter?

“…GPU augmented AG's model with financial frictions and country risk shocks and claimed that non-stationary productivity shocks only contributed by a small fraction to the output variance. Along the same line, Boz et al (2011), Alvarez-Parra et al (2013) and Rhee (2017), among others, provided support to GPU's view. For instance, by considering a recursive utility function and an endogenous risk premium channel, Rhee (2017) showed that transitory productivity shocks significantly drive Korea's economy.…”

“…GPU suggested the sole use of uniform distributions to estimate the structural parameter space. Rhee (2017), however, estimates the AG-type model using a mixture of Beta, Gamma, and Inverse − Gamma distribution priors. As shown in Table 6 (first four columns), we adopt Rhee (2017)'s prior specifications.…”

“…In this context, the trend component of the shock only accounts for 6% of Solow residual's variance. In addition, in contrast to Vietnam, but similarly to Korea ( (Rhee, 2017), country risk premium innovations appear to govern Thailand's business cycles. We therefore argue that Thailand's economy was more vulnerable to international externalities than Vietnam since the latter has stricter capital flow controls, and its economy is de-facto a non-free market economy.…”

A Structural Change in the Trend and Cycle in Korea

“…Using data prior to the middle of the 1990s, Kim and Choi (1997), and Kim and Ahn (2005) find that business cycles in Korea resemble those in developed countries. On the other hand, using data from 1987 to 2013, Rhee (2017) shows that the business cycles in Korea are similar to those in developing countries. Unlike the previous studies, we find that Korean business cycles have featured the business cycle regularities observed in developing countries since 1993 and that there was a structural change in the trend and cycle in Korea in 1993.…”

Navigating Uncharted Waters: The Transformation of the Bank of Korea’s Monetary Policy in Response to Global Economic Uncertainty

“…The elasticity of the substitution parameter for intermediate products (ξ) is set at 6, guided by Katayama and Kim [97], facilitating a nuanced understanding of production processes. Furthermore, our model incorporates a cost markup for intermediate goods manufacturers at 0.1, as per the findings of Jeong and Kim [98], and a capital depreciation rate (δ) of 0.025, echoing the combined research of Rhee [99]. In addressing trade dynamics, we diverge from the average value of Korea's export trade dependence (α), typically around 0.3 as noted by Wong and Eng [100], and instead calibrate it at 0.7, based on a comprehensive analysis.…”