Firm-specific productivityrisk over the business cycle:facts and aggregate implications

Is time-varying firm-level uncertainty a major cause or amplifier of the businesscycle? This paper investigates this question in the context of a heterogeneousfirmRBC model with persistent firm-level productivity shocks and lumpy capitaladjustment, where cyclical changes in uncertainty correspond naturally to cyclicalchanges in the cross-sectional dispersion of firm-specific Solow residual innovations.We use a unique German firm-level data set to investigate the extent towhich firm-level uncertainty varies over the cycle. This allows us to put empiricaldiscipline on our numerical simulations. We find that, while firm-level uncertaintyis indeed countercyclical, it does not fluctuate enough to significantly alterthe dynamics of an RBC model with only first moment shocks. The mild changeswe do find are mainly caused by a bad news effect: higher uncertainty today predictslower aggregate Solow residuals tomorrow. This effect dominates the realoption value effect of time-varying uncertainty, highlighted in the literature.[...] Ruediger Bachmann, Christian Bayer