Investment-Specific Technology Shocks: The Source of Anticipated TFP Fluctuations

This paper explores the importance of investment-specific technology changes in anticipated TFP fluctuations. To this end, we identify two types of news shocks with the maximum forecast error variance approach: news shocks to TFP and news shocks to the relative price of investment. We show in a model with IST diffusion and spillover that the correlation of these two empirically identified shocks can be used to quantify the importance of the IST shocks in aggregate TFP fluctuations. Using postwar U.S. data, we find that these two news shocks are almost perfectly colinear, if both are identified to capture the long-run movement of the corresponding variable. Moreover, these two news shocks can explain a significant, and surprisingly similar fraction of the fluctuations in other important macro variables over business cycles. Our findings suggest that embodied technological changes are the main driver of the anticipated TFP fluctuations via spillover to the productivity of the rest of the economy.