Durable Goods, Investment Shocks, and the Comovement Problem

Abstract

Sticky‐price models suggest that capital investment shocks are an important driver of business cycle fluctuations. Despite quantitative importance in explaining business cycles, a comovement problem emerges because the shocks generate intertemporal substitution effects away from consumption toward investment. This paper resolves the problem by extending the standard sticky‐price model to a two‐sector model with consumer durable services. When durable goods are used as investment in capital and consumer durables, positive capital investment shocks also generate intratemporal substitution effects away from consumer durable services toward nondurable consumption that dominates intertemporal effects. Consequently, consumption increases, and the comovement problem is resolved.