External Economies in Procyclical Productivity: How Important Are They?

Using the method of Caballero and Lyons (1990,1992), I examine detailed Swedish manufacturing firm-level data on output and factor inputs from 1979 through 1994. Panel regressions show that an increase in aggregate output and inputs appears to raise individual firms' production beyond private marginal returns, a result consistent with positive external effects from aggregate activity. However, while considering potential specification difficulties, this analysis shows that a model in which high-frequency exogenous shifts in technology drive the business cycle statistically outperforms the Caballero-Lyons model. This finding suggests that economywide fluctuations in technology are more important for movements in firms' productivity than are external economies.