Demand Side Hysteresis in Finland - What Can We Learn from SVARs?

Abstract

We study whether aggregate demand shocks have long-run effects on output and employment using data for Finland and a number of other European economies. We use a recently proposed identification strategy that combines sign and long-run restrictions to estimate a SVAR model that allows for demand shocks with potentially permanent effects on output. In contrast to the results previously documented for the US, we fail to find convincing evidence of demand shock hysteresis in Finland. Our hysteresis results for other European countries are mixed. We also propose a simple generalization of the original identification strategy and find that allowing for the possibility of several distinct long-run supply shocks considerably reduces the estimated long-run relevance of demand shocks in the US economy.