The Granular Origins of Aggregate Fluctuations

TLDR

Existing research has focused on using aggregate shocks to explain business cycles, arguing that individual firm shocks average out in the aggregate. The paper proposes that idiosyncratic firm-level shocks explain a significant portion of aggregate movements, offering a microfoundation for aggregate shocks, and suggests that macroeconomic questions can be clarified by studying large firms. The authors argue that idiosyncratic firm-level shocks, especially from large firms, can drive aggregate fluctuations, providing a microfoundation for aggregate shocks. The analysis shows that the idiosyncratic movements of the largest 100 U.S.

Abstract

This paper proposes that idiosyncratic firm-level shocks can explain an important part of aggregate movements and provide a microfoundation for aggregate shocks. Existing research has focused on using aggregate shocks to explain business cycles, arguing that individual firm shocks average out in the aggregate. I show that this argument breaks down if the distribution of firm sizes is fat-tailed, as documented empirically. The idiosyncratic movements of the largest 100 firms in the United States appear to explain about one-third of variations in output growth. This “granular” hypothesis suggests new directions for macroeconomic research, in particular that macroeconomic questions can be clarified by looking at the behavior of large firms. This paper's ideas and analytical results may also be useful for thinking about the fluctuations of other economic aggregates, such as exports or the trade balance.