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The authors study the sources of the Great Moderation by estimating a variety of medium-scale Dynamic Stochastic General Equilibrium (DSGE) models that incorporate regime switches in shock variances and the inflation target. The best-fit model - the one with two regimes in shock variances - gives quantitatively different dynamics compared with the benchmark constant-parameter model. These estimates show that three kinds of shocks accounted for most of the Great Moderation and business-cycle fluctuations: capital depreciation shocks, neutral technology shocks, and wage markup shocks. In contrast to the existing literature, they find that changes in the inflation target or shocks in the investment-specific technology played little role in macroeconomic volatility. Moreover, these estimates indicate considerably less nominal rigidity than the literature suggests.
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