Diffusion Lags and Aggregate Fluctuations. New Name: Product Innovation and the Business Cycle

Abstract

This paper studies how random product innovations affect the time series properties of aggregates. It posits that recurring inventions of new intermediate goods differ in quality, and that their usage spreads gradually through the economy. It examines how fluctuations in per capita GNP are affected by these features of the innovation process. Micro data from the U.S. show, first, that the dispersion of products' qualities is quite large: Its coefficient of variation is 0.56. More importantly, they also show that the rate of diffusion of new products is relatively slow; Only 4.3% of the potential market size is realized in every year. Because diffusion is so slow, the model explains only low frequency movements in per capita GNP in the G-7 countries.