Market Liquidity and Inventory Cycle
Presented by:
Ziqi Qiao
Practice Job Talk
Department of Agricultural and Applied Economics
University of Wisconsin-Madison
Wednesday, September 30, 2020
12:00 pm-1:30 pm
Inventory behavior is very informative about business cycle, yet we lack good understanding. The structural VAR shows that inventory investment is pro-cyclical, inventory-sales ratio is counter-cyclical and aggregate markup is pro-cyclical. However, the existing explanations for inventory holdings can’t capture these empirical regularities. This paper rationalizes inventory holding via search friction and explains its cyclical behavior by market liquidity – the trade off between markup and selling speed. In the proposed model, sellers stock goods and post prices, while buyers choose the sellers to visit. Due to the lack of coordination, the sales are stochastic. Besides the production smoothing and stock-out avoidance motives, carrying inventories allows sellers to post more profitable terms of trade. Contrast to Walrasian pricing, sellers can adjust prices so the quantity responses to shocks can fit to the empirical findings. The model features endogenous idiosyncratic risks in a heterogeneous-agent framework.