Durable Goods Production and Inventory Dynamics: An Application to the Automobile Industry

This paper develops a model of the joint determination of production, inventories and pricing of a monopolistically competitive durable good.producer. The model gives rise to time-varying markups that interact with the inventory-sales ratio, even with flexible prices. Maximum likelihood estimation with automobile industry data yields plausible parameter estimates and impulse responses. We then apply the model to analyze the impact of the "Cash-for-Clunkers" program, and ÃÂfind that the model predicts a negligible production response; essentially all the action is inventories. This leads us to consider evidence of threshold effects that imply a stronger response very far from the steady state. This results in a modest but more plausible production response to the policy--still modest in comparison to the sales impact, but now at least measurable. Even with some production response, the results still provide a cautionary tale for countercyclical policies that rely on stimulating consumer spending. Even an impact on spending need not translate into a comparable impact on employment and output.