Author : Byeongseon Seo·Keunho Jang
When it comes to explaining the relationship between inventory investment and business fluctuations, the production smoothing theory and the stock-out avoidance theory take contradictory stances. Decision-making related to inventory investments of corporations is thought to be influenced by both motives, but the relative sizes or directions of their respective influences can differ depending upon the phase of the business cycle. Against this backdrop, this paper differs from existing studies in that it theoretically tests the relative significances of the production smoothing and stock-out avoidance motives in the inventory investment dynamics, while placing its analytical focus on determining the existence and patterns of the asymmetric dynamics of inventory investment over the business cycle phases. To this end this paper sets up a non-linear model that is expanded from the existing linear inventory investment model, and checks whether its predictive power is better than that of the existing model.
The results of analysis confirm the nature of the asymmetric dynamics of inventory investment over the business cycle phases. A stock-out avoidance motive appears but there is no significant production smoothing motive in boom times. In downturns, in contrast, the stock-out avoidance motive is insignificant, but a quality of asymmetric dynamics in which changes in inventory cause the deepening of recessions, due to the non-convexity of production costs proposed by Ramey (1991), is detected. This paper confirms that a model considering the asymmetric dynamics of inventory investment can have better predictive power than one that does not consider it, through within-sample and out-of-sample predictions and various predictive power tests.
These research results are expected to be useful for economic forecasting, through their enhancement of the understandings of the inventory investment dynamics and of the nature of its business cycle destabilization.