Author Description

This paper evaluates the relative importance of disequilibrium costs (the cost of temporarily deviating from the equilibrium level of inventories) to adjustment costs of inventories (the costs of adjusting inventory holdings). An estimate of the rate of inventory adjustment towards its long-term equilibrium level is provided for the United States by means of a linear quadratic model with integrated processes. A limited information approach allows the time series properties of the data to be exploited and consistent estimates of the structural parameters of the Euler equation obtained. Results indicate the relationship between actual and target levels of US inventories during periods of recession and of economic growth, and whether inventory imbalances can amplify the business cycle.