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Hi all,

Could any one explain me why in the JPT 2010 "Investment shocks and business cycles" the authors set up the model comprises of two blocks equilibrium conditions as noted in page 12 of technical appendix. That is they derive a system of 16 equations and said that "...together with the 15 equations describing the evolution of the economy with flexible prices, flexible wages and no markup shocks,...". The whole system have 31 endogenous variables: [...yhat, yhatstar, Lhat, Lhatstar,...].

The model is straight forward but I do not understand why they do so

For your reference I attach the paper and appdx.

Thanks a lot.

Because of the monetary policy rule. The central bank reacts to the to deviations of actual output from the natural or flex-price output. The only way to compute the latter is to solve the full flex-price economy as well. Smets/Wouters (2007) do exactly the same thing. In case you are trying to replicate the paper, please send me an email.

Thank you for your guidelines Prof Johannes. I am trying...
All the best,