Investment shocks and macroeconomic co-movement

• MEI shocks do not generate co-movement between consumption and investment in standard models.
• This is a problem given the conditional and unconditional empirical evidence.
• Rule-of-thumb consumers help generating macroeconomic co-movement in response to MEI shocks.
• Previous literature has shown that non-separable preferences can achieve the same result.
• Under sticky wages it is possible to disentangle these two plausible and non-rival mechanisms.

Recent studies find that shocks to the marginal efficiency of investment are main drivers of business cycles. However, they struggle to explain why consumption co-moves with key real variables such as investment and output. In this paper, we show that, within a conventional business cycle model, rule-of-thumb consumption provides a straightforward explanation of macroeconomic co-movement after a shock to the marginal efficiency of investment.