Stock Price Fluctuations and Productivity Growth

This paper studies the relationship between stock prices and fluctuations in TFP. We document a strong predictability of lagged stock price growth on future TFP growth at medium horizons. To explore the sources of this co-movement, we develop a one-sector real business model augmented to allow for (i) endogenous technology through R&D and adoption, and (ii) exogenous shocks to the risk premium. Model simulations produce predictability patterns quantitatively similar to the data. A version of the model with exogenous technology produces no predictability of TFP growth. Decomposing historical TFP, we show that the predictability uncovered in the data is fully driven by the endogenous component of TFP. This finding suggests that fluctuations in risk premia impact TFP growth through their effect on the speed of technology diffusion instead of responding to exogenous fluctuations in future TFP.