Periodically, events occur in the domestic and global economies that remind agricultural economists that macroeconomics matter. This was evident in the early 1980s when the Federal Reserve responded to double-digit inflation by driving interest rates to post-World War II period highs. The Asian financial crisis in the late 1990s, rising oil prices this past decade, and current stress in domestic and overseas financial markets serve to remind us again that externalities can have an effect on the economic performance and financial strength of U.S. agriculture. These effects are transmitted through interest rates, inflation, unemployment, real gross domestic product, and exchange rates.

This paper proposes a multivariate unobserved-components model to simultaneously decompose the real GDP for each of the G-7 countries into its respective trend and cycle components. In contrast to previous literature, our model allows for explicit correlation between all the contemporaneous trend and cycle shocks. We find that all the G-7 countries have highly variable stochastic permanent components for output, even once we allow for structural breaks. We also find that common restrictions on the correlations between trend and cycle shocks are rejected by the data. In particular, we find that correlations across permanent and transitory shocks are important both within and across countries.