Growth and Volatility Revisited

This paper revisits the relation between growth and volatility in disaggregated data. Across countries, the link is confirmed to be significantly negative, but the paper shows that across sectors, the relation becomes positive. This reversal has a natural interpretation. The macroeconomic component of aggregate volatility, common across sectors, correlates negatively with growth, whereas sector-specific volatility correlates positively with growth, as if risky investments commanded high returns. This latter effect is absent from standard cross-country studies, which focus de facto on the macroeconomic component of volatility. Furthermore, while investment and volatility are unrelated in the aggregate, sectoral investment is more intense in volatile activities, as if resources were reallocated from safe low-yield activities to risky high-yield ones. Thus, aggregation is key in determining the empirical answer to the growth volatility question, suggesting competing theories may all be supported by the data, but at different aggregation levels