Abstract

We argue that political distribution risk is an important driver of aggregate fluctuations. To that end, we document signicant changes in the capital share after large political events, such as the end of dictatorships, political realignments, or modications in collective bargaining rules in a sample of developed and emerging economies. These policy changes are often associated with significant fluctuations in output and asset prices. We also show, using a Bayesian Proxy-VAR estimated with U.S. data, how distribution shocks cause movements in output, unemployment, and asset pricing. To quantify the importance of these political shocks for the U.S., we extend an otherwise standard neoclassical growth model. We model political shocks as exogenous changes in the bargaining power of workers in a labor market with search and matching. We calibrate the model to the U.S. corporate non-nancial business sector. A one-standard deviation redistribution shock reduces the capital share 0.2% on impact and leads to a drop in output of 0.6%. Also, political distribution risk accounts for 35 to 45% of output volatility and 15 to 25% of the observed volatility of U.S. gross capital shares, depending on the elasticity of substitution between capital and labor. Eliminating political redistribution risk in the U.S. would raise the welfare of the representative household by 1.6% of steady-state consumption.