ELSEVIER Economics Letters 49 (1995) 231-237 economics letters The dynamic effects of aggregate demand and supply disturbances: Another Look William J. Crowder College of Business, Department of Economics, University of Texas at Arlington, Arlington, TX 76019-0479, USA Received 20 July 1994; accepted 13 September 1994 Abstract In a recent paper, Blanchard and Quah (American Economic Review, 1989, 79, 655-673) propose a set of restrictions to identify the structural innovations from a reduced-form bivariate model of income growth and unemployment. Given the assumptions made by Blanchard and Quah on the time-series properties of the data, this paper demonstrates that their bivariate model is just a special case of Stock and Watson's Journal of the American Statistical Association, 1988, 83, 1097-1107) common trends representation. More importantly, this alternative representation allows the econometrician to test the long-run restrictions used by Blanchard and Quah to distinguish between demand and supply innovations. Keywords: Structural VAR; Cointegration; Common trends representation; Identification JEL classification: C12; C32; E24 1. Introduction In a recent paper, Blanchard and Quah (1989) propose a set of restrictions to identify the structural innovations from a reduced-form bivariate model of income growth and unemploy- ment. They give the innovation in the unemployment equation the economic interpretation of an aggregate demand disturbance and the innovation in the output growth equation is then given an aggregate supply disturbance interpretation. On the basis of the restrictions imposed by Blanchard and Quah, they are able to obtain a decomposition of each series into those components attributed to supply innovations and those components attributed to demand innovations. Given the assumptions made by Blanchard and Quah on the time-series properties of the data, this paper demonstrates that their bivariate model is just a special case of Stock and Watson's (1988) common trends representation. More importantly, this 0165-1765/95/$09.50 (~) 1995 Elsevier Science B.V. All rights reserved SSDI 0165-1765(95)00680-X