Technology-Hours Redux: Tax Changes and the Measurement of Technology Shocks

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A number of empirical studies find that permanent technological improvements give rise to a temporary drop in hours worked. This finding seriously questions the technology-driven business cycle hypothesis. In this paper we argue that it is important to control for permanent changes in taxes, which invalidate the standard long-run identifying assumptions for technology shocks and induce low-frequency fluctuations in hours worked. Using the narrative data of Romer and Romer, we find that tax shocks have significant long-run effects on aggregate hours, output, and labor productivity. We also find that, after we control for tax shocks, permanent shocks to labor productivity generate short-run increases in hours worked and are an important source of fluctuations in US output.