STRUCTURAL INSTABILITY AND THE PRODUCTION-SMOOTHING MODEL OF INVENTORIES

The production-smoothing model of inventories implies that inventories , labor inputs, sales, and factor input prices are cointegrated if sal es and factor prices are I(1) with one cointegrating vector for each s tate variable held. These propositions are tested in six nondurable-go ods industries. All industries provide evidence of cointegration. Fewe r quasi-fixed factors are found than previous research often assumed. Estimates of cointegrating vectors provide implausible parameter estim ates. Rank stability tests, with fixed or seqentially chosen breakpoin ts, indicate that the cointegrating matrix has unstable rank. Paramete r estimates of cointegrating vectors do not provide much support for t he production-smoothing model of inventories.