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We estimate the time-varying distribution of aggregate supply (AS) and aggregate demand
(AD) shocks. We distinguish between traditional Gaussian uncertainty and “bad” uncertainty,
associated with negative skewness. The Great Moderation is driven by a reduction in the
volatility of AS shocks and the Gaussian component of AD shocks. The increased role of “bad”
demand uncertainty implies that the conditional skewness of GDP growth and inflation has
decreased over time. The correlation between AS/AD shocks and shocks to their conditional
volatilities is generally strongly negative. The correlation between inflation and growth shocks
has increased due to a decrease in AS volatility.
