Sentiment Shocks as Drivers of Business Cycles

Agustín Arias

Working Papers Central Bank of Chile from Central Bank of Chile

Abstract: This paper studies the role of sentiment shocks as a source of business cycle fluctuations. Considering a standard New Keynesian model of the business cycle, it introduces agents that update beliefs about the parameters of their forecasting models using newly observed data and exogenous sentiment shocks. The resulting learning model fits U.S. data better than its non-sentiment version and than its rational expectations counterpart. Sentiment is found to be an important driver of economic fluctuations, accounting for up to half of the forecast error variance of aggregate variables at business cycle frequencies. Furthermore, sentiment displays a common pattern for real GDP, investment and consumption growth, where a significant part of the sluggish recovery following a recession can be attributed to the persistent pessimistic views of agents. Sentiment also explains a substantial fraction of the high inflation experienced during the 70’s and early 80’s.

Date: 2016-03
New Economics Papers: this item is included in nep-dge and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

Downloads: (external link)
https://www.bcentral.cl/documents/33528/133326/DTBC_782.pdf (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:chb:bcchwp:782

Access Statistics for this paper

More papers in Working Papers Central Bank of Chile from Central Bank of Chile Contact information at EDIRC.
Bibliographic data for series maintained by Alvaro Castillo ().