News, Uncertainty and Economic Fluctuations

Mario Forni, Luca Gambetti and Luca Sala

No 12139, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: We formalize the idea that uncertainty is generated by news about future developments in economic conditions which are not perfectly predictable by the agents. Using a simple model of limited information, we show that uncertainty shocks can be obtained as the square of news shocks. We develop a two-step econometric procedure to estimate the effects of news and we find highly nonlinear effects. Large news shocks increase uncertainty. This mitigates the effects of good news and amplifi es the effects of bad news in the short run. By contrast, small news shocks reduce uncertainty and increase output in the short run. The Volcker recession and the Great Recession were exacerbated by the uncertainty effects of news.

Date: 2017-07
New Economics Papers: this item is included in nep-mac and nep-upt
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