Information-Driven Business Cycles: How Important are Noise Shocks?

Robert Ulbricht and Ryan Chahrour
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Robert Ulbricht: Toulouse School of Economics

No 582, 2016 Meeting Papers from Society for Economic Dynamics

Abstract: We bound the potential business cycle contribution of non-fundamental shocks to beliefs using a partial identification approach that is minimally restrictive. Firms face exogenous and endogenous fluctuations in their ideal actions, but are imperfectly informed about them. No structural restrictions are imposed on the origin or nature of the economy's fundamental shocks, the information structure of agents, or the process driving aggregate demand. Using data on the price level and output, we show that such non-fundamental shocks can contribute up to, but not more than, 28 percent of aggregate output fluctuations at short horizons and up to 45 percent of fluctuations unconditionally. Imposing additional economic restrictions and/or adding additional data tightens the bounds substantially, but without eliminating the potential for such shocks to play an important role in driving aggregate fluctuations.

Date: 2016
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