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Financial Markets, the Real Economy, and Self‐Fulfilling Uncertainties

Jess Benhabib, Xuewen Liu and Pengfei Wang

Journal of Finance, 2019, vol. 74, issue 3, 1503-1557

Abstract: We develop a model of informational interdependence between financial markets and the real economy, linking economic uncertainty to information production and aggregate economic activities in general equilibrium. The mutual learning between financial markets and the real economy creates a strategic complementarity in their information production, leading to self‐fulfilling surges in economic uncertainties. In a dynamic setting, our model characterizes self‐fulfilling uncertainty traps with two steady‐state equilibria and a two‐stage economic crisis in transitional dynamics.

Date: 2019
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Working Paper: Financial Markets, the Real Economy, and Self-fulfilling Uncertainties (2018) Downloads
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Handle: RePEc:bla:jfinan:v:74:y:2019:i:3:p:1503-1557