The Tail that Wags the Economy: Beliefs and Persistent Stagnation

Julian Kozlowski, Laura Veldkamp and Venky Venkateswaran

No 21719, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: The Great Recession was a deep downturn with long-lasting effects on credit, employment and output. While narratives about its causes abound, the persistence of GDP below pre-crisis trends remains puzzling. We propose a simple persistence mechanism that can be quantfied and combined with existing models. Our key premise is that agents don't know the true distribution of shocks, but use data to estimate it non-parametrically. Then, transitory events, especially extreme ones, generate persistent changes in beliefs and macro outcomes. Embedding this mechanism in a neoclassical model, we find that it endogenously generates persistent drops in economic activity after tail events.

JEL-codes: D84 E32 (search for similar items in EconPapers)
Date: 2015-11
New Economics Papers: this item is included in nep-dge and nep-mac
Note: CF EFG
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Citations: View citations in EconPapers (28)

Published as Julian Kozlowski & Laura Veldkamp & Venky Venkateswaran, 2020. "The Tail That Wags the Economy: Beliefs and Persistent Stagnation," Journal of Political Economy, vol 128(8), pages 2839-2879.

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Related works:
Working Paper: The Tail that Wags the Economy: Beliefs and Persistent Stagnation (2019)
Working Paper: The Tail that Wags the Economy: Beliefs and Persistent Stagnation (2018)
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