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The importance of beliefs in shaping macroeconomic outcomes

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  • Roger E A Farmer

Abstract

For the past 30 years of the history of macroeconomic thought, the Indeterminacy School of Macroeconomics has used general equilibrium models with indeterminate equilibria to understand the independent role of beliefs in shaping macroeconomic outcomes. In this paper I review the most recent advances in the indeterminacy agenda, Keynesian Search Theory, and I advance that agenda by introducing self-fulfilling beliefs to a Keynesian Search Model in two different ways. One variant of the model is driven by an exogenous process for investment expenditure. If investment is exogenous, the only way to restore full employment is by replacing private investment with public investment. The second variant of the model is driven by consumer confidence. If consumer confidence is exogenous, treasury or central bank intervention in the asset markets is a more effective means of restoring full employment than fiscal policy. In either scenario, increased government consumption will not be effective at maintaining full employment in the face of permanently depressed beliefs about the value of private assets.

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  • Roger E A Farmer, 2020. "The importance of beliefs in shaping macroeconomic outcomes," Oxford Review of Economic Policy, Oxford University Press and Oxford Review of Economic Policy Limited, vol. 36(3), pages 675-711.
    • Handle: RePEc:oup:oxford:v:36:y:2020:i:3:p:675-711.
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    File URL: http://hdl.handle.net/10.1093/oxrep/graa041
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    16. Farmer, Roger E. A. & Plotnikov, Dmitry, 2012. "Does Fiscal Policy Matter? Blinder And Solow Revisited," Macroeconomic Dynamics, Cambridge University Press, vol. 16(S1), pages 149-166, April.
    17. Beatrice Cherrier & Aurélien Saïdi, 2018. "The Indeterminate Fate of Sunspots in Economics," Post-Print hal-01721617, HAL.
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    25. Benhabib, Jess & Farmer, Roger E.A., 1999. "Indeterminacy and sunspots in macroeconomics," Handbook of Macroeconomics, in: J. B. Taylor & M. Woodford (ed.), Handbook of Macroeconomics, edition 1, volume 1, chapter 6, pages 387-448, Elsevier.
    26. Jonathan Heathcote & Fabrizio Perri, 2018. "Wealth and Volatility," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 85(4), pages 2173-2213.
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    Cited by:

    1. Jean-Philippe Bouchaud & Roger E. A. Farmer, 2023. "Self-Fulfilling Prophecies, Quasi Nonergodicity, and Wealth Inequality," Journal of Political Economy, University of Chicago Press, vol. 131(4), pages 947-993.
    2. Olkhov, Victor, 2022. "Economic Policy - the Forth Dimension of the Economic Theory," MPRA Paper 112685, University Library of Munich, Germany.
    3. Le, Vo Phuong Mai & Meenagh, David & Minford, Patrick, 2023. "Could an economy get stuck in a rational pessimism bubble? The case of Japan," Cardiff Economics Working Papers E2023/13, Cardiff University, Cardiff Business School, Economics Section.
    4. Roger Farmer & Jean-Philippe Bouchaud, 2020. "Self-Fulfilling Prophecies, Quasi Non-Ergodicity & Wealth Inequality," NBER Working Papers 28261, National Bureau of Economic Research, Inc.
    5. Dimitar Ivanov, 2020. "Macroeconomic Challenges and Risks Posed by the Global Coronavirus Crisis," Economic Archive, D. A. Tsenov Academy of Economics, Svishtov, Bulgaria, issue 3 Year 20, pages 3-28.
    6. Olkhov, Victor, 2022. "Why Economic Theories and Policies Fail? Unnoticed Variables and Overlooked Economics," MPRA Paper 114187, University Library of Munich, Germany.
    7. Victor Olkhov, 2021. "Theoretical Economics and the Second-Order Economic Theory. What is it?," Papers 2112.04566, arXiv.org, revised Mar 2024.
    8. Huijian Han & Zhiming Li & Zongwei Li, 2023. "Using Machine Learning Methods to Predict Consumer Confidence from Search Engine Data," Sustainability, MDPI, vol. 15(4), pages 1-12, February.

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    More about this item

    Keywords

    Keynesian economics; indeterminacy school; involuntary unemployment;
    All these keywords.

    JEL classification:

    • D50 - Microeconomics - - General Equilibrium and Disequilibrium - - - General
    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • E24 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital; Aggregate Labor Productivity
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles

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