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Learning, Confidence, and Business Cycles

Author

Listed:
  • Hikaru Saijo

    (University of California, Santa Cruz)

  • Cosmin Ilut

    (Duke University)

Abstract

In this paper we study the amplification feedback between uncertainty and economic activity. We build on van Nieuwerburgh and Veldkamp (2006) to model an economy with a procyclical signal to noise ratio used in filtering the hidden, persistent, state of technology. Recessions, caused by either fundamental supply or demand shocks, are periods where the lower production scale implies higher uncertainty in the form of a larger posterior variance. The endogenous increase in uncertainty makes agents less confident and further reduces economic activity, which gives rise to persistent and amplifying effects. We use linear methods to study the feedback effects of time-varying endogenous uncertainty and confidence in standard business cycle models. We illustrate the main qualitative implications in a stylized model and use a quantitative version to evaluate their magnitudes. We also provide an extension to a heterogeneous firm setting, whose aggregation is facilitated by the use of linear methods and where we can additionally analyze the impact of experimentation and firm-level dispersion shocks.

Suggested Citation

  • Hikaru Saijo & Cosmin Ilut, 2015. "Learning, Confidence, and Business Cycles," 2015 Meeting Papers 917, Society for Economic Dynamics.
  • Handle: RePEc:red:sed015:917
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    8. George-Marios Angeletos, 2018. "Frictional Coordination," Journal of the European Economic Association, European Economic Association, vol. 16(3), pages 563-603.
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    JEL classification:

    • C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
    • D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
    • E44 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - Financial Markets and the Macroeconomy

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