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Equilibrium Indeterminacy and Extreme Outcomes: A Fat Sunspot Ta(i)l(e)

Author

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  • Dave, Chetan

    (University of Alberta, Department of Economics)

  • Sorge, Marco

    (University of Salerno)

Abstract

Competing explanations for the fat-tailed empirical distribution of aggregate time series range from exogenous stochastic volatility, boundedly rational agents reflecting a lot of structural change or that exogenous structural shocks are themselves extreme. We build on this literature and show that sunspots in dynamic models can accumulate as linear recursions with multiplicative noise. Thus, using known results from the large deviations literature allows us to conclude that even small sunspot shocks can lead to large movements in endogenous variables. We apply these results to models that admit indeterminacies to investigate the empirical relevance of sunspots in accounting for observed fat-tails in output.

Suggested Citation

  • Dave, Chetan & Sorge, Marco, 2020. "Equilibrium Indeterminacy and Extreme Outcomes: A Fat Sunspot Ta(i)l(e)," Working Papers 2020-12, University of Alberta, Department of Economics.
    • Handle: RePEc:ris:albaec:2020_012
    as

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    File URL: https://sites.ualberta.ca/~econwps/2020/wp2020-12.pdf
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    References listed on IDEAS

    as
    1. Giorgio Fagiolo & Mauro Napoletano & Andrea Roventini, 2008. "Are output growth-rate distributions fat-tailed? some evidence from OECD countries," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 23(5), pages 639-669.
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    3. Ascari, Guido & Fagiolo, Giorgio & Roventini, Andrea, 2015. "Fat-Tail Distributions And Business-Cycle Models," Macroeconomic Dynamics, Cambridge University Press, vol. 19(2), pages 465-476, March.
    4. Dave, Chetan & Sorge, Marco M., 2020. "Sunspot-driven fat tails: A note," Economics Letters, Elsevier, vol. 193(C).
    5. Lubik, Thomas A. & Schorfheide, Frank, 2003. "Computing sunspot equilibria in linear rational expectations models," Journal of Economic Dynamics and Control, Elsevier, vol. 28(2), pages 273-285, November.
    6. Timothy Cogley & Thomas J. Sargent, 2005. "Drift and Volatilities: Monetary Policies and Outcomes in the Post WWII U.S," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 8(2), pages 262-302, April.
    7. Benhabib, Jess & Wen, Yi, 2004. "Indeterminacy, aggregate demand, and the real business cycle," Journal of Monetary Economics, Elsevier, vol. 51(3), pages 503-530, April.
    8. Alan J. Auerbach & Yuriy Gorodnichenko, 2012. "Fiscal Multipliers in Recession and Expansion," NBER Chapters, in: Fiscal Policy after the Financial Crisis, pages 63-98, National Bureau of Economic Research, Inc.
    9. Xavier Gabaix, 2009. "Power Laws in Economics and Finance," Annual Review of Economics, Annual Reviews, vol. 1(1), pages 255-294, May.
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    11. Farmer, Roger E.A. & Khramov, Vadim & Nicolò, Giovanni, 2015. "Solving and estimating indeterminate DSGE models," Journal of Economic Dynamics and Control, Elsevier, vol. 54(C), pages 17-36.
    12. Dave, Chetan & Tsang, Kwok Ping, 2014. "Recursive preferences, learning and large deviations," Economics Letters, Elsevier, vol. 124(3), pages 329-334.
    13. Dave, Chetan & Malik, Samreen, 2017. "A tale of fat tails," European Economic Review, Elsevier, vol. 100(C), pages 293-317.
    14. 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.
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    16. Guido Ascari & Paolo Bonomolo & Hedibert F. Lopes, 2019. "Walk on the Wild Side: Temporarily Unstable Paths and Multiplicative Sunspots," American Economic Review, American Economic Association, vol. 109(5), pages 1805-1842, May.
    17. Sorge, Marco M., 2013. "Generalized adaptive expectations revisited," Economics Letters, Elsevier, vol. 120(2), pages 203-205.
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    More about this item

    Keywords

    Fat tails; Indeterminacy; Sunspots;
    All these keywords.

    JEL classification:

    • E30 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - General (includes Measurement and Data)
    • E40 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - General
    • E70 - Macroeconomics and Monetary Economics - - Macro-Based Behavioral Economics - - - General

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