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Do Sunspots Matter? Evidence from an Experimental Study of Bank Runs

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  • Jasmina Arifovic
  • Janet Hua Jiang
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    Abstract

    A "sunspot" is a variable that has no direct impact on the economy’s fundamental condition, such as preferences, endowments or technologies, but may nonetheless affect economic outcomes through the expectations channel as a coordination device. This paper investigates how people react to sunspots in the context of a bank-run game in a controlled laboratory environment. The sunspot variable is a series of random public announcements predicting withdrawal outcomes. The treatment variable is the coordination parameter, defined as the minimum fraction of depositors required to wait so that waiting entails a higher payoff than withdrawing. We conduct treatments with a high, low and intermediate value of the coordination parameter. Although theory predicts that sunspot equilibria exist in all treatments, strong responses to sunspots only occur in the treatment featuring the intermediate value of the coordination parameter where strategic uncertainty is high. The policy implication is that people tend to respond strongly to public announcements during times of uncertainty. In those situations, communication to the public must be treated with extra care.

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    Bibliographic Info

    Paper provided by Bank of Canada in its series Working Papers with number 14-12.

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    Length: 33 pages
    Date of creation: 2014
    Date of revision:
    Handle: RePEc:bca:bocawp:14-12

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    Keywords: Financial markets; Financial stability;

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