Expectations, self-fulfilling prophecies and the business cycle

Macroeconomic models in which exogenous, self-fulfilling changes in expectations play a significant role in output fluctuations are often discarded on two claims: they require implausible calibrations of structural parameters and they are enable to account for several empirical features associated with demand shocks. We show that these claims are only valid to the extent that they are applied to one-sector models. In contrast, we prove that two-sector models allow the existence of self-fulfilling prophecies for a large set of empirically realistic values for all the structural parameters, and that a two-sector model submitted to sunspot shocks can account not only for all the standard stylized facts associated with demand shocks, but also for other dimensions of the business cycle that standard RBC-type models cannot explain.