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Behavioral Theories of the Business Cycle

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  • Nir Jaimovich
  • Sergio Rebelo

Abstract

We explore the business cycle implications of expectation shocks and of two well-known psychological biases, optimism and overconfidence. The expectations of optimistic agents are biased toward good outcomes, while overconfident agents overestimate the precision of the signals that they receive. Both expectation shocks and overconfidence can increase business-cycle volatility, while preserving the model's properties in terms of comovement, and relative volatilities. In contrast, optimism is not a useful source of volatility in our model.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 12570.

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Date of creation: Oct 2006
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Publication status: published as Nir Jaimovich & Sergio Rebelo, 2007. "Behavioral Theories of the Business Cycle," Journal of the European Economic Association, MIT Press, vol. 5(2-3), pages 361-368, 04-05.
Handle: RePEc:nbr:nberwo:12570

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  1. Greenwood, J. & Hercowitz, Z. & Krusell, P., 1998. "The Role of Investment-Specific Technological Change in the Business Cycle," RCER Working Papers 449, University of Rochester - Center for Economic Research (RCER).
  2. Lawrence J. Christiano & Martin Eichenbaum & Charles Evans, 2001. "Nominal Rigidities and the Dynamic Effects of a Shock to Monetary Policy," NBER Working Papers 8403, National Bureau of Economic Research, Inc.
  3. Jonathan A. Parker & Markus K. Brunnermeier, 2004. "Optimal Expectations," Econometric Society 2004 North American Winter Meetings, Econometric Society 426, Econometric Society.
  4. Nir Jaimovich & Sergio Rebelo, 2009. "Can News about the Future Drive the Business Cycle?," American Economic Review, American Economic Association, American Economic Association, vol. 99(4), pages 1097-1118, September.
  5. Beaudry, Paul & Portier, Franck, 2004. "An exploration into Pigou's theory of cycles," Journal of Monetary Economics, Elsevier, Elsevier, vol. 51(6), pages 1183-1216, September.
  6. Christiano, Lawrence & Ilut, Cosmin & Motto, Roberto & Rostagno, Massimo, 2008. "Monetary policy and stock market boom-bust cycles," Working Paper Series, European Central Bank 0955, European Central Bank.
  7. Söderlind, Paul, 2005. "C-CAPM without Ex Post Data," SIFR Research Report Series, Institute for Financial Research 39, Institute for Financial Research.
  8. Danthine, Jean-Pierre & Donaldson, John B. & Johnsen, Thore, 1998. "Productivity growth, consumer confidence and the business cycle," European Economic Review, Elsevier, Elsevier, vol. 42(6), pages 1113-1140, June.
  9. Tauchen, George & Hussey, Robert, 1991. "Quadrature-Based Methods for Obtaining Approximate Solutions to Nonlinear Asset Pricing Models," Econometrica, Econometric Society, Econometric Society, vol. 59(2), pages 371-96, March.
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Cited by:
  1. Carlos Garcia & Andrés Sagner, 2011. "Crédito, Exceso de Toma de Riesgo, Costo del Crédito y Ciclo Económico en Chile," ILADES-Georgetown University Working Papers, Ilades-Georgetown University, Universidad Alberto Hurtado/School of Economics and Bussines inv271, Ilades-Georgetown University, Universidad Alberto Hurtado/School of Economics and Bussines.
  2. Driscoll, John C. & Holden, Steinar, 2014. "Behavioral Economics and Macroeconomic Models," Finance and Economics Discussion Series, Board of Governors of the Federal Reserve System (U.S.) 2014-43, Board of Governors of the Federal Reserve System (U.S.).
  3. Dmitriev, Mikhail, 2009. "Confidence of Agents and Market Frictions," MPRA Paper 21149, University Library of Munich, Germany.
  4. Kevin J. Lansing, 2008. "Speculative growth and overreaction to technology shocks," Working Paper Series, Federal Reserve Bank of San Francisco 2008-08, Federal Reserve Bank of San Francisco.
  5. Steinar Holden, 2012. "Implications of insights from behavioral economics for macroeconomic models," IMK Working Paper 99-2012, IMK at the Hans Boeckler Foundation, Macroeconomic Policy Institute.
  6. Carlos Garcia & Andrés Sagner, 2012. "Exceso de Toma de Riesgo Crediticio en Chile," ILADES-Georgetown University Working Papers, Ilades-Georgetown University, Universidad Alberto Hurtado/School of Economics and Bussines inv280, Ilades-Georgetown University, Universidad Alberto Hurtado/School of Economics and Bussines.
  7. Doshchyn, Artur & Giommetti, Nicola, 2013. "Learning, Expectations, and Endogenous Business Cycles," MPRA Paper 49617, University Library of Munich, Germany.

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