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A Theory of Demand Shocks

  • Guido Lorenzoni

This paper presents a model of business cycles driven by shocks to consumer expectations regarding aggregate productivity. Agents are hit by heterogeneous productivity shocks, they observe their own productivity and a noisy public signal regarding aggregate productivity. The public signal gives rise to "noise shocks," which have the features of aggregate demand shocks: they increase output, employment, and inflation in the short run and have no effects in the long run. Numerical examples suggest that the model can generate sizable amounts of noise-driven volatility. (JEL D83, D84, E21, E23, E32)

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Article provided by American Economic Association in its journal American Economic Review.

Volume (Year): 99 (2009)
Issue (Month): 5 (December)
Pages: 2050-2084

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Handle: RePEc:aea:aecrev:v:99:y:2009:i:5:p:2050-84
Note: DOI: 10.1257/aer.99.5.2050
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