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The Importance of Beliefs in Shaping Macroeconomic Outcomes

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  • Roger Farmer

Abstract

For the past thirty years of the history of macroeconomic thought, the Indeterminacy School of Macroeconomics has used general equilibrium models with indeterminate equilibria to understand the independent role of beliefs in shaping macroeconomic outcomes. In this paper I describe the most recent advances in the indeterminacy agenda, Keynesian Search Theory, in which the steady-state unemployment rate is indeterminate as a consequence of labour-market frictions. In Keynesian Search Theory, the belief of market participants is an independent exogenous variable that selects a steady-state equilibrium. I study two assumptions about beliefs, one where investment is exogenous and one where the belief about the stock market is exogenous and I examine their implications for fiscal policy.

Suggested Citation

  • Roger Farmer, 2019. "The Importance of Beliefs in Shaping Macroeconomic Outcomes," NBER Working Papers 26557, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:26557
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    References listed on IDEAS

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    1. Farmer, Roger E.A. & Nicolò, Giovanni, 2018. "Keynesian economics without the Phillips curve," Journal of Economic Dynamics and Control, Elsevier, vol. 89(C), pages 137-150.
    2. Paul Shea, 2013. "Learning by Doing, Short‐sightedness and Indeterminacy," Economic Journal, Royal Economic Society, vol. 123, pages 738-763, June.
    3. Roger Farmer, 2012. "The Stock Market Crash of 2008 Caused the Great Recession," 2012 Meeting Papers 145, Society for Economic Dynamics.
    4. Pascal Michaillat & Emmanuel Saez, 2015. "Aggregate Demand, Idle Time, and Unemployment," The Quarterly Journal of Economics, Oxford University Press, vol. 130(2), pages 507-569.
    5. Roger E. A. Farmer, 2012. "Confidence, Crashes and Animal Spirits," Economic Journal, Royal Economic Society, vol. 122(559), pages 155-172, March.
    6. Christopher A. Sims, 1989. "Models and Their Uses," American Journal of Agricultural Economics, Agricultural and Applied Economics Association, vol. 71(2), pages 489-494.
    7. Roger E.A. Farmer (ed.), 2008. "Macroeconomics in the Small and the Large," Books, Edward Elgar Publishing, number 13236.
    8. Kydland, Finn E & Prescott, Edward C, 1982. "Time to Build and Aggregate Fluctuations," Econometrica, Econometric Society, vol. 50(6), pages 1345-1370, November.
    9. Farmer, Roger E.A., 2010. "How to reduce unemployment: A new policy proposal," Journal of Monetary Economics, Elsevier, vol. 57(5), pages 557-572, July.
    10. Kerry A. Pearce & Kevin D. Hoover, 1995. "After the Revolution: Paul Samuelson and the Textbook Keynesian Model," History of Political Economy, Duke University Press, vol. 27(5), pages 183-216, Supplemen.
    11. Alvin H. Hansen, 1936. "Mr. Keynes on Underemployment Equilibrium," Journal of Political Economy, University of Chicago Press, vol. 44, pages 667-667.
    12. Marco Guerrazzi, 2012. "The ‘Farmerian’ Approach to Ending a Finance-Induced Recession: Notes on Stability and Dynamics," Economic Notes, Banca Monte dei Paschi di Siena SpA, vol. 41(1-2), pages 81-99, February.
    13. Farmer, Roger E. A. & Plotnikov, Dmitry, 2012. "Does Fiscal Policy Matter? Blinder And Solow Revisited," Macroeconomic Dynamics, Cambridge University Press, vol. 16(S1), pages 149-166, April.
    14. Roger E. A. Farmer, 2015. "The Stock Market Crash Really Did Cause the Great Recession," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 77(5), pages 617-633, October.
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    18. King, Robert G. & Plosser, Charles I. & Stock, James H. & Watson, Mark W., 1991. "Stochastic Trends and Economic Fluctuations," American Economic Review, American Economic Association, vol. 81(4), pages 819-840, September.
    19. Farmer, Roger E. A., 2014. "How the Economy Works: Confidence, Crashes and Self-Fulfilling Prophecies," OUP Catalogue, Oxford University Press, number 9780199360307.
    20. Jonathan Heathcote & Fabrizio Perri, 2018. "Wealth and Volatility," Review of Economic Studies, Oxford University Press, vol. 85(4), pages 2173-2213.
    21. Merz, Monika, 1995. "Search in the labor market and the real business cycle," Journal of Monetary Economics, Elsevier, vol. 36(2), pages 269-300, November.
    22. Lucas, Robert Jr., 1972. "Expectations and the neutrality of money," Journal of Economic Theory, Elsevier, vol. 4(2), pages 103-124, April.
    23. Robinson, Joan, 1978. "Contributions to Modern Economics," Elsevier Monographs, Elsevier, edition 1, number 9780125905503.
    24. Pan, Wei-Fong, 2018. "Does the stock market really cause unemployment? A cross-country analysis," The North American Journal of Economics and Finance, Elsevier, vol. 44(C), pages 34-43.
    25. Dmitry Plotnikov, 2019. "Hysteresis in unemployment: A confidence channel," International Journal of Economic Theory, The International Society for Economic Theory, vol. 15(1), pages 109-127, March.
    26. Andolfatto, David, 1996. "Business Cycles and Labor-Market Search," American Economic Review, American Economic Association, vol. 86(1), pages 112-132, March.
    27. Marco Guerrazzi, 2011. "Search And Stochastic Dynamics In The Old Keynesian Economics: A Rationale For The Shimer Puzzle," Metroeconomica, Wiley Blackwell, vol. 62(4), pages 561-586, November.
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    JEL classification:

    • D50 - Microeconomics - - General Equilibrium and Disequilibrium - - - General
    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • E24 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Employment; Unemployment; Wages; Intergenerational Income Distribution; Aggregate Human Capital; Aggregate Labor Productivity
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles

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