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Uncertainty Shocks Are Aggregate Demand Shocks

  • Zheng Liu

    (Federal Reserve Bank of San Francisco)

  • Sylvain Leduc

    (Federal Reserve Bank of San Francisco)

We present empirical evidence and a theoretical argument that uncertainty shocks act like a negative aggregate demand shock, which raises unemployment and lowers inflation. We measure uncertainty using survey data from the United States and the United Kingdom. We estimate the macroeconomic effects of uncertainty shocks in a vector autoregression (VAR) model, exploiting the relative timing of the surveys and macroeconomic data releases for identification. Our estimation reveals that uncertainty shocks accounted for at least one percentage point increases in unemployment in the Great Recession and recovery, but did not contribute much to the 1981-82 recession. We present a DSGE model to show that, to understand the observed macroeconomic effects of uncertainty shocks, it is essential to have both labor search frictions and nominal rigidities.

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File URL: https://economicdynamics.org/meetpapers/2013/paper_270.pdf
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Paper provided by Society for Economic Dynamics in its series 2013 Meeting Papers with number 270.

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Date of creation: 2013
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Handle: RePEc:red:sed013:270
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Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA

Web page: http://www.EconomicDynamics.org/
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  1. Nicholas Bloom & Max Floetotto & Nir Jaimovich & Itay Saporta-Eksten & Stephen Terry, 2013. "Really Uncertain Business Cycles," CEP Discussion Papers dp1195, Centre for Economic Performance, LSE.
  2. Alan J. Auerbach & Yuriy Gorodnichenko, 2010. "Measuring the Output Responses to Fiscal Policy," NBER Working Papers 16311, National Bureau of Economic Research, Inc.
  3. Eric R. Sims, 2012. "Uncertainty and Economic Activity: Evidence from Business Survey Data," Working Papers 014, University of Notre Dame, Department of Economics, revised Jun 2012.
  4. Scott R. Baker & Nicholas Bloom & Steven J. Davis, 2015. "Measuring Economic Policy Uncertainty," CEP Discussion Papers dp1379, Centre for Economic Performance, LSE.
  5. Susanto Basu & Brent Bundick, 2012. "Uncertainty shocks in a model of effective demand," Working Papers 12-15, Federal Reserve Bank of Boston.
  6. Xavier Gabaix, 2008. "Variable Rare Disasters: An Exactly Solved Framework for Ten Puzzles in Macro-Finance," NBER Working Papers 13724, National Bureau of Economic Research, Inc.
  7. Leahy, John V & Whited, Toni M, 1996. "The Effect of Uncertainty on Investment: Some Stylized Facts," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 28(1), pages 64-83, February.
  8. Sylvain Leduc & Keith Sill, 2010. "Expectations and economic fluctuations: an analysis using survey data," Working Papers 10-6, Federal Reserve Bank of Philadelphia.
  9. Fernández-Villaverde, Jesús & Guerron-Quintana, Pablo A. & Kuester, Keith & Rubio-Ramírez, Juan Francisco, 2011. "Fiscal Volatility Shocks and Economic Activity," CEPR Discussion Papers 8528, C.E.P.R. Discussion Papers.
  10. P. Diamond, 1980. "Aggregate Demand Management in Search Equilibrium," Working papers 268, Massachusetts Institute of Technology (MIT), Department of Economics.
  11. Leduc, Sylvain & Sill, Keith & Stark, Tom, 2007. "Self-fulfilling expectations and the inflation of the 1970s: Evidence from the Livingston Survey," Journal of Monetary Economics, Elsevier, vol. 54(2), pages 433-459, March.
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