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Wealth and Volatility

Author

Listed:
  • Fabrizio Perri

    (University of Minnesota)

  • Jonathan Heathcote

    (Federal Reserve Bank of Minneapolis)

Abstract

Periods of low household wealth in United States macroeconomic history have also been periods of high business cycle volatility. This paper develops a simple model that can exhibit self-fulfilling fluctuations in the expected path for unemployment. The novel feature is that the scope for sunspot-driven volatility depends on the level of household wealth. When wealth is high, consumer demand is largely insensitive to unemployment expectations and the economy is robust to confidence crises. When wealth is low, a stronger precautionary motive makes demand more sensitive to unemployment expectations, and the economy becomes vulnerable to confidence-driven fluctuations. In this case, there is a potential role for public policies to stabilize demand. Microeconomic evidence is consistent with the key model mechanism: during the Great Recession, households with relatively low wealth, ceteris paribus, cut expenditures more sharply.
(This abstract was borrowed from another version of this item.)

Suggested Citation

  • Fabrizio Perri & Jonathan Heathcote, 2013. "Wealth and Volatility," 2013 Meeting Papers 385, Society for Economic Dynamics.
    • Handle: RePEc:red:sed013:385
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    JEL classification:

    • E12 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Keynes; Keynesian; Post-Keynesian; Modern Monetary Theory
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles

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