Information-driven Business Cycles: A Primal Approach

Abstract

We develop a methodology to characterize equilibrium in DSGE models, free of parametric restrictions on information. First, we define a “primal” economy in which deviations from full information are captured by wedges in agents' expectations. Then, we provide conditions ensuring some information-structure can implement these wedges. We apply the approach to estimate a business cycle model where firms and households have dispersed information. The estimated model fits the data, attributing the majority of fluctuations to a single shock to households' expectations. The responses are consistent with an implementation in which households become optimistic about local productivities and gradually learn about others' optimism.

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Reference

Ryan Chahrour, and Robert Ulbricht, “Information-driven Business Cycles: A Primal Approach”, TSE Working Paper, n. 17-784, March 2017, revised December 2017.