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  5. Behavioral Macroeconomics
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Behavioral Macroeconomics

Paper Session

Friday, Jan. 5, 2024 10:15 AM - 12:15 PM (CST)

Marriott Rivercenter, Conference Room 5
Hosted By: Society for Economic Dynamics
  • Chair: Karthik Sastry, Princeton University

Smooth Diagnostic Expectations

Francesco Bianchi
,
Johns Hopkins University
Cosmin Ilut
,
Duke University
Hikaru Saijo
,
University of California-Santa Cruz

Abstract

We extend the baseline Diagnostic Expectations (DE) approach of Bordalo et al. (2018) to allow for “smooth diagnosticity.” In that baseline characterization, the magnitude of the DE distortion does not depend on the level of uncertainty, unless uncertainty is fully removed, in which case the DE distortion vanishes as no residual uncertainty is left. Our smooth DE approach generalizes this intuition and allows the distortion to vary smoothly with uncertainty even away from the limit case of no uncertainty. In this environment, we show how smooth DE imply that the effective magnitude of the DE distortion is increasing in the ratio of uncertainty associated to current beliefs relative to past beliefs. Further embedding smooth DE into a signal extraction problem provides a joint and parsimonious micro-foundation for two significant empirical properties widely documented in survey data: over-reaction and over-confidence. Finally, we illustrate in a simple business cycle model how the state-dependent intensity of the belief distortion under smooth DE has immediate and relevant policy and aggregate implications.

The Macroeconomics of Narratives

Joel Peter Flynn
,
Massachusetts Institute of Technology
Karthik Sastry
,
Princeton University

Abstract

We study the macroeconomic implications of narratives, or beliefs about the economy that affect decisions and spread contagiously. Empirically, we use natural-language-processing methods to measure proxies for narratives in public firms' end-of-year reports (Forms 10-K). We find that: (i) firms' hiring responds strongly to narratives, (ii) narratives spread contagiously among firms, and (iii) this spread is responsive to macroeconomic conditions. To understand the macroeconomic implications, we embed a contagious optimistic narrative in a business-cycle model. We characterize, in terms of the decision-relevance and contagiousness of narratives, when the unique equilibrium features non-fundamental fluctuations and non-linear belief dynamics that generate hysteresis. In the calibrated model, we find that contagious optimism explains 32% and 18% of the output reductions over the early 2000s recession and Great Recession, respectively, as well as 19% of the unconditional variance in output. We find that overall optimism is not sufficiently contagious to generate hysteresis, but other, more granular narratives are.

Tell Me Something I Don't Know: Learning in Low and High Inflation Settings

Olivier Coibion
,
University of Texas-Austin
Yuriy Gorodnichenko
,
University of California-Berkeley
Michael Weber
,
University of Chicago
Tiziano Ropele
,
Bank of Italy
Bernardo Candia
,
University of California-Berkeley

Abstract

Using repeated RCTs applied over time in different countries, we study how the economic environment affects how agents learn from new information. We show that as inflation has risen in developed economies, both households and firms have become more attentive and informed about inflation, leading them to respond less to exogenously provided information about inflation and monetary policy. This holds in both the U.S. and the Euro area, for firms and households. We also study the effects of RCTs in countries where inflation has been consistently high (Uruguay) and low (New Zealand) as well as what happens when the same agents are repeatedly provided information in both low- and high-inflation environments (Italy). Our results broadly support models in which inattention is an endogenous outcome that depends on the economic environment.

Inflation Expectations and Household Consumption-Savings Decisions: Evidence on Beliefs and Biases from Linked Survey-Transactions Data

Sasha Indarte
,
University of Pennsylvania
Raymond Kluender
,
Harvard University
Ulrike Malmendier
,
University of California-Berkeley
Michael Stepner
,
University of Toronto

Abstract

In 2021, many Americans began experiencing high rates of inflation for the first time in their lives, averaging 7% in 2021 and accelerating to over 9.1% annually in June 2022. This relatively sudden inflation episode presents a unique opportunity to investigate how inflation expectations relate to different economic decisions in a time of high inflation. In this paper, we use administrative consumer transactions data linked to survey responses to document new facts on the relationship between expectations and consumer spending/saving decisions, focusing on low-income households. We first document cross-sectional relationships between these variables and how they are mediated by economic and demographic factors. Then, to disentangle the role of economic and financial constraints from belief-based determinants of savings and consumption decisions, we develop and estimate a semi-structural decomposition. We provide evidence on the role of limited attention and biased belief formation.
JEL Classifications
  • E7 - Macro-Based Behavioral Economics