Noise Bubbles

55 Pages Posted: 2 Jul 2013

See all articles by Mario Forni

Mario Forni

Università di Modena; Centre for Economic Policy Research (CEPR)

Luca Gambetti

Universitat Autonoma de Barcelona

Marco Lippi

Dipartimento di Scienze Economiche (DiSSE); Einaudi Institute for Economics and Finance (EIEF)

Luca Sala

University of Bocconi - Innocenzo Gasparini Institute for Economic Research (IGIER)

Date Written: June 2013

Abstract

We introduce noisy information into a standard present value stock price model. Agents receive a noisy signal about the structural shock driving future dividend variations. The resulting equilibrium stock price includes a transitory component — the "noise bubble" — which can be responsible for boom and bust episodes unrelated to economic fundamentals. We propose a non-standard VAR procedure to estimate the structural shock and the "noise" shock, their impulse response functions and the bubble component of stock prices. We apply such procedure to US data and find that noise explains a large fraction of stock price volatility. In particular the dot-com bubble is entirely explained by noise. On the contrary the stock price boom peaking in 2007 is not a bubble, whereas the following stock market crisis is largely due to negative noise shocks.

Keywords: Noise shocks, Rational bubbles, Structural VARs

JEL Classification: C32, E32, E62

Suggested Citation

Forni, Mario and Gambetti, Luca and Lippi, Marco and Sala, Luca, Noise Bubbles (June 2013). CEPR Discussion Paper No. DP9532. Available at SSRN: https://ssrn.com/abstract=2288497

Mario Forni (Contact Author)

Università di Modena; Centre for Economic Policy Research (CEPR) ( email )

Luca Gambetti

Universitat Autonoma de Barcelona ( email )

Plaça Cívica
Cerdañola del Valles
Barcelona, Barcelona 08193
Spain

Marco Lippi

Dipartimento di Scienze Economiche (DiSSE) ( email )

14 Via Cesalpino
Rome, 00161
Italy
+39 06 4428 4202 (Phone)
+39 06 4404 572 (Fax)

Einaudi Institute for Economics and Finance (EIEF) ( email )

Via Due Macelli, 73
Rome, 00187
Italy

Luca Sala

University of Bocconi - Innocenzo Gasparini Institute for Economic Research (IGIER) ( email )

Via Roentgen 1
Milan, 20136
Italy
+39 02 5836 3326 (Phone)

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