Information and Volatility
66 Pages Posted: 17 Oct 2014
Date Written: October 15, 2014
In an economy of interacting agents with both idiosyncratic and aggregate shocks, we examine how the structure of private information influences aggregate volatility. The maximal aggregate volatility is attained in a noise free information structure in which the agents confound idiosyncratic and aggregate shocks, and display excess response to the aggregate shocks, as in Lucas. For any given variance of aggregate shocks, the upper bound on aggregate volatility is linearly increasing in the variance of the idiosyncratic shocks. Our results hold in a setting of symmetric agents with linear best responses and normal uncertainty. We establish our results by providing a characterization of the set of all joint distributions over actions and states that can arise in equilibrium under any information structure. This tractable characterization, extending results in Bergemann and Morris, can be used to address a wide variety of questions linking information with the statistical moments of the economy.
Keywords: Incomplete information, Idiosyncratic shocks, Aggregate shocks, Volatility, Confounding information, Moment restrictions, Linear best responses, Quadratic payoffs, Bayes correlated equilibrium
JEL Classification: C72, C73, D43, D83
Suggested Citation: Suggested Citation