Learning from Prices: Amplification and Business Fluctuations

46 Pages Posted: 16 May 2017

See all articles by Ryan Chahrour

Ryan Chahrour

Boston College - Department of Economics

Gaetano Gaballo

Banque de France

Date Written: May 4, 2017

Abstract

We provide a new theory of expectations-driven business cycles in which consumers' learning from prices dramatically alters the effects of aggregate shocks. Learning from prices causes changes in aggregate productivity to shift aggregate beliefs, generating positive price-quantity comovement. The feedback of beliefs into prices can be so strong that even arbitrarily small productivity shocks lead to substantial fluctuations. Augmented with a public signal, the model can generate a rich mix of supply- and demand-driven fluctuations even though productivity is the only source of aggregate randomness. Our results imply that many standard identification assumptions used to disentangle supply and demand shocks may not be valid in environments in which agents learn from prices.

Keywords: identification of monetary shocks, international transmission, exchange rate regime, capital mobility, trilemma

JEL Classification: D82, D83, E3

Suggested Citation

Chahrour, Ryan A. and Gaballo, Gaetano, Learning from Prices: Amplification and Business Fluctuations (May 4, 2017). ECB Working Paper No. 2053. Available at SSRN: https://ssrn.com/abstract=2968926

Ryan A. Chahrour (Contact Author)

Boston College - Department of Economics ( email )

140 Commonwealth Avenue
Chestnut Hill, MA 02467
United States

HOME PAGE: http://www.chahrour.net

Gaetano Gaballo

Banque de France ( email )

Paris
France

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