Firms’ Response to Macroeconomic Estimation Errors
57 Pages Posted: 2 Apr 2018 Last revised: 17 Feb 2021
Date Written: May 19, 2020
Initial Gross Domestic Product (GDP) announcements are important economic signals that convey information on the state of the economy but contain substantial estimation error. We investigate how GDP estimation errors affect firms’ real decisions and profitability. We find that GDP estimation errors are positively associated with one-quarter-ahead changes in firms’ capital investments, production, inventory, and profitability. We also observe a long-run reversal in future profits, consistent with initial over (under) production eventually being met with declines (increases) in future profitability. These findings suggest that the initial managerial response to estimation errors generates a supply and demand imbalance. We confirm this imbalance at the macroeconomy level by documenting that a positive short-run aggregate investment response is followed by a long-run reversal. Managerial responses to the estimation error mimic the response to the true component of the GDP signal, suggesting that managers do not filter estimation errors during decision-making.
Keywords: Gross Domestic Product; Expectation errors; Profitability; Restatements; Analyst forecasts; Macroeconomy; Capital expenditures; Production
JEL Classification: E00, E01, E17, E20, E50, E60, G00, G28, G30, G31, M00, M20, M21, M40, M41
Suggested Citation: Suggested Citation