Speculation-Driven Business Cycles

41 Pages Posted: 13 Jan 2020 Last revised: 14 Feb 2020

See all articles by Saki Bigio

Saki Bigio

University of California, Los Angeles (UCLA) - Department of Economics

Eduardo Zilberman

Department of Economics, PUC-Rio

Date Written: December 20, 2019

Abstract

Speculation, in the spirit of Harrison and Kreps [1978], is introduced into a standard real business cycle model. Investors (speculators) hold heterogeneous beliefs about firm growth. Firm ownership, and thus, the firm’s discount factor varies with waves of optimism and leverage. These waves ripple into firm investments in hours. The firm’s discount discount factor links the equity premium and labor volatility puzzles. We obtain an upper bound to the amplification that can be generated by speculation for any model of beliefs -- a factor of 1.5. A calibration based on diagnostic beliefs amplifies hours volatility by a factor of 1.15 and produces a bubble component of 20 percent.

Keywords: Heterogeneous Beliefs, Business Cycles, Asset Prices, Speculation, Bubbles

JEL Classification: D84, E32, E44, E71, G41

Suggested Citation

Bigio, Saki and Zilberman, Eduardo, Speculation-Driven Business Cycles (December 20, 2019). Available at SSRN: https://ssrn.com/abstract=3507450 or http://dx.doi.org/10.2139/ssrn.3507450

Saki Bigio

University of California, Los Angeles (UCLA) - Department of Economics ( email )

8283 Bunche Hall
Los Angeles, CA 90095-1477
United States

Eduardo Zilberman (Contact Author)

Department of Economics, PUC-Rio ( email )

Rua Marques de Sao Vicente, 225/206F
Rio de Janeiro, RJ 22453
Brazil

HOME PAGE: http://https://sites.google.com/site/eduardozilberman/

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