Home > Working Papers

Working Paper 2007-033C

"Incomplete Information and Self-fulfilling Prophecies"
by Pengfei Wang, and Yi Wen

This paper shows that incomplete information can lead to self-fulfilling business cycles. This is demonstrated in a standard dynamic general equilibrium model of monopolistic competition à la Dixit-Stiglitz. In the absence of fundamental shocks, the model has a unique certainty (fundamental) equilibrium. But there are also multiple stochastic (sunspots) equilibria that are not mere randomizations over fundamental equilibria. Thus, sunspots can exist in infinite-horizon models with a unique saddle-path steady state. In contrast to the indeterminacy literature following Benhabib and Farmer (1994), sunspots are robust to parameters associated with production technologies and preferences.

Full Text - Acrobat PDF (337k)

Notify Me of Updates for:
Category > Monetary Policy/Macroeconomics
Author > Yi Wen
Research Papers and Publications: JEL Code > E31
Research Papers and Publications: JEL Code > E32