Working Paper: NBER ID: w22225
Authors: Anmol Bhandari; Jaroslav Borovika; Paul Ho
Abstract: We develop a framework to analyze economies with agents facing time-varying concerns for model misspecification. These concerns lead agents to interpret economic outcomes and make decisions through the lens of a pessimistically biased 'worst-case' model. We combine survey data and implied theoretical restrictions on the relative magnitudes and comovement of forecast biases across macroeconomic variables to identify ambiguity shocks as exogenous fluctuations in the worst-case model. Our solution method delivers tractable linear approximations that preserve the effects of time-varying ambiguity concerns and permit estimation using standard Bayesian techniques. Applying our framework to an estimated New-Keynesian business cycle model with frictional labor markets, we find that ambiguity shocks explain a substantial portion of the variation in labor market quantities.
Keywords: ambiguity shocks; business cycle; survey data; labor market; expectations
JEL Codes: C11; C63; D81; D84; E24; E32
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| ambiguity shocks (D80) | labor market quantities (J20) |
| ambiguity shocks (D80) | unemployment (J64) |
| ambiguity shocks (D80) | GDP growth (O49) |
| increased ambiguity (D80) | pessimistic evaluation of future economic conditions (E66) |
| pessimistic evaluation of future economic conditions (E66) | match creation in the labor market (J68) |
| match creation in the labor market (J68) | unemployment (J64) |
| ambiguity concerns (D84) | risky component of the stochastic discount factor (D15) |
| ambiguity concerns (D84) | hiring and employment rates (J63) |
| ambiguity shocks (D80) | contractionary effects (H31) |