Information Aggregation in a DSGE Model

Tarek Hassan and Thomas M. Mertens

No 10020, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We introduce the information microstructure of a canonical noisy rational expectations model (Hellwig, 1980) into the framework of a conventional real business cycle model. Each household receives a private signal about future productivity. In equilibrium, the stock price serves to aggregate and transmit this information. We find that dispersed information about future productivity affects the quantitative properties of our real business cycle model in three dimensions. First, households' ability to learn about the future affects their consumption-savings decision. The equity premium falls and the risk-free interest rate rises when the stock price perfectly reveals innovations to future productivity. Second, when noise trader demand shocks limit the stock market's capacity to aggregate information, households hold heterogeneous expectations in equilibrium. However, for a reasonable size of noise trader demand shocks the model cannot generate the kind of disagreement observed in the data. Third, even moderate heterogeneity in the equilibrium expectations held by households has a sizable effect on the level of all economic aggregates and on the correlations and standard deviations produced by the model. For example, the correlation between consumption and investment growth is 0.29 when households have no information about the future, but 0.41 when information is dispersed.

Keywords: Asset prices; Business cycles; Dispersed information; investment; Noisy rational expectations; Portfolio choice (search for similar items in EconPapers)
JEL-codes: C63 D83 E2 E3 E44 G11 (search for similar items in EconPapers)
Date: 2014-06
New Economics Papers: this item is included in nep-dge and nep-mac
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

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Working Paper: Information Aggregation in a DSGE Model (2014)
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