Decentralizatiohn, Communication, and the Origins of Fluctuations
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Marios11-09.pdf
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Author(s)
Angeletos, George-Marios
La'O, Jennifer
Date Issued
May 4, 2011
Publisher
Cambridge, MA: Department of Economics, Massachusetts Institute of Technology
Series/Report no.
Working paper, Massachusetts Institute of Technology, Dept. of Economics;11-09
Abstract
We consider a class of convex, competitive, neoclassical economies in which agents are rational; the equilibrium is unique; there is no room for randomization devices; and there are no shocks to preferences, technologies, endowments, or other fundamentals. In short, we rule out every known source of macroeconomic volatility. And yet, we show that these economies can be ridden with large and persistent fluctuations in equilibrium allocations and prices. These fluctuations emerge because decentralized trading impedes communication and, in so doing, opens the door to self-fulfilling beliefs despite the uniqueness of the equilibrium. In line with Keynesian thinking, these fluctuations may be attributed to “coordination failures” and “animal spirits”. They may also take the form of “fads”, or waves of optimism and pessimism that spread in the population like contagious diseases. Yet, these ostensibly pathological phenomena emerge at the heart of the neoclassical paradigm and require neither a deviation from rationality, nor multiple equilibria, nor even a divergence between private and social motives.
Subjects
Business Cycles
Shocks
Dispersed Information
Stabilization Policy
Animal Spirits
Market Psychology
Higher-Order Beliefs
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