Idiosyncratic sentiments and coordination failures
By: [by] George-Marios Angeletos
Contributors: Massachusetts Institute of Technology. Dept. of Economics
Edition: Rev.
Series: Working paper series / Massachusetts Institute of Technology, Dept. of Economics -- working paper 08-12 [2008 revision]; Working paper (Massachusetts Institute of Technology. Dept. of Economics) -- no. 08-12, 2008.
Publisher: Massachusetts Institute of Technology, Dept. of Economics
Published: 2008
Place of publication: Cambridge, MA
Language: eng
Number of pages: 30
Work titles: Private sunspots and idiosyncratic investor sentiment
Description: Coordination models have been used in macroeconomics to study a variety of crises phenomena. It is well understood that, in these models, aggregate fluctuations can be purely self-fulfilling. In this paper I highlight that cross-sectional heterogeneity in expectations regarding the endogenous prospects of the economy can also emerge as a purely self-fulfilling equilibrium property. This in turn leads to some intriguing positive and normative implications: (i) It can rationalize idiosyncratic investor sentiment. (ii) It can be the source of significant heterogeneity in real and financial investment choices, even in the absence of any heterogeneity in individual characteristics or information about all economic fundamentals, and despite the presence of a strong incentive to coordinate on the same course of action. (iii) It can sustain rich fluctuations in aggregate investment and asset prices, including fluctuations that are smoother than those often associated with multiple-equilibria models of crises. (iv) It can capture the idea that investors learn slowly how to coordinate on a certain course of action. (v) It can boost welfare. (vi) It can render apparent coordination failures evidence of improved efficiency. Keywords: Sunspots, animal spirits, complementarity, coordination failure, self-fulfilling expectations, fluctuations, heterogeneity, correlated equilibrium. JEL Classifications: D82, D84, E32, G11.
Notes: "Originally titled Private sunspots and idiosyncratic investor sentiment."

"April 16, 2008. Revised: Dec. 5, 2008."

Includes bibliographical references (p. 27-30).

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