model, and so have model - consistent expectations. bad things can happen – but only in virtue of exogenous shocks. and depending on the structure of the world, those bad states can be relatively small beer, as famously argued by lucas on the relative unimportance of business cycles. disagreeing with that, the so - called salt - water economists wanted to show that, upon the crystallisation of those exogenous shocks, really bad things, recessions and persistent unemployment, can happen due to flaws – or, as economists like to say, frictions – in the make up of the world. but the frictions perform an amplifying role only ; the initial impetus comes from an exogenous shock over which the behaviour of agents exerts no influence, directly or indirectly. that is because agents – firms and households, as normal people call them – do not make any ex ante mistakes. shleifer describes a different kind of world altogether. it is a set up in which the myopia of the agents – investors, bankers, intermediaries – leads them, and the economy more widely, a short summary of the first two volumes is in jonathan israel, revolution of the mind, radical enlightenment and the intellectual origins of modern democracy. bis central bankers ’ speeches towards trouble, sometimes disaster. because they are effectively blind to certain lowish probability risks, they generate and invest too heavily in securities that carry precisely those risks. the effects of innovation get out of hand. this is a nice complement to papers by academics and policymakers attributing the ballooning of abs issuance in the west to a combination of ( i ) an ex ante excess of savings from the east in the hands of investors with a preference for low risk fixed - income assets, and ( ii ) a shortage of precisely those highly rated fixed - income instruments. the effect, on that view, was initially to drive down credit risk premia relative to equity risk premia, and to spur the issue of synthetic securitisations to fill the gap in supply. 2 if that story drives expansion of abs / cdo issuance, shleifer ’ s model helps motivate a lot of those securities being fundamentally mispriced. during the good times, everyone feels that they are achieving a nice balance of risk and return. they are getting, they think, safety, liquidity and return! but something eventually happens to cause them to wake up, and

with harmful side - effects – as when the exaggerated fear of flying after 9 / 11 caused more people to drive. 5 these exaggerated risk perceptions are often amplified by others ’ words and actions. caution is contagious. what often then emerges is a “ popular narrative ”. these narratives have been found to be an important driver of collective behaviour in financial markets and the economy. 6 behavioural biases at times of existential risk, spreading contagiously, can result in pessimistic popular narratives detached from reality. at times of stress, a global game of chinese whispers can generate unduly negative expectations. see haldane see gigerenzer see akerlof and shiller all speeches are available online at www. bankofengland. co. uk / news / speeches and @ boe _ pressoffice i think the prevailing popular economic narrative, among businesses and households currently, is unduly negative. it has emphasized recession and risk over recovery and resilience. it has resulted in good economic news ( of which there has been plenty ) being discounted too readily, and fearfulness about the future being accentuated. let me give a few simple examples. chart 5 plots a simple google search of the relative incidence of two words – “ recession ” and “ recovery ” ; it is an economic pessimism ratio. before the covid crisis, the pessimism ratio was steady. as the crisis struck there was a predictable and sizable spike upwards, by a factor of roughly 8. since then the ratio has fallen somewhat, as we might expect as the economy has moved from recession to recovery. the dynamics of this sentiment indicator are nonetheless revealing. the drift down in the ratio has been very gradual. it remained elevated well after economic recovery had commenced and recession ceased. even now, four or five months into recovery, recession is out - googling recovery by a factor of 15 to one, above its pre - covid level. the prevailing popular narrative on the economy has remained recessionary. chart 5 : ratio of google trends topic searches for the term recession vs economic recovery ratio of searches for recession : economic recovery economic growth monthly gdp q2 gdp released showing growth release sep - 19 oct - 19 nov - 19 dec - 19 jan - 20 feb - 20 mar - 20 apr - 20 may - 20 jun - 20 jul - 20 aug - 20 source : google trends a particularly revealing episode is associated with the notable spike in the pessimism ratio on