Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/247413 
Year of Publication: 
2021
Series/Report no.: 
Bank of Canada Staff Working Paper No. 2021-33
Publisher: 
Bank of Canada, Ottawa
Abstract: 
We show that sentiments - self-fulfilling changes in beliefs that are orthogonal to fundamentals - can drive persistent aggregate fluctuations under rational expectations in a beauty contest game. Such fluctuations can occur even in the absence of exogenous aggregate fundamental shocks. Moreover, sentiments alter the volatility and persistence of aggregate outcomes in response to fundamental shocks. We provide (i) necessary conditions under which sentiments can affect aggregate outcomes in equilibrium and (ii) conditions under which sentiments drive persistent fluctuations and when they only affect aggregate outcomes contemporaneously. We also show that sentiment equilibria are stable under least-squares learning while the fundamental equilibrium is not.
Subjects: 
Business fluctuations and cycles
Economic models
JEL: 
E20
E32
F4
Persistent Identifier of the first edition: 
Document Type: 
Working Paper

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