Fear, overconfidence, and fundamental uncertainty shocks

ABSTRACT

I study the effects of expected and realized uncertainty on Euro area macroeconomic conditions. I use a range of expected and realized uncertainty measures including those based on survey forecasts and find that the effects of expected uncertainty vanish once realized uncertainty is accounted for when using financial or news media-based measures. On the other hand, shocks to a survey-based measure of expected uncertainty do appear to have dampening effects.

KEYWORDS:

• Uncertainty
• survey forecasts
• fear
• overconfidence

JEL CLASSIFICATION:

• C32
• D84
• E37

Acknowledgments

I thank the editor and an anonymous referee. I also thank an anonymous referee, Klaus Adam, Giovanni Caggiano, and Fabio Canova for helpful comments on an earlier version of the paper. The author has no specific sources of conflict of interest nor financial support to declare.

Disclosure statement

No potential conflict of interest was reported by the author.

Notes

¹ See e.g. Bloom (2009); Jurado, Ludvigson, and Ng (2015); Baker, Bloom, and Davis (2016); Bloom (2014); Rossi and Sekhposyan (2017) who show that heightened uncertainty dampens economic activity.

² Recent work investigating the causes and consequences of uncertainty find that estimated effects may be confounded with other factors. See e.g. Bekaert, Hoerova, and Lo Duca (2013); Caldara et al. (2016); Ludvigson, Ma, and Ng (2017, 2019); Duca and Saving (2018).

³ The parametric and non-parametric density estimates follow Ambrocio (2017) who construct similar measures using the US SPF data.

⁴ The shadow short rate takes into account unconventional monetary policy and is obtained from Wu and Xia (2016). Linear time trends are removed and all variables are standardized prior to the VAR. The VAR specification for monthly variables include three lags given information criteria while variables available at a quarterly frequency includes two lags. The VARs are estimated using Bayesian methods.