Econometric policy evaluation: A critique

This paper analyzes equilibrium and welfare for a tractable class of economies (games) with externalities, strategic complementarity or substitutability, and heterogenous information. First, we characterize the equilibrium use of information; complementarity heightens the sensitivity of equilibrium actions to public information, raising aggregate volatility, whereas substitutability heightens the sensitivity to private information, raising cross-sectional dispersion. Next, we define and characterize an efficiency benchmark designed to address whether the equilibrium use of information is optimal from a social perspective; the efficient use of information reflects the social value of aligning choices across agents. Finally, we examine the comparative statics of equilibrium welfare with respect to the information structure; the social value of information is best understood by classifying economies according to the inefficiency, if any, in the equilibrium use of information. We conclude with a few applications, including production externalities, beauty contests, business cycles, and large Cournot and Bertrand games.

Efficient Use of Information and Social Value of Information

This paper presents a model of business cycles driven by shocks to consumer expectations regarding aggregate productivity. Agents are hit by heterogeneous productivity shocks, they observe their own productivity and a noisy public signal regarding aggregate productivity. The public signal gives rise to ''noise shocks, " which have the features of aggregate demand shocks: they increase output, employment, and inflation in the short run and have no effects in the long run. Numerical examples suggest that the model can generate sizable equilibrium (DSGE) models of the business cycle include a large number of shocks (to technol ogy, monetary policy, preferences, etc.), but typically do not include expectational shocks as independent drivers of short-run fluctuations.1 This paper explores the idea of expectation-driven cycles, looking at a model where technology determines equilibrium output in the long run and consumers receive noisy signals about technology in the short run. The presence of noisy signals produces expectational errors. This paper studies the role of these expectational errors in gener ating volatility at business cycle frequencies. The model is based on two ingredients. First, consumers take time to recognize permanent changes in aggregate fundamentals. Although they may have good information on the current state of the individual firm or sector where they operate, they have only limited information regarding the long-run determinants of aggregate activity. Second, consumers have access to public information that is relevant to estimate long-run productivity. This includes news about technological innovations, publicly released macroeconomic and sectoral statistics, financial market prices, and public statements by policy makers. However, these signals provide only a noisy forecast of the long-run effects of technological innovations. This opens the door to "noise shocks," which induce consumers to temporarily overestimate or underestimate the productive capacity of the economy.

http://dspace.mit.edu/openaccess-disseminate/1721.1/51815

A Theory of Demand Shocks

The main result of Morris and Shin (2002) (restated in papers by Amato, Morris, and Shin (2002) and Amato and Shin (2003) and commented upon by Economist (2004)) has been presented and interpreted as an anti-transparency result: more public information can be bad. However, some scrutiny of the result shows that it is actually pro transparency: except in very special circumstances, more public information is good. Furthermore, for a conservative benchmark of equal precision in public and private information, social welfare is higher than in a situation without public information.

https://papers.ssrn.com/sol3/Delivery.cfm/nber_w11537.pdf?abstractid=779947&mirid=1

Social Value of Public Information: Morris and Shin (2002) is Actually Pro Transparency, Not Con

This paper analyzes equilibrium and welfare for a tractable class of economies (games) that have externalities, strategic complementarity or substitutability, and heterogeneous information. First, we characterize the equilibrium use of information: complementarity heightens the sensitivity of equilibrium actions to public information, raising aggregate volatility, whereas substitutability heightens the sensitivity to private information, raising cross-sectional dispersion. Next, we define and characterize an efficiency benchmark designed to address whether the equilibrium use of information is optimal from a social perspective; the efficient use of information reflects the social value of aligning choices across agents. Finally, we examine the comparative statics of equilibrium welfare with respect to the information structure; the social value of information is best understood by classifying economies according to the inefficiency, if any, in the equilibrium use of information. We conclude with a few applications, including production externalities, beauty contests, business cycles, and large Cournot and Bertrand games.

https://www.econstor.eu/bitstream/10419/31194/1/587461845.PDF

Efficient use of information and social value of information

Financial markets and macroeconomic environments are often characterised by positive external- ities. In these environments, transparency may reduce expected welfare: public announcements serve as focal points for higher-order beliefs and affect agentsbehaviour more than justified by their informational contents. Some scholars conclude that reducing public signalsprecision or entirely withholding information may improve welfare. This article shows that public information should always be provided with maximum precision but, under certain conditions, not to all agents. Restricting the degree of publicity is a better-suited instrument for preventing the negative welfare effects of public announcements than restrictions on their precision are. There is a general presumption that higher central bank transparency in terms of information disclosure to a wider audience improves the effectiveness of monetary policy and is beneficial to markets as it reduces information asymmetries, helps to assess risk better and arrive at more informed decisions, thus enhancing market efficiency. While practitioners (in central banks and international institutions) agree on the desirability of informative announcements and promote higher transparency on the ground that any information is valuable to markets, recent academic literature distin- guishes private and public information and argues that public announcements may destabilise markets and reduce efficiency by their effects on higher-order beliefs, if markets are characterised by positive externalities. Morris and Shin (2002) (henceforth M-S) have shown that noisy public announcements may be detrimental to welfare from an ex ante point of view. They conclude that a commitment to withholding relevant information or deliberately reducing its precision may be welfare enhancing. In this article we challenge this conclusion by distinguishing two components of transparency:precision ofinformationanddegreeofpublicity.The degreeof publicity is the proportion of agents who receive a signal. Using a stylised coordination game introduced by M-S, we show that information should always be provided to the market

/pdf/optimal-degree-of-public-information-dissemination-q6v47qaf6e.pdf

Optimal Degree of Public Information Dissemination

In games with strategic complementarities, public information about the state of the world has a larger impact on equilibrium actions than private information of the same precision, because the former is more informative about the likely behavior of others. This may lead to welfare-reducing ‘overreactions’ to public signals. We present an experiment based on a game of Morris and Shin (2002), in which agents’ optimal actions are a weighted average of the fundamental state and their expectations of other agents’ actions. We measure the responses to public and private signals and find that, on average, subjects put a larger weight on the public signal. However, the weight is smaller than in equilibrium and closer to level-2 reasoning. Stated second order beliefs indicate that subjects underestimate the information contained in public signals about other players’ beliefs, but this can account only for a part of the observed deviation of behavior from equilibrium. In the extreme case of a pure coordination game, subjects still use their private signals, preventing full coordination. Reconsidering the welfare effects of public and private information theoretically, we find for level-2 reasoning that increasing precision of public signals always raises expected welfare, while increasing precision of private signals may reduce expected welfare if coordination is socially desirable.

Measuring Agents' Reaction to Private and Public Information in Games with Strategic Complementarities

This paper analyzes the conduct of the optimal monetary policy with imperfect information on the shocks hitting the economy where firms’ prices are strategic complements. Monetary policy entails a dual stabilizing role, as a policy response that influences directly the economy and as a vehicle for information that shapes firms’ beliefs. In the case where more information is welfare detrimental, the central bank faces a dilemma, for its monetary instrument aimed at stabilizing the economy may harmfully shape firms’ beliefs. Recognizing the signaling role of its instrument, the central bank finds it optimal to distort its policy response in order to mitigate the detrimental information that it may convey.

The signaling role of policy action

In games with strategic complementarities, public information about the state of the world has a larger impact on equilibrium actions than private information of the same precision, because public signals are more informative about the likely behavior of others. We present an experiment in which agents’ optimal actions are a weighted average of the fundamental state and their expectations of other agents’ actions. We measure the responses to public and private signals. We find that, on average, subjects put a larger weight on the public signal. In line with theoretical predictions, as the relative weight of the coordination component in a player’s utility increases, players put more weight on the public signal when making their choices. However, the weight is smaller than in equilibrium, which indicates that subjects underestimate the information contained in public signals about other players’ beliefs.

Camille Cornand

Papers

Optimal Degree of Public Information Dissemination

Measuring Agents' Reaction to Private and Public Information in Games with Strategic Complementarities

The signaling role of policy action

Measuring Agents' Reaction to Private and Public Information in Games with Strategic Complementarities

The signaling role of policy actions