UC Berkeley

Economic models commonly feature utility-maximizing agents. How the agents form their perceptions and expectations and the structure of the agent’s incentives are key factors in these models. In order to produce a useful and realistic model, it is crucial that agent expectations and incentives are properly specified. This dissertation empirically and theoretically investigates belief formation (Chapters 1 and 2) and incentives (Chapter 3) for different agents in the economy and discusses the implications for monetary policy.

In Chapter 1, "The Inattentive Consumer: Sentiment and Expectations”, I use survey data to show that consumer beliefs about economic variables are driven by a single component: sentiment. When consumers are “optimistic” (have positive sentiment), they expect the economy to expand but inflation to decline. This correlation stands in contrast to recent U.S. experience. I explain these stylized facts with a model of a rationally inattentive consumer who faces uncertainty about fundamentals. To economize on information costs, the consumer chooses to reduce the dimensionality of the problem and obtain a signal that is a linear combination of fundamentals. Optimal information gathering results in covariances of beliefs that differ from the underlying data-generating process, and in particular leads to countercyclical price beliefs. Thus, monetary policies that aim to stimulate the economy by raising inflation expectations can have counterproductive consequences.

In Chapter 2, “The Formation of Expectations, Inflation, and the Philiips Curve”, Yuriy Gorodnichenko, Olivier Coibion and I argue for a careful re-consideration of the expectations formation process and a more systematic inclusion of real-time expectations through survey data in macroeconomic analyses. While the rational expectations revolution has allowed for great leaps in macroeconomic modeling, the surveyed empirical micro-evidence appears increasingly at odds with the full-information rational expectation assumption. We explore models of expectation formation that can potentially explain why and how survey data deviate from full-information rational expectations. Using the New Keynesian Phillips curve as an extensive case study, we demonstrate how incorporating survey data on inflation expectations can address a number of otherwise puzzling shortcomings that arise under the assumption of full-information rational expectations.

In Chapter 3, “Securitization and Solicited Refinancing Channel of Monetary Policy”, I propose and document the “securitization and solicited refinancing channel,” a novel transmission mechanism of monetary policy and its heterogenous regional effects. The hypothesis is that mortgage lenders who sell their originations to Government Sponsored Enterprises (GSEs) or into securitizations no longer hold the loan’s prepayment risk, and when rates drop, these lenders are more likely to signal to their borrowers to refinance, resulting in more borrower refinancing. A regression analysis finds that in response to decline in mortgage-backed security (MBS) yields, regions where originate-to-sell-or-securitize lenders operate see more refinancing activity than regions where originate-to-hold lenders operate. The findings have important implications for (i) the efficacy of policy to increase refinancing, lower mortgage payments, and stimulate demand, (ii) the distributional consequences of monetary policy, and (iii) how the GSEs and securitization may play a key role in the pass-through to the housing market.