Robust Predictions for DSGE Models with Incomplete Information

Abstract

We provide predictions for DSGE models with incomplete information that are robust across information structures. Our approach maps an incomplete-information model into a full-information economy with time-varying expectation wedges and provides conditions that ensure the wedges are rationalizable by some information structure. Using our approach, we quantify the potential importance of information as a source of business cycle fluctuations in an otherwise frictionless model. Our approach uncovers a central role for firm-specific demand shocks in supporting aggregate confidence fluctuations. Only if firms face unobserved local demand shocks can confidence fluctuations account for a significant portion of the US business cycle. (JEL D82, D83, E13, E31, E32)