Sentiment shocks, productivity, and long-run growth

Abstract

We study the effect of sentiment shocks, changes in confidence unrelated to the fundamentals, on the US economy in the long run. We identify quarterly sentiment shocks using the quarterly averages of monthly sentiment shocks as an instrument in the IV-SVAR framework. We find that output and potential output permanently increase in response to a sentiment shock. The increase in R&D investments is the main transmission channel of sentiment shocks on productivity and long-run economy. The findings imply that the exogenous changes in consumer confidence are not only a measure of expected future productivity growth but also a source of them.