Belief Disagreement and Business Cycles

Abstract

This paper studies how belief disagreement across households affects aggregate demand. I develop a model in which households are heterogeneously exposed to business cycles and show that the impact of disagreement can be summarized by a simple statistic-correlated disagreement- which summarizes the correlation between beliefs and individual exposure. I endogenize disagreement via heterogeneous attention, which implies that attention increases with exposure, so correlated disagreement is positive. Then, I show that disagreement amplifies general-equilibrium effects and acts as a propagation mechanism amplifying business cycles. I also provide evidence of this positive correlation using survey data on expectations. To quantify the implications of disagreement, I extend the analysis to a Heterogeneous-Agent New Keynesian model featuring multiple sources of heterogeneity. I show that belief disagreement can substantially amplify business-cycle fluctuations. Finally, I show that targeting spending to the most cyclical sectors can significantly increase the spending multiplier.