Noisy News in Business Cycles

The contribution of the present paper is twofold. First, we show that in a situation where
agents can only observe a noisy signal of the shock to future economic fundamentals, the
“noisy news”, SVAR models can still be successfully employed to estimate the shock and
the associated impulse response functions. Identification is reached by means of dynamic
rotations of the reduced form residuals. Second, we use our identification approach to
investigate the role of noise and news as sources of business cycle fluctuations. We find
that noise shocks, the component of the signal unrelated to economic fundamentals, generate hump-shaped responses of GDP, consumption and investment and account for a
third of their variance. Moreover, news and noise together account for more than half of
the fluctuations in GDP, consumption and investment.