Socioeconomic Interaction and Swings in Business Confidence Indicators

TL;DR

This paper introduces a stochastic model of how individual business expectations interact and evolve, capturing the occurrence of sudden large swings in business confidence indicators observed in German survey data.

Contribution

It presents a novel interactive stochastic model using a Blume-Capel type energy function to explain swings in business confidence, aligning with empirical data.

Findings

Model reproduces abrupt large swings in confidence indicators

Spontaneous phase changes explain sudden shifts in expectations

Aligns with empirical German business climate data

Abstract

We propose a stochastic model of interactive formation of individual expectations regarding the business climate in an industry. Our model is motivated by a business climate survey cond ucted since 1960 in Germany by the Ifo-institute (www.ifo.de). In accordance with the data structure of this survey, in our model there is asso ciated to each economic agent (business manager) a random variable with a three-element state space representing her possible types of expectations. The evolution of individual expectations in a finite population is then modeled as a spatio-temporal stochastic process with local interaction between agents. An appropriate structure of the interaction between agents in our setting turns out to be provided by a Festinger-function (in physics called energy function or Ham iltonian) of the Blume-Capel type. Time series of the fractions of agents holding each type of expectations are obtained for the model by Monte Carlo simulations. We find that our model reproduces some generic features of the empirical time series obtained from the German business-climate data, in particu lar the occurrence of abrupt large but rare swings. In our model, such swings occur as spontaneous phase changes between macroscopic states.