Discussion paper

DP11501 What Are Uncertainty Shocks?

One of the primary innovations in modern business cycle research is the idea that uncertainty shocks drive aggregate fluctuations. But changes in stock prices (VIX), disagreement among macro forecasters, and the cross-sectional dispersion in firms' earnings, while all used to measure uncertainty, are not the same, either conceptually or statistically. Are these really measuring the same phenomenon and not just a collection of counter-cyclical second moments? If so, what is this shock that has such diverse impacts on the economy? Statistically, there is some rationale for naming all uncertainty shocks. There exists a subset of commonly-used uncertainty measures that comove significantly, above and beyond what the cycle alone could explain. Therefore, we explore a mechanism that generates micro dispersion (cross-sectional variance of firm-level outcomes), higher-order uncertainty (disagreement) and macro uncertainty (uncertainty about macro outcomes) from a change in macro volatility. The mechanism succeeds quantitatively, causing uncertainty measures to covary, just as they do in the data. If we want to continue the practice of naming these changes all \uncertainty shocks," these results provide guidance about what such a shock might actually entail.


Veldkamp, L and N Kozeniauskas (2016), ‘DP11501 What Are Uncertainty Shocks?‘, CEPR Discussion Paper No. 11501. CEPR Press, Paris & London. https://cepr.org/publications/dp11501