Heterogeneous Information and the Theory of the Business Cycle

Abstract

The inability to observe the money supply and price level has been an essential ingredient of informational based equilibrium models of cycles. Here we assume these data are available but show that heterogeneous information about the productivity of capital can lead to a monetary theory of fluctuations. In equilibrium, each agent's investment depends on the difference between his own productivity and the perceived real rate. In the presence of money demand shocks, the nominal rate is noisy signal of the real rate. This leads to greater fluctuations in output than if all agents had the same information.