Can a Sunspot Driven Model Replicate Recognizable Business Cycles?

This paper presents a dynamic stochastic general equilibrium model in which there is a small productive role for money. The equilibrium of the model is characterized by indeterminacy. This implies that the economy can display fluctuations at business cycle frequencies even in the absence of shocks to fundamentals. In the model, fluctuations are driven by changes in agents beliefs or \sunspots" that are orthogonal to fundamentals, i.e. preferences and technology. I examine a calibrated version of this model and find that it performs as well as the standard RBC model in matching the covariance properties of the U.S. data. More importantly, computing impulse response functions for a number of macroeconomic time series from the data, I find that it outperforms the RBC model in terms of capturing the cyclical dynamic properties of the U.S. data.