News and financial intermediation in aggregate and sectoral fluctuations

We estimate a two-sector DSGE model with financial intermediaries—a-la Gertler and Karadi 2011) and Gertler and Kiyotaki (2010)—and quantify the importance of financial shocks in accounting for aggregate and sectoral fluctuations. Our results indicate a significant role of financial market news as a predictive force behind fluctuations. Specifically, news about the valuation of assets held by financial intermediaries, reflected one to two years in advance in corporate bond markets, affect the supply of credit and are estimated to be a significant source of aggregate fluctuations, accounting for approximately 25% of output, 20% of investment and 25% of hours variation in both cyclical and lower frequencies. Financial intermediation is essential for the importance and propagation of these valuation shocks. Importantly, valuation news shocks generate both aggregate and sectoral co-movement as in the data.