Sentiment Shock and Stock Price Bubbles in a Dynamic Stochastic General Equilibrium Model Framework: The Case of Iran

Authors

  • Ehsan Asadi Department of Economics, Faculty of Economics and Management, Shiraz Branch, Islamic Azad University, Shiraz, Iran.
  • Hashem Zare Department of Economics, Faculty of Economics and Management, Shiraz Branch, Islamic Azad University, Shiraz, Iran
  • Khosrow Piraiee Department of Economics, Faculty of Economics and Management, Shiraz Branch, Islamic Azad University, Shiraz, Iran.
  • Mehrzad Ebrahimi Department of Economics, Faculty of Economics and Management, Shiraz Branch, Islamic Azad University, Shiraz, Iran
Abstract:

In this study, a model of Bayesian Dynamic Stochastic General Equilibrium (DSGE) from Real Business Cycles (RBC) approach with the aim of identifying the factors shaping price bubbles of Tehran Stock Exchange (TSE) was specified. The above-mentioned model was conducted in two scenarios. In the first scenario, the baseline model with sentiment shock was examined. In this model, stock price bubbles appear endogenously in a positive feedback mechanism that is supported by people optimism. In the second scenario, only sentiment shock is absent from the model. According to the results obtained from the estimation of marginal likelihood model based on Laplace approximation, the baseline model is more in accord with Iran’s economic structure and real data. Consequently, the sentiment shock had a dominant role in creating stock price fluctuations and macroeconomic variables. Based on the results of variance decomposition model, sentiment shock was also recognized as the most important source of fluctuations in bubbles and subsequent fluctuations in stock prices. This shock reflected households’ beliefs about the approximate size of previous bubbles over the recent ones and was passed to the macroeconomic by credit constraints. In this way, this shock also described a major part of the fluctuation of consumption and output. Sentiment shock explained about 86% of stock price fluctuations, 47% of consumption fluctuations, and 39% of output fluctuations.

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Journal title

volume 7  issue 2

pages  115- 150

publication date 2018-12-01

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