The Price of Policy Uncertainty

Deepen understanding of how policy uncertainty affects investment and growth, asset prices, labor markets and the resulting consequences for federal deficits and long-term fiscal challenges.

From quantitative easing and fiscal cliffs to euro bailouts and slow growth, the years since the financial crises confronted us with extraordinary policy challenges—and high levels of uncertainty over how they would be addressed. Even when government tax and spending policies are adopted and short-run responses are revealed, long-term consequences are may remain shrouded in uncertainty.

Many have blamed this uncertainty for dampening investment and consumer spending and thus slowing the economic recovery. But what are the true costs of uncertainty? The size and exact mechanisms of the impact of uncertainty on the economy remain unclear.

To seek answers, in 2014, the Becker Friedman Institute launched “The Price of Policy Uncertainty,” a research initiative that examines the economic impact of doubt and ambiguity about policy choices—and shares findings with policy makers.

Funded by the John D. and Catherine T. MacArthur Foundation, this effort expands research that deepens our understanding of how policy uncertainty affects investment and growth, asset prices, labor markets and the resulting consequences for federal deficits and long-term fiscal challenges.

The initiative tackles the question of uncertainty across multiple dimensions.

Advancing Research

Several conferences have brought together scholars who are pursuing theoretical and empirical approaches to measure, model, and evaluate evidence on uncertainty and how it is reflected in the macroeconomy and in financial markets.

Improving Measurement

To understand the impact of uncertainty, we must first be able to measure it. The initiative builds on and advances the work of Steven J. Davis and colleagues Scott Baker and Nicholas Bloom, who developed a multifactor index that gauges levels of public uncertainty, and used it to show downturns in economic activity in periods marked by high levels of uncertainty. Funding from this project is helping them refine their index and expand it to new regions and policy areas.

Sharing Evidence

A key focus of the initiative is sharing research and analysis with policy makers, to help them better account for taxpayer, investor, and consumer uncertainty into economic models, budget forecasts, and cost-benefit evaluations. A video series with accompanying policy briefs highlights relevant research conducted by University of Chicago economics and associated scholars elsewhere. These videos:

Outreach events, including frequent talks on uncertainty by Lars Peter Hansen and a lecture on the economics of climate change by William Nordhaus of Yale helped raise public awareness of the importance of addressing uncertainty.

Interrelated Research

The institute’s work on uncertainty complements with our Macro Financial Modeling initiative, where efforts to build better macroeconomic models with enhanced linkages to the financial sector must take into account investor and consumer uncertainty. Likewise, our Fiscal Studies initiative pursuing more credible evaluations of current and alternative tax and spending policies acknowledges that perceptions of the permanence of such policies and beliefs and guesses about future economic conditions influence outcomes.

To learn more about the related research, view the papers below:

Baker, Scott R., Nicholas Bloom, and Steven J. Davis. 2012. "Has Economic Policy Uncertainty Hampered the Recovery?" BFI Working Paper Series No. 2012-003.

Bloom, Davis Baker. May 2014. “Why Has U.S. Policy Uncertainty Risen Since 1960?” American Economic Review Papers and Proceedings.

Hansen, Lars Peter. July 2014. “Uncertainty Outside and Inside Economic Models.” Journal of Political Economy, 122.