I have been thinking lately about how exogenous shocks affect the economy. To do that, we need to consider first what a shock is in itself.

Life sometimes brings surprises, which can be good or bad. Furthermore, these surprises are sometimes expected and sometimes they are not. For example, when your grandparent dies, it is kind of already expected. No one really knows when life will end, but it is expected for old people to die sooner than younger people, even if just statistically. Getting a job is kind of expected, as an application is required, not regarding the acceptance rate. Now, when the rate is low, it is kind of expected that one will not be accepted. However, there is a special kind of surprise, which are the unexpected ones. These are really relevant because, for the other ones, one can anticipate; that is, consider the probability of an event and adjust to that, either by saving or somehow getting insurance. However, if one did not anticipate an event, then the shock has to be faced hands-on. I am referring to the shocks that are not anticipated not because one neglected, which is kind of like gambling against it.

The type of shocks that are not anticipated because one did not even foresee are interesting for two reasons: they are more common than we are used to thinking about them, and because the fact that we cannot anticipate them means that we have to figure out quickly a way to solve them or pay the consequences. In my example of finding a job, it is clear that one can anticipate getting or not getting it, but what one cannot anticipate is which jobs will actually be offered. In that sense the mere fact that one is applying to one job or the other is a shock in itself. In that sense, these type of shocks are more common than we usually think of.

Now, let’s focus our attention on positive shocks. For example, the news that a relative died and for whatever reason gave us a lot of money or finding a new restaurant that we really like because a friend introduces it to us. How will we adjust? We will simply use the money to meet our needs, or we will start going to that restaurant whenever we feel like it. In other words, the object will now be on our radar, the information shock, that is, the news of an upcoming or recently materialized event affects our behavior. We need to beware that this positive shock does not leave us worse off than before the news. For example, an increase in income might make us more prone to using our credit cards and therefore leave us bankrupt. The question then is how exactly could it be that a positive shock leaves us worse off? Similarly, a negative shock could leave us better off, paradoxically.

Negative shocks shake the ground and make us shiver. They test our guts and make us tremble. They take the best out of us.

What I am trying to say is this: when there is a positive shock, one has to be wise on how not to get carried away by the positive emotion. When the shock is negative, one has to be courageous and resilient to trust that things can get better. This ‘getting better’ should not be looked upon with mere optimism, nor with a pessimistic realism. Rather, by realizing that things can get better because we can strive towards something better.

Some negative shocks are simply out of our control, like with disease. Same with positive ones, like the birth of a baby. What is important in those cases is to be aware of the things that we can actually change.

For my next blog I might write down a model to explore these ideas. But as for now, the definition of a shock has been settled. This time it has been snowing hard and I have not gone out, so unfortunately I don’t have a picture of an outing. Again, maybe next time.

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