Social Mood and Financial Economics

The general level of optimism/pessimism in society is reflected by the emotions of financial decision-makers. Because these emotions are correlated across economic participants, our hypothesis leads to three important outcomes. First, social mood determines the types of decisions made by consumers, investors, and corporate managers alike. Extremes in social mood are characterized by optimistic (pessimistic) aggregate investment and business activity. Second, due to the efficient and emotional nature of stock transactions, the stock market itself is a direct measure or gauge of social mood. Third, since the tone and character of business activity follows, rather than leads, social mood, stock market trends help forecast future financial and economic activity. Specific predictions about stock market levels and trading volume, market volatility, firm expansion, leverage use, and IPO and M&A activity are also given.