Hostname: page-component-7479d7b7d-wxhwt Total loading time: 0 Render date: 2024-07-09T02:21:11.097Z Has data issue: false hasContentIssue false
  • English
  • Français

LEARNING TO FORECAST AND CYCLICAL BEHAVIOR OF OUTPUT AND INFLATION

Published online by Cambridge University Press:  01 February 2005

KLAUS ADAM
KLAUS ADAM
Affiliation:
CEPR Goethe University of Frankfurt, European Central Bank and Center for Financial Studies
Get access Rights & Permissions [Opens in a new window]

Abstract

This paper considers a sticky price model with a cash-in-advance constraint where agents forecast inflation rates with the help of econometric models. Agents use least-squares learning to estimate two competing models of which one is consistent with rational expectations once learning is complete. When past performance governs the choice of forecast model, agents may prefer to use the inconsistent forecast model, which generates an equilibrium where forecasts are only constrained rational. Output and inflation then display persistence, inflation responds sluggishly to nominal disturbances, and the dynamic correlations of output and inflation match U.S. data surprisingly well. The rational expectations equilibrium instead has great difficulty in matching any of these features.

Keywords

LearningBusiness CyclesConstrained Rational ExpectationsInefficient ForecastsOutputInflation Persistence
Type
ARTICLES
Information
Macroeconomic Dynamics , Volume 9 , Issue 1 , February 2005 , pp. 1 - 27
Copyright
© 2005 Cambridge University Press

Access options

Get access to the full version of this content by using one of the access options below. (Log in options will check for institutional or personal access. Content may require purchase if you do not have access.)

References

Adam K. 2003 Learning and equilibrium selection in a monetary overlapping generations model with sticky prices. Review of Economic Studies 70, 887– 908.Google Scholar
Adam K. 2004 Should Macroeconomists Consider Restricted Perceptions Equilibria? Evidence from the Experimental Laboratory. Mimeo, University of Frankfurt.
Anderson R.M. & H. Sonnenschein 1985 Rational expectations equilibrium with econometric models. Review of Economic Studies 52, 359– 369.Google Scholar
Arifovic J. & J. Bullard 2001 Learning in macroeconomic models. Macroeconomic Dynamics 5, 143– 147.Google Scholar
Ball L. 2000 Near-Rationality and Inflation in Two Monetary Regimes. NBER Working paper 7988.
Bossaerts P. 2002 The Paradox of Asset Pricing. Princeton, NJ: Princeton University Press.
Branch W.A. 2003 The Theory of Rationally Heterogeneous Expectations: Evidence from Survey Data on Inflation Expectations. Mimeo, College of William and Mary.
Brock W.A. & C.H. Hommes 1997 A rational route to randomness. Econometrica 65, 1059– 1095.Google Scholar
Bullard J. & S. Eusepi 2003 Did the Great Inflation Occur Despite Policymaker Commitment to a Taylor Rule? Federal Reserve Bank of St. Louis working paper 2003–013.
Bullard J.B. & K. Mitra 2002 Learning about monetary policy rules. Journal of Monetary Economics 49, 1105– 1129.Google Scholar
Cagan P. 1956 The monetary dynamics of hyper-inflation. In Milton Friedman (ed.), Studies in the Quantity Theory of Money, pp. 25–117. Chicago: University of Chicago Press.
Carroll C.D. 2003 Macroeconomic expectations of hounseholds and professional forecasters. Quarterly Journal of Economics 118, 269– 298.Google Scholar
Chari V.V., P.J. Kehoe & E.R. McGrattan 2000 Sticky price models of the business cycle: Can the contract multiplier solve the persistence problem? Econometrica 68, 1151– 1179.Google Scholar
Christiano L.J., M. Eichenbaum & C. Evans 1999 Monetary policy shocks: What have we learned and to what end? In J.B. Taylor & M. Woodford (eds.), Handbook of Macroeconomics. pp. 65–148. Amsterdam: Elsevier.
Christiano L.J., M. Eichenbaum & C. Evans 2001 Nominal Rigidities and the Dynamic Effects of a Shock to Monetary Policy. National Bureau of Economic Research Working Paper No. 8403.
Christiano L.J., M. Eichenbaum & C. Evans 1997 Sticky price and limited participation models of money: A comparison. European Economic Review 41, 1201– 1249.Google Scholar
Dixit A.K. & J.E. Stiglitz 1977 Monopolistic competition and optimum product diversity. American Economic Review 67, 297– 308.Google Scholar
Evans G.W. & S. Honkapohja 1993 Adaptive forecasts, hysteresis, and endogenous fluctuations. Economic Review of the Federal Reserve Bank of San Francisco 1, 3– 13.Google Scholar
Evans G.W. & S. Honkapohja 2001 Learning and Expectations in Macroeconomics. Princeton, N.J.: Princeton University Press.
Evans G.W. & S. Honkapohja 2003 Expectations and the stability problem for optimal monetary policies. Review of Economic Studies 70, 807– 824.Google Scholar
Evans G. & G. Ramey 1992 Expectation calculation and macoeconomic dynamics. American Economic Review 82, 207– 224.Google Scholar
Fudenberg D. & D. Levine 1993 Self-confirming equilibrium. Econometrica 61, 523– 545.Google Scholar
Fuhrer J. & G. Moore 1995 Inflation persistence. Quarterly Journal of Economics 110, 127– 159.Google Scholar
Galí J. & M. Gertler 1999 Inflation dynamics: A structural econometric analysis. Journal of Monetary Economics 44, 195– 222.Google Scholar
Hommes C.H. & G. Sorger 1997 Consistent expectations equilibria. Macroeconomic Dynamics 2, 287– 321.Google Scholar
Kasa K. 2004 Learning, large deviations, and recurrent currency crisis. International Economic Review 45, 141– 173.Google Scholar
Marcet A. & J. Pablo Nicolini 2003 Recurrent hyperinflations and learning. American Economic Review 93, 1476– 1498.Google Scholar
Marcet A. & T.J. Sargent 1989 Convergence of least squares learning in environments with hidden state variables and private information. Journal of Political Economy 97, 1306– 1322.Google Scholar
Nelson E. 1998 Sluggish inflation and optimization models of the business cycle. Journal of Monetary Economics 42, 303– 322.Google Scholar
Packalen M. 2000 On the Learnability of Rational Expectations Equilibria in Three Business Cycle Models. Research report 87, University of Helsinki.
Roberts J.M. 1997 Is Inflation Sticky? Journal of Monetary Economics 39, 173– 196.Google Scholar
Sargent T.J. 1991 Equilibrium with signal extraction from endogenous variables. Journal of Economic Dynamics and Control 15, 245– 273.Google Scholar
Sargent T.J. 1999 The Conquest of American Inflation. Princeton, NJ: Princeton University Press.
Sethi R. & R. Franke 1995 Behavioural heterogeneity under evolutionary pressure: Macroeconomic implications of costly optimisation. Economic Journal 105, 583– 600.Google Scholar
Stock J. & M. Watson 1999 Business cycle fluctuations in US macroeconomic time series. In J.B. Taylor & M. Woodford (eds.), Handbook of Macroeconomics, pp. 3–64. Amsterdam: Elsevier.
Taylor J.B. 1999 Staggered price and wage setting in macroeconomics. In J.B. Taylor and M. Woodford (eds.), Handbook of Macroeconomics, pp. 1009–1050. Amsterdam: Elsevier.
Timmermann A. 1993 How learning in financial markets generates excess volatility and predictability in stock prices. Quarterly Journal of Economics 108, 1135– 1145.Google Scholar