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ROBUSTNESS OF ADAPTIVE EXPECTATIONS AS AN EQUILIBRIUM SELECTION DEVICE

Published online by Cambridge University Press:  07 January 2003

Timothy Van Zandt  and
Martin Lettau
Timothy Van Zandt
Affiliation:
INSEAD and CEPR
Martin Lettau
Affiliation:
Federal Reserve Bank of New York and CEPR Present address: Stern School of Business, Department of Finance, 44 West 4th Street, New York, NY 10012-1126.
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Abstract

Dynamic models in which agents' behavior depends on expectations of future prices or other endogenous variables can have steady states that are stationary equilibria for a wide variety of expectations rules, including rational expectations. When there are multiple steady states, stability is a criterion for selecting among them as predictions of long-run outcomes. The purpose of this paper is to study how sensitive stability is to certain details of the expectations rules, in a simple OLG model with constant government debt that is financed through seigniorage. We compare simple recursive learning rules, learning rules with vanishing gain, and OLS learning, and also relate these to expectational stability. One finding is that two adaptive expectation rules that differ only in whether they use current information can have opposite stability properties.

Keywords

Adaptive ExpectationsLearningHyperinflation
Type
Research Article
Information
Macroeconomic Dynamics , Volume 7 , Issue 1 , February 2003 , pp. 89 - 118
Copyright
© 2003 Cambridge University Press

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