Stability of Functional Rational Expectations Equilibria

Abstract

In this paper we examine a representative agent forecasting prices in a first-order self-referential overlapping generations model. We first consider intermediate stage learning, where agents update the forecasting rule every periods. We show that, in theory and simulations, the learning rule does not converge to the rational expectations equilibrium (REE). We next consider two stage learning, where agents learn the functional mapping between the current forecast function and the previous forecast function. We show that in theory and simulations the two stage learning rule converges to the REE.

JEL Classification: D83, D84, E31