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Bayesian Model Averaging, Learning and Model Selection

27 Pages Posted: 4 Apr 2012  

George W. Evans

University of Oregon - Department of Economics; University of St. Andrews - School of Economics and Finance

Seppo Honkapohja

Bank of Finland; Centre for Economic Policy Research (CEPR); CESifo (Center for Economic Studies and Ifo Institute for Economic Research)

Thomas J. Sargent

New York University (NYU) - Department of Economics, Leonard N. Stern School of Business; National Bureau of Economic Research (NBER)

Noah Williams

Princeton University - Department of Economics; National Bureau of Economic Research (NBER)

Date Written: March 2012

Abstract

Agents have two forecasting models, one consistent with the unique rational expectations equilibrium, another that assumes a time-varying parameter structure. When agents use Bayesian updating to choose between models in a self-referential system, we find that learning dynamics lead to selection of one of the two models. However, there are parameter regions for which the non-rational forecasting model is selected in the long-run. A key structural parameter governing outcomes measures the degree of expectations feedback in Muth's model of price determination.

Keywords: grain of truth, rational expectations equilibrium, Time-varying perceptions

JEL Classification: D83, D84, E37

Suggested Citation

Evans, George W. and Honkapohja, Seppo and Sargent, Thomas J. and Williams, Noah, Bayesian Model Averaging, Learning and Model Selection (March 2012). CEPR Discussion Paper No. DP8917. Available at SSRN: https://ssrn.com/abstract=2034135

George W. Evans (Contact Author)

University of Oregon - Department of Economics ( email )

1285 University of Oregon
Eugene, OR 97403
United States
541-346-4662 (Phone)
541-346-1243 (Fax)

University of St. Andrews - School of Economics and Finance ( email )

The Scores, Castlecliff
St. Andrews, Fife KY16 8RD
United Kingdom
44-1334-462435 (Phone)

HOME PAGE: http://www.st-andrews.ac.uk/economics/staff/pages.g.evans.shtml

Seppo Honkapohja

Bank of Finland ( email )

P.O. Box 160
FIN-00101 Helsinki
Finland

Centre for Economic Policy Research (CEPR)

77 Bastwick Street
London, EC1V 3PZ
United Kingdom

CESifo (Center for Economic Studies and Ifo Institute for Economic Research)

Poschinger Str. 5
Munich, DE-81679
Germany

HOME PAGE: http://www.CESifo.de

Thomas J. Sargent

New York University (NYU) - Department of Economics, Leonard N. Stern School of Business ( email )

269 Mercer Street
New York, NY 10003
United States
212-998-3548 (Phone)

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Noah Williams

Princeton University - Department of Economics ( email )

Fisher Hall
Princeton, NJ 08544-1021
United States

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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