Individual Expectations and Aggregate Macro Behavior
Tinbergen Institute Discussion Paper 13-016/II
59 Pages Posted: 15 Jan 2013 Last revised: 11 Dec 2015
Date Written: January 5, 2013
The way in which individual expectations shape aggregate macroeconomic variables is crucial for the transmission and effectiveness of monetary policy. We study the individual expectations formation process and the interaction with monetary policy, within a standard New Keynesian model, by means of laboratory experiments with human subjects. Three aggregate outcomes are observed: convergence to some equilibrium level, persistent oscillatory behavior and oscillatory convergence. We fit a heterogeneous expectations model with a performance-based evolutionary selection among heterogeneous forecasting heuristics to the experimental data. A simple heterogeneous expectations switching model fits individual learning as well as aggregate macro behavior and outperforms homogeneous expectations benchmarks. Moreover, in accordance to theoretical results in the literature on monetary policy, we find that an interest rate rule that reacts more than point for point to inflation has some stabilizing effects on inflation in our experimental economies, although convergence can be slow in presence of evolutionary learning.
Keywords: Experiments, New Keynesian Macro Model, Monetary Policy, Expectations, Heterogeneity
JEL Classification: C91, C92, D84, E52
Suggested Citation: Suggested Citation