Consistent Expectations, Rational Expectations, Multiple-Solution Indeterminacies, and Least-Squares Learnability

32 Pages Posted: 20 Sep 2002 Last revised: 29 Oct 2010

See all articles by Bennett T. McCallum

Bennett T. McCallum

Carnegie Mellon University - David A. Tepper School of Business; National Bureau of Economic Research (NBER)

Date Written: September 2002

Abstract

After some historical discussion of the rational expectations (RE) solution procedures of John Muth, Alan Walters, and Robert Lucas, this paper considers the relevance for actual economies of issues stemming from the existence of multiple RE equilibria. In all linear models, the minimum state variable (MSV) solution as defined by the author (JME, 1983) is unique by construction. While it might be argued that the MSV solution warrants special status as the bubble-free solution, the focus in this paper is on its adaptive, least-squares learnability by individual agents, as discussed extensively in important recent publications by George Evans and Seppo Honkapohja. Although the MSV solution is learnable and the main alternatives are not, in most standard models, Evans and Honkapohja have stressed an example in which the opposite is true. The present paper shows, however, that parameter values yielding that result are such that the model is not well formulated, in a specified sense (one that avoids implausible discontinuities). More generally, analysis of a pair of prominent univariate specifications, featured by Evans and Honkapohja, shows that the MSV solution is invariably learnable in these structures, if they are well formulated.

Suggested Citation

McCallum, Bennett T., Consistent Expectations, Rational Expectations, Multiple-Solution Indeterminacies, and Least-Squares Learnability (September 2002). NBER Working Paper No. w9218. Available at SSRN: https://ssrn.com/abstract=332262

Bennett T. McCallum (Contact Author)

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