IQ, Expectations, and Choice

Abstract

We use administrative and survey-based micro data to study the relationship between cognitive abilities (IQ), the formation of inflation expectations, and the consumption plans of a representative male population. High-IQ men display 50% lower forecast errors for inflation than other men. High-IQ men, but not others, have consistent inflation expectations and perceptions over time. In terms of choice, only high-IQ men increase their consumption propensity when expecting higher inflation as the consumer Euler equation prescribes. Education levels, income, other expectations, and socio-economic status, although important, do not explain the variation in expectations and choice by IQ. Recent modeling attempts to incorporate boundedly-rational agents into macro models do not fully capture all the facts we document. We discuss which dimensions of expectations formation and choice are important for heterogeneous-agents models of household consumption and for the transmission of fiscal and monetary policy.

Keywords: Behavioral Macroeconomics, Heterogeneous Beliefs, Limited Cognition, Expectations Formation, Household Finance

JEL Classification: D12, D84, D91, E21, E31, E32, E52, E65