Horizon Bias in Expectations Formation

Abstract

We provide empirical evidence that optimism bias increases with the forecasting horizon. We label this empirical regularity the horizon bias. We document significant horizon bias in the macroeconomic expectations of professional forecasters, both in the U.S. and abroad. In our empirical setting, horizon bias is unlikely to be the result of strategic considerations, information rigidities, or common heuristic rules of belief formation. At the same time, we show theoretically that horizon bias can arise in theories of motivated beliefs. Moreover, following the conceptual framework of Benabou(2015), we show that many theory-based drivers of motivated beliefs can help explain time-series variation in horizon bias.

Keywords: Motivated Beliefs, Optimal Expectations, Wishful Thinking, Economic Forecasting, Economic Models, Expectations, Optimism Bias, Survey Forecasts

JEL Classification: C53, D03, D83, D84, D90, D91, E37