E-Stability Vis-a-Vis Determinacy Results for a Broad Class of Linear Rational Expectations Models
26 Pages Posted: 21 Aug 2006 Last revised: 1 Jul 2010
Date Written: August 2006
It is argued that learnability/E-stability is a necessary condition for a RE solution to be plausible. A class of linear models considered by Evans and Honkapohja (2001) is shown to include all models of the form used by King and Watson (1998) and Klein (2000), which permits any number of lags, leads, and lags of leads. For this broad class it is shown that, if current-period information is available in the learning process, determinacy is a sufficient condition for E-stability. It is not a necessary condition, however; there exist cases with more than one stable solution in which the solution based on the decreasing-modulus ordering of the system's eigenvalues is E-stable. If in such a case the other stable solution(s) are not E-stable, then the condition of indeterminacy may not be important for practical issues.
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