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Uniqueness Of Bubble-Free Solution In Linear Rational Expectations Models

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  • Desgranges, Gabriel
  • Gauthier, St phane

Abstract

One usually identifies bubble solutions to linear rational expectations models by extra components (irrelevant lags) arising in addition to market fundamentals. Although there are still many solutions relying on a minimal set of state variables, i.e., relating in equilibrium the current state of the economic system to as many lags as initial conditions, there is a conventional wisdom that the bubble-free (fundamentals) solution should be unique. This paper examines the existence of endogenous stochastic sunspot fluctuations close to solutions relying on a minimal set of state variables, which provides a natural test for identifying bubble and bubble-free solutions. It turns out that only one solution is locally immune to sunspots, independently of the stability properties of the perfect-foresight dynamics. In the standard saddle-point configuration for these dynamics, this solution corresponds to the so-called saddle stable path.

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Bibliographic Info

Article provided by Cambridge University Press in its journal Macroeconomic Dynamics.

Volume (Year): 7 (2003)
Issue (Month): 02 (April)
Pages: 171-191

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Handle: RePEc:cup:macdyn:v:7:y:2003:i:02:p:171-191_01

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Cited by:
  1. Roger Guesnerie, 2008. "Macroeconomic and monetary policies from the "eductive" viewpoint," PSE Working Papers halshs-00586749, HAL.
  2. Bennett McCallum, 2004. "On the Relationship Between Determinate and MSV Solutions in Linear RE Models," NBER Technical Working Papers 0297, National Bureau of Economic Research, Inc.
  3. Bennett T. McCallum, 2003. "The Unique Minimum State Variable RE Solution is E-Stable in All Well Formulated Linear Models," NBER Working Papers 9960, National Bureau of Economic Research, Inc.
  4. St├ęphane Gauthier, 2004. "Determinacy in Linear Rational Expectations Models," Post-Print hal-00731138, HAL.

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