Learning and Time-Varying Macroeconomic Volatility
AbstractThis paper presents a DSGE model in which agents' learning about the economy can endogenously generate time-varying macroeconomic volatility. Economic agents use simple models to form expectations and need to learn the relevant parameters. Their gain coefficient is endogenous and is adjusted according to past forecast errors. The model is estimated using likelihood-based Bayesian methods. The endogenous gain is jointly estimated with the structural parameters of the system. The estimation results show that private agents appear to have often switched to constant-gain learning, with a high constant gain, during most of the 1970s and until the early 1980s, while reverting to a decreasing gain later on. As a result, the model can generate a pattern of volatility, which is increasing in the 1970s and falling in the second half of the sample, with a decline that can roughly match the magnitude of the Great Moderation. The paper also documents how a failure to incorporate learning into the estimation may lead econometricians to spuriously find time-varying volatility in the exogenous shocks, even when these have constant variance by construction.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by University of California-Irvine, Department of Economics in its series Working Papers with number 070802.
Length: 42 pages
Date of creation: May 2007
Date of revision:
Adaptive learning; Constant gain; Monetary policy; Macroeconomic volatility; Inflation dynamics;
Find related papers by JEL classification:
- C11 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods and Methodology: General - - - Bayesian Analysis: General
- D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
- E30 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - General (includes Measurement and Data)
- E50 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - General
- E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy
- E58 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Central Banks and Their Policies
- E66 - Macroeconomics and Monetary Economics - - Macroeconomic Policy, Macroeconomic Aspects of Public Finance, and General Outlook - - - General Outlook and Conditions
This paper has been announced in the following NEP Reports:
- NEP-ALL-2007-09-30 (All new papers)
- NEP-CBA-2007-09-30 (Central Banking)
- NEP-DGE-2007-09-30 (Dynamic General Equilibrium)
- NEP-MAC-2007-09-30 (Macroeconomics)
You can help add them by filling out this form.
CitEc Project, subscribe to its RSS feed for this item.
- Aarti Singh & James Bullard, 2007.
"Learning and the Great Moderation,"
2007 Meeting Papers
523, Society for Economic Dynamics.
- James B. Bullard & Aarti Singh, 2009. "Learning and the Great Moderation," Working Papers 2007-027, Federal Reserve Bank of St. Louis.
- Bullard, James & Singh, Aarti, 2009. "Learning and the Great Moderation," Working Papers 2009-01, University of Sydney, School of Economics.
- Bullard, James B. & Singh, Aarti, 2009. "Learning and the Great Moderation," CEPR Discussion Papers 7401, C.E.P.R. Discussion Papers.
- De Grauwe, Paul, 2008. "DSGE-Modelling: when agents are imperfectly informed," Working Paper Series 0897, European Central Bank.
- George W. Evans & Seppo Honkapohja, 2009.
"Robust Learning Stability with Operational Monetary Policy Rules,"
Central Banking, Analysis, and Economic Policies Book Series,
in: Klaus Schmidt-Hebbel & Carl E. Walsh & Norman Loayza (Series Editor) & Klaus Schmidt-Hebbel (Series (ed.), Monetary Policy under Uncertainty and Learning, edition 1, volume 13, chapter 5, pages 145-170
Central Bank of Chile.
- George W. Evans & Seppo Honkapohja, 2007. "Robust Learning Stability with Operational Monetary Policy Rules," CDMA Working Paper Series 200719, Centre for Dynamic Macroeconomic Analysis, revised 15 Jan 2008.
- George W. Evans & Seppo Honkapohja, 2008. "Robust Learning Stability with Operational Monetary Policy Rules," Working Papers Central Bank of Chile 504, Central Bank of Chile.
- Evans, George W & Honkapohja, Seppo, 2008. "Robust Learning Stability with Operational Monetary Policy Rules," CEPR Discussion Papers 6641, C.E.P.R. Discussion Papers.
- Evans , George W & Honkapohja, Seppo, 2007. "Robust learning stability with operational monetary policy rules," Research Discussion Papers 31/2007, Bank of Finland.
- Harrison, Richard & Taylor, Tim, 2012.
"Misperceptions, heterogeneous expectations and macroeconomic dynamics,"
Bank of England working papers
449, Bank of England.
- Tim Taylor & Richard Harrison, 2008. "Misperceptions, heterogeneous expectations and macroeconomic dynamics," 2008 Meeting Papers 710, Society for Economic Dynamics.
- Paul Grauwe, 2011. "Animal spirits and monetary policy," Economic Theory, Springer, vol. 47(2), pages 423-457, June.
- Eric Gaus, 2013. "Time-Varying Parameters and Endogenous Learning Algorithms," Working Papers 13-02, Ursinus College, Department of Economics.
- Fabio Milani, 2009. "The Effect of Global Output on U.S. Inflation and Inflation Expectations: A Structural Estimation," Working Papers 080920, University of California-Irvine, Department of Economics.
- De Grauwe, Paul, 2012. "Booms and busts in economic activity: A behavioral explanation," Journal of Economic Behavior & Organization, Elsevier, vol. 83(3), pages 484-501.
- Paul De Grauwe, 2010. "Top-Down versus Bottom-Up Macroeconomics," CESifo Working Paper Series 3020, CESifo Group Munich.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Jennifer dos Santos).
If references are entirely missing, you can add them using this form.