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The Modeling of Expectations in Empirical DSGE Models: a Survey

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  • Fabio Milani

    ()
    (Department of Economics, University of California-Irvine)

Abstract

A recent notable development in the empirical macroeconomics literature has been the rapid growth of papers that build structural models, which include a number of frictions and shocks, and which are confronted with the data using sophisticated full-information econometric approaches, often using Bayesian methods. A widespread assumption in these estimated models, as in most of the macroeconomic literature in general, is that economic agents' expectations are formed according to the Rational Expectations Hypothesis (REH). Various alternative ways to model the formation of expectations have, however, emerged: some are simple refinements that maintain the REH, but change the information structure along different dimensions, while others imply more significant departures from rational expectations. I review here the modeling of the expectation formation process and discuss related econometric issues in current structural macroeconomic models. The discussion includes benchmark models assuming rational expectations, extensions based on allowing for sunspots, news, sticky information, as well as models that abandon the REH to use learning, heuristics, or subjective expectations.

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Bibliographic Info

Paper provided by University of California-Irvine, Department of Economics in its series Working Papers with number 121301.

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Length: 33 pages
Date of creation: Jun 2012
Date of revision:
Handle: RePEc:irv:wpaper:121301

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Related research

Keywords: Expectations formation; DSGE models; Rational expectations; Adaptive learning; Survey expectations; New Bayesian macroeconometrics;

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  1. Bruce Preston, 2005. "Learning about Monetary Policy Rules when Long-Horizon Expectations Matter," International Journal of Central Banking, International Journal of Central Banking, vol. 1(2), September.
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  9. Fabio Milani & Ashish Rajrhandari, 2012. "Observed Expectations, News Shocks, and the Business Cycle," Working Papers 121305, University of California-Irvine, Department of Economics.
  10. Fabio Milani & Ashish Rajbhandari, 2012. "Expectation Formation and Monetary DSGE Models: Beyond the Rational Expectations Paradigm," Working Papers 111212, University of California-Irvine, Department of Economics.
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  17. Oleg Korenok, 2005. "Empirical Comparison of Sticky Price and Sticky Information Models," Working Papers 0501, VCU School of Business, Department of Economics.
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  21. Milani, Fabio, 2009. "Expectations, learning, and the changing relationship between oil prices and the macroeconomy," Energy Economics, Elsevier, vol. 31(6), pages 827-837, November.
  22. Emi Nakamura & Jón Steinsson, 2008. "Five Facts about Prices: A Reevaluation of Menu Cost Models," The Quarterly Journal of Economics, MIT Press, vol. 123(4), pages 1415-1464, November.
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Cited by:
  1. Jochen Michaelis, 2013. "Und dann werfen wir den Computer an – Anmerkungen zur Methodik der DSGE-Modelle," MAGKS Papers on Economics 201323, Philipps-Universität Marburg, Faculty of Business Administration and Economics, Department of Economics (Volkswirtschaftliche Abteilung).

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