Computing Sunspots in Linear Rational Expectations Models
AbstractWe provide computationally simple methods of analyzing the effects of fundamental and sunspot shocks in linear rational expectations models when the equilibrium is indeterminate Under indeterminacy sunspots can affect model dynamics through endogenous forecast errors that do not completely adjust to fundamental shocks alone Moreover the effect of fundamental shocks on forecast errors is not uniquely determined We characterize the full set of equilibria and show that some solution methods only generate subsets of all the rational expectations equilibria by imposing specific restrictions on the forecast errors However in most cases it is possible to recover the full set of equilibria from the output of these methods The solution algorithms are illustrated with a New Keynesian dynamic stochastic equilibrium model that can be solved analytically We show that under a passive interest-rate rule the response of output and inflation to an unanticipated interest rate cut is ambiguous: while output rises there are some equilibria in which inflation increases and other in which prices fall
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Bibliographic InfoPaper provided by The Johns Hopkins University,Department of Economics in its series Economics Working Paper Archive with number 456.
Date of creation: Oct 2001
Date of revision: Jun 2002
Other versions of this item:
- Thomas Lubik & Frank Schorfheide, 2002. "Computing Sunspots in Linear Rational Expectations Models," Computing in Economics and Finance 2002 138, Society for Computational Economics.
- C62 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Existence and Stability Conditions of Equilibrium
- C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
- E00 - Macroeconomics and Monetary Economics - - General - - - General
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