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Monetary Policy, Judgment, and Near-Rational Exuberance

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  • James Bullard
  • George W. Evans
  • Seppo Honkapohja

Abstract

We study how the use of judgment or "add-factors" in macroeconomic forecasting may disturb the set of equilibrium outcomes when agents learn using recursive methods. We examine the possibility of a new phenomenon, which we call exuberance equilibria, in the New Keynesian monetary policy framework. Inclusion of judgment in forecasts can lead to self-fulfilling fluctuations in a subset of the determinacy region. We study how policymakers can minimize the risk of exuberance equilibria.

Suggested Citation

  • James Bullard & George W. Evans & Seppo Honkapohja, 2008. "Monetary Policy, Judgment, and Near-Rational Exuberance," American Economic Review, American Economic Association, vol. 98(3), pages 1163-1177, June.
  • Handle: RePEc:aea:aecrev:v:98:y:2008:i:3:p:1163-77 Note: DOI: 10.1257/aer.98.3.1163
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    References listed on IDEAS

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    Citations

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    Cited by:

    1. Gaballo, Gaetano, 2013. "Good luck or good policy? An expectational theory of macro volatility switches," Journal of Economic Dynamics and Control, Elsevier, vol. 37(12), pages 2755-2770.
    2. Mele, Antonio & Molnar, Krisztina & Santoro, Sergio, 2014. "On the perils of stabilizing prices when agents are learning," Discussion Paper Series in Economics 1/2015, Norwegian School of Economics, Department of Economics.
    3. Hommes, C.H. & Zhu, M., 2016. "Behavioral Learning Equilibria, Persistence Amplification & Monetary Policy," CeNDEF Working Papers 16-03, Universiteit van Amsterdam, Center for Nonlinear Dynamics in Economics and Finance.
    4. Fabio Milani, 2014. "Sentiment and the US Business Cycle," Working Papers 141504, University of California-Irvine, Department of Economics.
    5. Hommes, Cars & Zhu, Mei, 2014. "Behavioral learning equilibria," Journal of Economic Theory, Elsevier, vol. 150(C), pages 778-814.
    6. George W. Evans & Seppo Honkapohja, 2009. "Expectations, Learning and Monetary Policy: An Overview of Recent Research," 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 2, pages 027-076 Central Bank of Chile.
    7. Elias, Christopher J., 2016. "A heterogeneous agent exchange rate model with speculators and non-speculators," Journal of Macroeconomics, Elsevier, pages 203-223.
    8. Bullard, James & Evans, George W. & Honkapohja, Seppo, 2010. "A Model Of Near-Rational Exuberance," Macroeconomic Dynamics, Cambridge University Press, vol. 14(02), pages 166-188, April.
    9. Stephen Cole & Fabio Milani, 2014. "The Misspecification of Expectations in New Keynesian Models: A DSGE-VAR Approach," Working Papers 131407, University of California-Irvine, Department of Economics.
    10. Stephen Cole & Fabio Milani, 2014. "The Misspecification of Expectations in New Keynesian Models: A DSGE-VAR Approach," Working Papers 131407, University of California-Irvine, Department of Economics.
    11. Hommes, Cars & Kiseleva, Tatiana & Kuznetsov, Yuri & Verbic, Miroslav, 2012. "Is More Memory In Evolutionary Selection (De)Stabilizing?," Macroeconomic Dynamics, Cambridge University Press, vol. 16(03), pages 335-357, June.
    12. Manabu Asai & Michael McAleer, 2017. "Forecasting the volatility of Nikkei 225 futures," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 37(11), pages 1141-1152, November.
    13. Adam, Klaus, 2009. "Monetary policy and aggregate volatility," Journal of Monetary Economics, Elsevier, vol. 56(S), pages 1-18.
    14. Milani, Fabio, 2017. "Sentiment and the U.S. business cycle," Journal of Economic Dynamics and Control, Elsevier, pages 289-311.
    15. Murray, James, 2011. "Learning and judgment shocks in U.S. business cycles," MPRA Paper 29257, University Library of Munich, Germany.
    16. Elias, Christopher J., 2016. "Asset pricing with expectation shocks," Journal of Economic Dynamics and Control, Elsevier, vol. 65(C), pages 68-82.
    17. D'Amico, Stefania & King, Thomas B., 2015. "What Does Anticipated Monetary Policy Do?," Working Paper Series WP-2015-10, Federal Reserve Bank of Chicago.

    More about this item

    JEL classification:

    • E17 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Forecasting and Simulation: Models and Applications
    • E31 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Price Level; Inflation; Deflation
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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