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Behavioral Learning Equilibria, Persistence Amplification & Monetary Policy

Listed author(s):
  • Hommes, C.H.

    ()

    (University of Amsterdam)

  • Zhu, M.

    ()

    (Shanghai University of Finance and Economics)

We generalize the concept of behavioral learning equilibrium (BLE) to a general high dimensional linear system and apply it to the standard New Keynesian model. Boundedly rational agents learn to use a simple AR(1) forecasting rule for each variable with parameters consistent with the observed sample mean and autocorrelation of past data. Agents do not fully recognize the more complex structure of the economy, but learn to use an optimal simple AR(1) rule. We find that BLE exists, under general stationarity conditions, typically with near unit root autocorrelation parameters. BLE thus exhibits a novel feature, persistence amplification: the persistence in inflation and output gap is much higher than the persistence in exogenous fundamental driving factors. In a boundedly rational world, coordination of individual expectations on an aggregate outcome described by our simple, parsimonious BLE seems more likely. We also consider monetary policy under BLE for different Taylor interest rate rules and study whether inflation and/or ouput gap targeting can stabilize coordination on near unit root BLE.

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File URL: http://cendef.uva.nl/binaries/content/assets/subsites/amsterdam-school-of-economics/amsterdam-school-of-economics-research-institute/cendef/working-papers-2016/ble_2016_aprilfinal.pdf?1460633720820
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Paper provided by Universiteit van Amsterdam, Center for Nonlinear Dynamics in Economics and Finance in its series CeNDEF Working Papers with number 16-03.

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Date of creation: 2016
Handle: RePEc:ams:ndfwpp:16-03
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Dept. of Economics and Econometrics, Universiteit van Amsterdam, Roetersstraat 11, NL - 1018 WB Amsterdam, The Netherlands

Phone: + 31 20 525 52 58
Fax: + 31 20 525 52 83
Web page: http://www.fee.uva.nl/cendef/
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