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Individual Expectations and Aggregate Macro Behavior

Author

Listed:
  • Tiziana Assenza
  • Peter Heemeijer
  • Cars Hommes
  • Domenica Massaro

Abstract

The way in which individual expectations shape aggregate macroeconomic variables is crucial for the transmission and effectiveness of monetary policy. We study the individual expectations formation process and the interaction with monetary policy, within a standard New Keynesian model, by means of laboratory experiments with human subjects. We find that a more aggressive monetary policy that sets the interest rate more than point for point in response to inflation stabilizes inflation in our experimental economies. We use a simple model of individual learning, with a performance-based evolutionary selection among heterogeneous forecasting heuristics, to explain coordination of individual expectations and aggregate macro behavior observed in the laboratory experiments. Three aggregate outcomes are observed: convergence to some equilibrium level, persistent oscillatory behaviour and oscillatory convergence. A simple heterogeneous expectations switching model fits individual learning as well as aggregate outcomes and outperforms homogeneous expectations benchmarks.

Suggested Citation

  • Tiziana Assenza & Peter Heemeijer & Cars Hommes & Domenica Massaro, 2011. "Individual Expectations and Aggregate Macro Behavior," DNB Working Papers 298, Netherlands Central Bank, Research Department.
    • Handle: RePEc:dnb:dnbwpp:298
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    References listed on IDEAS

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    Keywords

    Experiments; Monetary Policy; Expectations; Heterogeneity;

    JEL classification:

    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior
    • C92 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Group Behavior
    • E52 - Macroeconomics and Monetary Economics - - Monetary Policy, Central Banking, and the Supply of Money and Credit - - - Monetary Policy

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