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Government Policy and Probabilistic Equilibrium Selection

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  • Huberto Ennis

    (Cornell University)

  • Todd Keister

    (Centro de Investigacion Economica)

Abstract

We study an economy where search frictions create a coordination problem among agents - each agent wants to produce if and only if enough other agents are producing. This environment easily generates multiple Pareto-ranked equilibria. Our interest is in how likely it is that the economy will find its way to each of these equilibria when agents are learning about some fundamental parameters of the economy. Specifically, we study Bayesian learning and show how this process generates a probability distribution over the equilibrium set. We then study a particular type of demand-management policy that the government can use to encourage agents to engage in production. We show that this policy can make it more likely that the economy converges to the Pareto superior equilibrium, but that in the process it reduces the value of being in that equilibrium. Hence a tradeoff arises in this model between the likelihood of attaining a particular equilibrium and the value of being in it. We analyze this tradeoff in the context of a numerical example.

Suggested Citation

  • Huberto Ennis & Todd Keister, 2000. "Government Policy and Probabilistic Equilibrium Selection," Econometric Society World Congress 2000 Contributed Papers 1148, Econometric Society.
  • Handle: RePEc:ecm:wc2000:1148
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    References listed on IDEAS

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    13. Smith, Bruce D, 1994. "Efficiency and Determinacy of Equilibrium under Inflation Targeting," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 4(3), pages 327-344.
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