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Inferential Expectations

  • Gordon D. Menzies

    ()

  • Daniel John Zizzo

We propose that the formation of beliefs be treated as statistical hypothesis tests, and we label such beliefs inferential expectations. If a belief is overturned through the build-up of evidence, agents are assumed to switch to the rational expectation. Rational expectations are shown to be a special (limiting) case of inferential expectations, with the test size alpha becoming a metric for rationality. We present the results of an experiment that supports inferential expectations. When inferential expectations are built into a Dornbusch-style model of the exchange rate, regression tests of Uncovered Interest Parity and the rational expectations version of the term structure both display downward bias in the slope coefficient.

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Paper provided by Centre for Applied Macroeconomic Analysis, Crawford School of Public Policy, The Australian National University in its series CAMA Working Papers with number 2005-12.

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Length: 42 pages
Date of creation: Jun 2005
Date of revision:
Handle: RePEc:een:camaaa:2005-12
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