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Inadequate tests of the rationality of expectations

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  • Roy H. Webb

Abstract

In several recent articles, authors have regressed actual values of macroeconomic aggregates on predicted values and claimed that they were testing the rationality of expectations. This paper interprets those regressions as testing a joint hypothesis of imperfect information and rational expectations. An empirical method is proposed to separate the components of the joint hypothesis. Predictions from two major forecasting services are examined, and results are found that are consistent with rational expectations but inconsistent with the joint hypothesis. It is therefore argued that many purported tests of rational expectations are inadequate.

Suggested Citation

  • Roy H. Webb, 1984. "Inadequate tests of the rationality of expectations," Working Paper 84-07, Federal Reserve Bank of Richmond.
    • Handle: RePEc:fip:fedrwp:84-07
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    References listed on IDEAS

    as
    1. Friedman, Benjamin M., 1980. "Survey evidence on the `rationality' of interest rate expectations," Journal of Monetary Economics, Elsevier, vol. 6(4), pages 453-465, October.
    2. Brown, Bryan W & Maital, Shlomo, 1981. "What Do Economists Know? An Empirical Study of Experts' Expectations," Econometrica, Econometric Society, vol. 49(2), pages 491-504, March.
    3. Figlewski, Stephen & Wachtel, Paul, 1981. "The Formation of Inflationary Expectations," The Review of Economics and Statistics, MIT Press, vol. 63(1), pages 1-10, February.
    4. Benjamin M. Friedman, 1980. "Survey Evidence on The Rationality of Interest Rate Expectations," NBER Working Papers 0261, National Bureau of Economic Research, Inc.
    5. McNees, Stephen K, 1978. "The "Rationality" of Economic Forecasts," American Economic Review, American Economic Association, vol. 68(2), pages 301-305, May.
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