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Bounded Rationality and Strategic Complementarity in a Macroeconomic Model: Policy Effects, Persistence and Multipliers

  • Antulio N. Bomfim
  • Francis X. Diebold

Motivated by recent developments in the bounded rationality and strategic complementarity literatures, we examine an intentionally simple and stylized aggregative economic model, when the assumptions of fully rational expectations and no strategic interactions are relaxed. We show that small deviations from rational expectations, taken alone, lead only to small deviations from classical policy- ineffectiveness, but that the situation can change dramatically when strategic complementarity is introduced. Strategic complementarity magnifies the effects of even small departures from rational expectations, producing equilibria with policy effectiveness, output persistence and multiplier effects.

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Paper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 5482.

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Date of creation: Mar 1996
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Publication status: published as Economic Journal, Vol. 107 (1997): 1358-1375.
Handle: RePEc:nbr:nberwo:5482
Note: EFG
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