Evolving Heterogeneous Expectations and Macroeconomic Stabilization Policy

We postulate two forecasting heuristics (one based on the observed value of macroeconomic variables, the other anchored to the official target values of these variables) in a demand-led macrodynamic model in which expectations are relatively autonomous from the underlying structure of the economy. Private-sector decision makers display weaker or stronger attachment to their chosen forecasting heuristic at any point in time, and switch between the two heuristics based on satisficing evolutionary dynamics. We show that convergence towards an equilibrium consistent with the level of output and rate of inflation targeted by policy makers is possible even with noisy satisficing evolutionary dynamics guiding agents` choice of output and inflation forecasting strategies. But instability cannot be ruled out. An important finding is that monetary policy interventions that move faster than private-sector expectational dynamics reduce the prospects of instability, so that the timeliness (as well as the conduct) of policy interventions matters for stabilization policy.