Stability of Sunspot Equilibria under Adaptive Learning with Imperfect Information

This paper investigates whether sunspot equilibria are stable under agents’ adaptive learning with imperfect information sets of exogenous variables. Each exogenous variable is observable for a part of agents and unobservable from others so that agents’ forecasting models are heterogeneously misspecified. The paper finds that stability conditions of sunspot equilibria are relaxed or unchanged by imperfect information. In a basic New Keynesian model with highly imperfect information, sunspot equilibria are stable if and only if nominal interest rate rules violate the Taylor principle. This result is contrast to the literature in which sunspot equilibria are stable only if policy rules follow the principle, and is consistent with the observations during past business cycles fluctuations.