Regime Switches, Agents' Beliefs, and Post-World War II U.S. Macroeconomic Dynamics

Standard-Nutzungsbedingungen:Die Dokumente auf EconStor dürfen zu eigenen wissenschaftlichen Zwecken und zum Privatgebrauch gespeichert und kopiert werden.Sie dürfen die Dokumente nicht für öffentliche oder kommerzielle Zwecke vervielfältigen, öffentlich ausstellen, öffentlich zugänglich machen, vertreiben oder anderweitig nutzen.Sofern die Verfasser die Dokumente unter Open-Content-Lizenzen (insbesondere CC-Lizenzen) zur Verfügung gestellt haben sollten, gelten abweichend von diesen Nutzungsbedingungen die in der dort genannten Lizenz gewährten Nutzungsrechte. Terms of use: Documents in AbstractThis paper proposes a theory of the fiscal foundations of inflation based on imperfect knowledge and learning. The theory is similar in spirit to, but distinct from, unpleasant monetarist arithmetic and the fiscal theory of the price level. Because the assumption of imperfect knowledge breaks Ricardian equivalence, details of fiscal policy, such as the average scale and composition of the public debt, matter for inflation. As a result, fiscal policy constrains the efficacy of monetary policy. Heavily indebted economies with debt maturity structures observed in many countries require aggressive monetary policy to anchor inflation expectations. The model predicts that the Great Moderation period would not have been so moderate had fiscal policy been characterized by a scale and composition of public debt now witnessed in some advanced economies in the aftermath of the 2007-09 global recession.

Section: Discussionmentioning

confidence: 99%

Fiscal Foundations of Inflation: Imperfect Knowledge

Eusepi

Preston

2013

“…Markov-switching models have recent comeback in studying regime changes in monetary and fiscal policy under DSGE framework, see e.g. Davig and Leeper (2005), Sims and Zha (2006), Davig and Leeper (2008), Liu, Waggoner, andZha (2011), Chen andMacdonald (2012), Bianchi (2012), Foerster (2013, among others. This line of research focuses on macro-states of the system, with the quantification of the system change on macro-level by transition matrix.…”

Section: Related Literaturementioning

confidence: 99%

Stock-Flow Dynamic Projection

Gallegati

2015

Borrowing from our experience in agent-based computational economic research from 'bottom-up', this paper considers economic system as multilevel dynamical system that micro-level agents' interaction leads to structural transition in meso-level, which results in macro-level market dynamics with endogenous fluctuation or even market crashes. By the concept of transition matrix, we develop technique to quantify meso-level structural change induced by micro-level interaction. Then we apply this quantification to propose the method of dynamic projection that delivers outof-sample forecast of macro-level economic variable from micro-level big data. We testify this method with a data set of financial statements for 4599 firms listed in Tokyo Stock Exchange for the year of 1980 to 2012. The Diebold-Mariano test indicates that the dynamic projection has significantly higher accuracy for one-period-ahead out-of-sample forecast than the benchmark of ARIMA models.

“…Two strong assumptions commonly underlie such exercises: agents are initially unaware of possible policy changes, and agents become immediately aware of the new policy rule once it is implemented. Work on Markov-switching DSGE models, such as Bianchi (2013) and Liu, Waggoner, and Zha (2011), dispenses of the first assumption, but retains the second. As Sargent (2015) highlights, these assumptions represent different economic theories about how firms and households in our models react to policy changes.…”

Section: Thomas J Sargent Points Of Departurementioning

confidence: 99%

Tales of Transition Paths: Policy Uncertainty and Random Walks

Hollmayr

Matthes

2015

Reproduction permitted only if source is stated.ISBN 978-3-95729-153-0 (Printversion) Non-technical summary Research QuestionWhat happens when fiscal and/or monetary policy rules change dramatically? According to the predominant economic theory, rational agents, i.e. firms and households realize the magnitude of those policy changes immediately. We put forth another economic theory and model agents with incomplete information about those policy rules. We are specifically interested in the arising transition dynamics from one policy regime to the next and the difference with respect to the full information setup. ContributionWe study two stylized examples of policy transitions: one is motivated by the Volcker disinflation and studies the change of a monetary policy rule from a situation which would imply indeterminacy under full-information rational expectations to values which imply determinacy. The second example we look at is a transition from a regime of monetary dominance to one of fiscal dominance. ResultsA key result of this paper is that random walk-like behavior can endogenously arise in those models which under full information, would only feature stationary dynamics. In the first example, economic agents might believe that equilibrium indeterminacy persists for substantial periods and, in the second example, agents are led to believe that the economy is temporarily explosive. We show that under uncertainty the latter policy scenario implies behavior of inflation and debt that is in line with observations since the financial crisis: random walk-like behavior for debt, but also low and stable inflation. Due to the fact that economic outcomes are different once we model a slight deviation from full information rational expectations, policy conclusions from mainstream models should be evaluated with some caution. We construct a DSGE model in which agents have to estimate fiscal and monetary policy rules and assess how uncertainty surrounding the conduct of policymakers influences transition paths after policy changes. We find that policy changes of the magnitude often considered in the literature can lead private agents to hold substantially different views about the nature of equilibrium than would be predicted by a full information analysis. In particular, random walk-like behavior can be observed for a large number of periods in equilibrium, even though the models we use admit stationary dynamics under full-information rational expectations.