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Federal Reserve Bank of San Francisco
Working Paper Series
Learning, adaptive expectations, and technology shocks
Kevin X. D. Huang
Zheng Liu
Tao Zha
Abstract

This study explores the macroeconomic implications of adaptive expectations in a standard real business cycle model. When rational expectations are replaced by adaptive expectations, we show that the self-confirming equilibrium is the same as the steady state rational expectations equilibrium for all admissible parameters, but that dynamics around the steady state are substantially different between the two equilibria. The differences are driven mainly by the dampened wealth effect and the strengthened intertemporal substitution effect, not by the escapes emphasized by Williams (2003). As a result, adaptive expectations can be an important source of frictions that amplify and propagate technology shocks and seem promising for generating plausible labor market dynamics.


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Kevin X. D. Huang & Zheng Liu & Tao Zha, Learning, adaptive expectations, and technology shocks, Federal Reserve Bank of San Francisco, Working Paper Series 2008-18, 2008.
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Keywords: Macroeconomics
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