Working Paper: NBER ID: w23304
Authors: Olivier Coibion; Yuriy Gorodnichenko; Rupal Kamdar
Abstract: This paper argues for a careful (re)consideration of the expectations formation process and a more systematic inclusion of real-time expectations through survey data in macroeconomic analyses. While the rational expectations revolution has allowed for great leaps in macroeconomic modeling, the surveyed empirical micro-evidence appears increasingly at odds with the full-information rational expectation assumption. We explore models of expectation formation that can potentially explain why and how survey data deviate from full-information rational expectations. Using the New Keynesian Phillips curve as an extensive case study, we demonstrate how incorporating survey data on inflation expectations can address a number of otherwise puzzling shortcomings that arise under the assumption of full-information rational expectations.
Keywords: expectations; inflation; surveys
JEL Codes: E3; E4; E5
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Incorporation of survey data on inflation expectations (E39) | Resolution of empirical puzzles associated with the New Keynesian Phillips Curve (NKPC) (E12) |
| Survey-based expectations (C83) | Better capture of inflation's response to economic slack (E31) |
| Survey-based expectations (C83) | Mitigation of sensitivity of the Phillips curve to the choice of slack variable (E31) |
| Household expectations of inflation (D19) | Better predictive power for modeling the Phillips curve (C54) |