Jang, TaeSeok and Sacht, Stephen (2012): Identification of Animal Spirits in a Bounded Rationality Model: An Application to the Euro Area.

PDF
MPRA_paper_37399.pdf Download (264kB)  Preview 
Abstract
In this paper, we empirically examine a heterogenous bounded rationality version of a hybrid NewKeynesian model. The model is estimated via the simulated method of moments using Euro Area data from 1975Q1 to 2009Q4. It is generally assumed that agents' beliefs display waves of optimism and pessimism  so called animal spirits  on future movements in the output and inflation gap. Our main empirical findings show that a bounded rationality model with cognitive limitation provides fits for auto and crosscovariances of the data which are slightly better than or equal to a model where rational expectations are assumed. This implies that the bounded rationality model provides some structural insights on the expectation formation process at the macrolevel for the Euro Area. First, over the whole time interval the agents had expected moderate deviations of the future output gap from its steady state value with low uncertainty. Second, we find strong evidence for an autoregressive expectation formation process regarding the inflation gap. Both observations explain a high degree of persistence in the output gap and the inflation gap.
Item Type:  MPRA Paper 

Original Title:  Identification of Animal Spirits in a Bounded Rationality Model: An Application to the Euro Area 
Language:  English 
Keywords:  Animal Spirits; Bounded Rationality; Euro Area; NewKeynesian Model; Simulated Method of Moments 
Subjects:  E  Macroeconomics and Monetary Economics > E1  General Aggregative Models > E12  Keynes ; Keynesian ; PostKeynesian C  Mathematical and Quantitative Methods > C5  Econometric Modeling > C53  Forecasting and Prediction Methods ; Simulation Methods E  Macroeconomics and Monetary Economics > E3  Prices, Business Fluctuations, and Cycles > E32  Business Fluctuations ; Cycles D  Microeconomics > D8  Information, Knowledge, and Uncertainty > D83  Search ; Learning ; Information and Knowledge ; Communication ; Belief ; Unawareness 
Item ID:  37399 
Depositing User:  Stephen Sacht 
Date Deposited:  16. Mar 2012 17:40 
Last Modified:  14. Mar 2015 16:51 
References:  Ahrens, S. and Sacht, S. (2012): Estimating a HighFrequency New Key nesian Phillips Curve, Kiel Working Paper 1686, Kiel Institute for the World Economy, March 2012. Akerlof, G. and Shiller, R. (2009): Animal Spirits. How Human Psy chology Drives the Economy and Why it Matters for Global Capitalism, New Jersey: Princeton University Press. Andrews, D. (1991): Heteroscedasticity and autocorrelation consistent covariance matrix estimation, Econometrica, Vol. 59, pp. 817–858. Ascari, G. and Ropele, T. (2009): Trend Inflation, Taylor Principle, and Indeterminacy, Journal of Money, Credit and Banking, Vol. 41 (8), pp. 1557–1584. AssenmacherWesche, K. and Gerlach, S. (2008): Interpreting Euro Area Inflation at High and Low Frequencies, European Economic Review, Vol. 52, pp. 964–986. Binder, M. and Pesaran, M.H. (1995), Multivariate rational expectations models and macroeconomic modelling: A review and some new results. In: Pesaran, M.H. and Wickens, M. (ed.), Handbook of Applied Econometrics: Macroeconomics, Oxford: Basil Blackwell, pp. 139–187. Camerer, C. (1998): Bounded Rationality in Individual Decision Making, Ex perimental Economics, Vol. 1, pp. 166–183. Castelnuovo, E. (2010): Trend Inflation and Macroeconomic Volatilities in the Post WWII U.S. Economy, North American Journal of Economics and Fi nance, Vol. 21, pp. 19–33. Chari, V. V., Kehoe, P. J. and Mcgrattan, E. R. (2000): Sticky Price Models of the Business Cycle: Can the Contract Multiplier Solve the Persistence Problem?, Econometrica, Vol. 68 (5), pp. 1151–1179. Chiarella, C. and He, T. (2002): Heterogeneous Beliefs, Risk and Learning in a Simple Asset Pricing Model. Computational Economics, Vol. 19, pp. 95–132. Cogley, T. and Sbordonne, A.M. (2008): Trend Inflation, Indexation, and Inflation Persistence in the New Keynesian Phillips Curve, The American Eco nomic Review, Vol. 98 (5), pp. 2101–2126. Cogley, T. Primiceri, G. E. and Sargent, T. J. (2010), InflationGap Persistence in the US, American Economic Journal: Macroeconomics, Vol. 2(1), pp. 43–69. Colander, D., Fllmer, H., Haas, A., Goldberg, M., Juselius, K., Kirman, A., Lux, T. and Sloth, B. (2009): The Financial Crisis and the Systemic Failure of Academic Economics, Critical Review: A Journal of Poli tics and Society, Vol. 21 (23), pp. 249–267. Davidson, R. and MacKinnon, G. (2004), Econometric Theory and Meth ods, New York: Oxford University Press. De Grauwe, P. (2011): Animal Spirits and Monetary Policy , Economic The ory, Vol. 47(2–3), pp. 423–457. Duffie, D. and Singleton, K. (1993): Simulated Moments Estimation of Markov Models of Asset Prices, Econometrica, Vol. 61(4), pp. 929–952. Evans, G. and Honkapohja, S. (2001): Learning and Expectations in Macroe conomics, New Jersey: Princeton University Press. Fagan, G., Henry, J. and Mestre, R. (2001): An Area Wide Model (AWM) for the Euro Area, ECB working paper 42. Forsells, M. and Kenny, G. (2004): Survey Expectations, Rationality and the Dynamics of Euro Area Inflation, Journal of Business Cycle Measurement and Analysis, Vol. 2004(1), pp. 13–41. Franke, R. (2012): Microfounded Animal Spirits in the New Macroeconomic Consensus, Studies in Nonlinear Dynamics and Econometrics, forthcoming. Franke, R., Jang, T.S. and Sacht, S. (2011): Moment Matching ver sus Bayesian Estimation: Backward–Looking Behaviour in the NewKeynesian ThreeEquations Model, Economics Working Paper 2011–10, Department of Economics, ChristianAlbrechtsUniversity of Kiel, Oktober 2011. Hommes, H. (2006): Heterogeneous Agent Models in Economics and Finance, in: Tesfatsion, L. and Judd, K.(ed.), Handbook of Computational Economics, Vol. 2, Chapter. 23, pp. 11091186. Hommes, C. (2011): The Heterogeneous Expectations Hypothesis: Some Evidence from the Lab, Journal of Economic Dynamics and Control, Vol. 35 (1), pp. 1–24. Jang, T.S. (forthcoming): A Comparison between Models of Market Behav iors: A Formal Test to NewKeynesian ThreeEquations and Structural Stochas tic Volatility Models, Advances in Econometrics, Vol. 28, forthcoming. Kahneman, D. (2003): Maps of Bounded Rationality: Psychology for Behavioral Economics, The American Economic Review, Vol. 93(5), pp. 1449–1475. Keynes, J. M. (1936): The General Theory of Employment, Interest and Money, Macmillan Cambridge University Press. Lee, B. S. and Ingram, B. (1991): Simulation estimation of timeseries models, Journal of Econometrics, Vol. 47(23), pp. 197–205. Lengnick, M. and Wohltmann, H.W. (2011): Agentbased Financial Mar kets and New Keynesian Macroeconomics  A Synthesis, Economics Working Paper 2011–09, Department of Economics, ChristianAlbrechtsUniversity of Kiel, September 2011. Lux, T. (2009): Rational Forecasts or Social Opinion Dynamics? Identification of Interaction Effects in a Business Climate Survey, Journal of Economic Behavior and Organization, Vol. 72(2), pp. 638–655. Mankiw, N.G. and Reis, R. (2002): Sticky Information Versus Sticky Prices: A Proposal to Replace the New Keynesian Phillips Curve, The Quarterly Journal of Economics, Vol. 117(4), pp. 1295–1328. Newey, W. and West, K. (1987): A Simple Positive SemiDefinite, Heteroscedasticity and Autocorrelation Consistent Covariance Matrix, Economet rica, Vol. 55, pp. 703–708. Newey, W. and West, K. (1994): Automatic Lag Selection in Covariance Matrix Estimation, Review of Economic Studies, Vol. 61(4), pp. 631–53. Russell, B. and Banerjee, A. (2008): The Longrun Phillips Curve and Nonstationary Inflation, Journal of Macroeconomics, Vol. 30, pp.17921815. Sargent, T.J. (1994): Bounded Rationality in Macroeconomics, New York: Oxford. Selten, R. (2001): What is Bounded Rationality?, in: Gigerenzer, G. and Selten, R. (Ed.) (2001): Bounded rationality: The adaptive toolbox, Cambridge: The MIT Press, pp. 13–36. Shiller, R. (1978): Rational Expectations and the Dynamic Structure of Macroeconomic Models: A Critical Review, Journal of Monetary Economics, Vol. 4(1), pp. 1–44. Sims, C. (2003): Implications of Rational Inattention, Journal of Monetary Economics, Vol. 50(3), pp. 665–690. Smets, F. and Wouters, R. (2003): An Estimated Dynamic Stochastic General Equilibrium Model of the Euro Area, Journal of the European Economic Association, Vol. 1, pp. 1123–1175. Smets, F. and Wouters, R. (2005): Comparing Shocks and Frictions in US and Euro Area Business Cycles: a Bayesian DSGE Approach, Journal of Applied Econometrics, Vol. 20(2), pp. 161–183. Smets, F. and Wouters, R. (2007): Shocks and frictions in US business cycles: A Bayesian DSGE approach, American Economic Review, Vol. 97, pp. 586–606. Westerhoff, F. (2008): The Use of AgentBased Financial Market Models to Test the Effectiveness of Regulatory Policies, Journal of Economics and Statis tics, Vol. 228, pp. 195–227. 
URI:  https://mpra.ub.unimuenchen.de/id/eprint/37399 