Subjective Models of the Macroeconomy: Evidence From Experts and a Representative Sample

From a new working paper:

“We propose a method to measure people’s subjective models of the macroeconomy. Using a representative sample of the US population and a sample of experts we study how expectations about the unemployment rate and the inflation rate change in response to four different hypothetical exogenous shocks: a monetary policy shock, a government spending shock, a tax shock, and an oil price shock. While expert predictions are mostly quantitatively aligned with standard dynamic stochastic general equilibrium models and vector auto-regression evidence, there is strong heterogeneity in the predictions in the representative panel. While households predict changes in unemployment that are qualitatively in line with the experts for all four shocks, their predictions of changes in inflation are at odds with those of experts both for the tax shock and the interest rate shock. People’s beliefs about the micro mechanisms through which the different macroeconomic shocks are propagated in the economy strongly affect how aligned their predictions are with those of the experts. More educated and older respondents form their expectations more in line with experts, consistent with roles for cognitive limitations and learning over the life-cycle. Our findings inform the validity of central assumptions about the expectation formation process and have important implications for the optimal design of fiscal and monetary policy.”

Posted by at 10:33 PM

Labels: Forecasting Forum

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