Fiscal Policy and Learning

Seppo Honkapohja, George Evans and Kaushik Mitra

No 8891, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: What is the impact of surprise and anticipated policy changes when agents form expectations using adaptive learning rather than rational expectations? We examine this issue using the standard stochastic real business cycle model with lump-sum taxes. Agents combine knowledge about future policy with econometric forecasts of future wages and interest rates. Both permanent and temporary policy changes are analyzed. Dynamics under learning can have large impact effects and a gradual hump-shaped response, and tend to be prominently characterized by oscillations not present under rational expectations. These fluctuations reflect periods of excessive optimism or pessimism, followed by subsequent corrections.

Keywords: Expectations; Government spending; Permanent and temporary policy changes; Taxation (search for similar items in EconPapers)
JEL-codes: D84 E21 E43 E62 (search for similar items in EconPapers)
Date: 2012-03
New Economics Papers: this item is included in nep-dge
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Citations: View citations in EconPapers (8)

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Working Paper: Fiscal Policy and Learning (2012)
Working Paper: Fiscal policy and learning (2012)
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