Macroeconomic Expectations and Cognitive Noise

Yeji Sung

No 2024-19, Working Paper Series from Federal Reserve Bank of San Francisco

Abstract: This paper examines forecast biases through cognitive noise, moving beyond the conventional view that frictions emerge solely from using external data. By extending Sims’s (2003) imperfect attention model to include imperfect memory, I propose a framework where cognitive constraints impact both external and internal information use. This innovation reveals horizon-dependent forecast sensitivity: short-term forecasts adjust sluggishly while long-term forecasts may overreact. I explore the macroeconomic impact of this behavior, showing how long-term expectations, heavily influenced by current economic conditions, heighten inflation volatility. Moreover, structural estimation indicates that neglecting imperfect memory critically underestimates the informational challenges forecasters encounter.

Keywords: information frictions; rational inattention; business cycle fluctuations (search for similar items in EconPapers)
JEL-codes: D84 E32 E71 G41 (search for similar items in EconPapers)
Pages: 78
Date: 2024-06-14
New Economics Papers: this item is included in nep-neu
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DOI: 10.24148/wp2024-19

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