Interpreting Long-run Equilibrium Solutions in Conventional Macro Models: A Comment

David Hendry and Adrian J Neale

Economic Journal, 1988, vol. 98, issue 392, 808-17

Abstract: C. M. Kelly (1985) claims that long-run solutions from econometric models may be seriously misleading when expectations variables are erroneou sly replaced by observed outcomes. It is shown that his results deriv e uniquely from an invalid exogeneity assumption. All inferences are therefore potentially invalid, illustrated by a case where the long-r un is correct while the short-run is biased. Using an encompassing fr amework, error-variance rankings and related tests distinguishing exp ectational from conditional models are derived for stationary cases. For nonstationary integrated series, the long-run will be correctly e stimated when the data are cointegrated, whereas the short-run remain s biased. Copyright 1988 by Royal Economic Society.

Date: 1988
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