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Learning the Ramsey outcome in a Kydland & Prescott economy

Jasmina Arifovic and Murat Yildizoglu

Journal of Economic Behavior & Organization, 2019, vol. 157, issue C, 191-208

Abstract: We study if adaptive learning by a Central Bank (CB) in the Kydland and Prescott environment can steer the economy to the Pareto-optimal outcome. Our CB evaluates its potential strategies regarding the announced and the actual inflation rate through expectations of the performance of these strategies, formed thanks to its mental model of the economy. This model is forward looking and adaptive at the same time. As a starting point, we follow Arifovic et al. (2010), and initially assume that there are two types of agents: Believers who set their inflation forecast equal to the announced inflation, and Non-believers who form static optimal forecast coupled with a forecast error correction mechanism. Our results show that the economy can reach near Ramsey outcomes most of the time. In the absence of Believers, the economies almost always converge to the Ramsey outcome.

Keywords: Learning in the Kydland–Prescott environment; Expectations; Artificial neural networks; Credibility of economic policies; Convergence to Nash equilibrium; Ramsey outcome (search for similar items in EconPapers)
JEL-codes: E50 C45 C72 D60 (search for similar items in EconPapers)
Date: 2019
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Working Paper: Learning the Ramsey outcome in a Kydland & Prescott economy (2014) Downloads
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