Escaping Nash inflation

Inkoo Cho and Thomas Sargent

No 23, Working Paper Series from European Central Bank

Abstract: Mean dynamics govern convergence to rational expectations equilibria of self-referential systems under least squares learning. We highlight escape dynamics that propel away from a rational expectations equilibrium under fixed-gain recursive learning schemes. These learning schemes discount past observations. In a model with a unique self-confirming equilibrium, we show that the destination of the escape dynamics is an outcome associated with government discovery of too strong a version of the natural rate hypothesis. That destination is not sustainable as a self-confirming equilibrium but is visited recurrently. The escape route dynamics cause recurrent outcomes close to the Ramsey (commitment) inflation rate in a model with an adaptive government. JEL Classification: E3, E52, E58

Keywords: adaptation; escape route; experimentation trap; large deviation; mean dynamics; natural rate of unemployment; self-confirming equilibrium (search for similar items in EconPapers)
Date: 2000-06
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Journal Article: Escaping Nash Inflation (2002)
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Persistent link: https://EconPapers.repec.org/RePEc:ecb:ecbwps:200023

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