Individual Rationality and Learning: Welfare Expectations in East Germany Post-Reunification

Paul Frijters, John de New and Michael Shields

No 498, IZA Discussion Papers from Institute of Labor Economics (IZA)

Abstract: In this paper we test the Rational Expectations hypothesis using longitudinal data on expectations and realizations of individual welfare for East Germans in the years following reunification. German reunification was unexpected and delivered a large shock to the future prospects of the inhabitants of the former East Germany. We therefore take it as a 'natural' experiment through which to study the rationality of expectations. Our results show that East Germans significantly over-estimated the welfare gains immediately following reunification. The prediction error was largest for the young, the poorly educated and those with children. However, expectations and realizations of life satisfaction in East Germany had converged by 1995, at a level considerably below that of West Germans. We hence conclude that expectations were close to rational after the dust of reunification had settled, but that expectations are not likely to be rational in times of great transition or volatility.

Keywords: rational expectations; life satisfaction; welfare; learning; German reunification (search for similar items in EconPapers)
JEL-codes: C23 C25 I31 Z1 (search for similar items in EconPapers)
Pages: 23 pages
Date: 2002-05
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (2)

Published - published in: Canadian Journal of Economics, 2009, 42 (4), 1326 - 1346

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