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The rationality of expectations formation and excess volatility

Julio Dávila

Documents de travail du Centre d'Economie de la Sorbonne from Université Panthéon-Sorbonne (Paris 1), Centre d'Economie de la Sorbonne

Abstract: I establish, in simple deterministic overlapping generations economies, that if each agent holds rationally formed expectations in the sense that any other expectations justifying his choices imply a smaller likelihood for the history he observes with limited memory, then there are rationally formed expectations equilibria exhibiting an excess volatility that no rational expectations equilibrium can match. Given that the limited records or finite memory case may arguably be the relevant one from a positive viewpoint, this result suggests that the possibility of excess volatility as an equilibrium phenomenon has been downplayed by the use of the rational expectations hypothesis

Keywords: Expectations; rationality; volatility (search for similar items in EconPapers)
JEL-codes: D51 D84 D91 (search for similar items in EconPapers)
Pages: 23 pages
Date: 2008-02
New Economics Papers: this item is included in nep-dge, nep-hpe and nep-upt
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ftp://mse.univ-paris1.fr/pub/mse/CES2008/B08019.pdf (application/pdf)

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Working Paper: The rationality of expectations formation and excess volatility (2008) Downloads
Working Paper: The rationality of expectations formation and excess volatility (2008) Downloads
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Persistent link: https://EconPapers.repec.org/RePEc:mse:cesdoc:b08019

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