Learning and judgment shocks in U.S. business cycles

James Murray

MPRA Paper from University Library of Munich, Germany

Abstract: This paper examines the role of judgment shocks in combination with other structural shocks in explaining post-war economic volatility within the context of a New Keynesian model. Agents form expectations using constant gain learning then augment these forecasts with judgment. These judgments may be interpreted as a reaction to current news stories or policy announcements that would influence people's expectations. I allow for the possibility that these judgments be informatively based on information about structural shocks, but judgment itself may also be subject to its own stochastic shocks. I estimate a standard New Keynesian model that includes these shocks using Bayesian simulation methods. To aid in identifying expectational shocks from other structural shocks I include data on professional forecasts along with data on output gap, inflation, and interest rates. I find judgment is largely not informed by macroeconomic fundamentals; most of the variability in judgment is explained by its own stochastic shocks. Impulse response functions from the estimated model illustrate how shocks to judgment destabilize the economy and explain business cycle fluctuations.

Keywords: Learning; judgment; add-factors; New Keynesian model; Metropolis-Hastings (search for similar items in EconPapers)
JEL-codes: C13 E31 E32 E50 (search for similar items in EconPapers)
Date: 2011-03-02
New Economics Papers: this item is included in nep-cba and nep-mac
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Persistent link: https://EconPapers.repec.org/RePEc:pra:mprapa:29257

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