Subjective temporary equilibrium
This paper introduces, within the framework of a simple example, the notion of a subjective temporary equilibrium. The underlying relation linking forecasts to equilibrium values of the state variable is linear. However, agents perceive a non-linear law that governs the rate of adjustment between su...
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| Format: | text |
| Language: | English |
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Institutional Knowledge at Singapore Management University
2004
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| Online Access: | https://ink.library.smu.edu.sg/soe_research/1884 |
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| Institution: | Singapore Management University |
| Language: | English |
| Summary: | This paper introduces, within the framework of a simple example, the notion of a subjective temporary equilibrium. The underlying relation linking forecasts to equilibrium values of the state variable is linear. However, agents perceive a non-linear law that governs the rate of adjustment between successive periods and forecast using linear approximations to the non-linear law of motion. This is shown to generate a non-linear law of motion for the state variable with the feature that the agent's model describes correctly the period wise evolution of the economy. The resulting non-linear law of motion is referred to as a subjective temporary equilibrium as its specification is determined largely by the subjective beliefs of the agents regarding the dynamics of the system. lit a subjective equilibrium, agents forecasts are generated by taking linear approximations to a correctly specified law of motion and the forecasts may accordingly be interpreted as being boundedly rational in a first-order sense. There exist specifications that admit the possibility of cyclical behaviour. |
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