Walk on the wild side: Temporarily unstable paths and multiplicative sunspots

Guido Ascari, Paolo Bonomolo, Hedibert F. Lopes

Research output: Contribution to journalArticlepeer-review

9 Scopus citations

Abstract

We propose a generalization of the rational expectations framework to allow for temporarily unstable paths. Our approach introduces multiplicative sunspot shocks and it yields drifting parameters and stochastic volatility. Then, we provide an econometric strategy to estimate this generalized model on the data. The methodology allows the data to choose between different possible alternatives: determinacy, indeterminacy, and temporary instability. We apply our methodology to US in?ation dynamics in the 1970s through the lens of a simple New Keynesian model. When temporarily unstable paths are allowed, the data unambiguously select them to explain the stag?ation period in the 1970s.

Original languageEnglish (US)
Pages (from-to)1805-1842
Number of pages38
JournalAmerican Economic Review
Volume109
Issue number5
DOIs
StatePublished - May 2019
Externally publishedYes

ASJC Scopus subject areas

  • Economics and Econometrics

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