Inferential expectations

Vol: 
12/2005
Author name: 
Menzies GD
Zizzo DJ
Year: 
2005
Month: 
June
Abstract: 

We propose that the formation of beliefs be treated as statistical hypothesis tests, and we label such beliefs inferential expectations. If a belief is overturned through the build-up of evidence, agents are assumed to switch to the rational expectation. Rational expectations are shown to be a special (limiting) case of inferential expectations, with the test size ‘a’ becoming a metric for rationality. We present the results of an experiment that supports inferential expectations. When inferential expectations are built into a Dornbusch-style model of the exchange rate, regression tests of Uncovered Interest Parity and the rational expectations version of the term structure both display downward bias in the slope coefficient.

Publication file: 

Updated:  31 August 2017/Responsible Officer:  Crawford Engagement/Page Contact:  CAMA admin