Skip to main content

Rational Expectations Forecasts From Nonrational Models

Staff Report 19 | Published April 1, 1978

Download PDF


Rational Expectations Forecasts From Nonrational Models


This paper puts forward a method of policy simulation with an existing macroeconometric model under the maintained assumption that individuals form their expectations rationally. This new simulation technique grows out of Lucas’ criticism that standard econometric policy evaluation permits policy rules to change but doesn’t allow expectations mechanisms to respond as economic theory predicts they will. The technique is applied to versions of the St. Louis Federal Reserve model and the Federal Reserve-MIT-Penn (FMP) model to simulate the effects of different constant money growth policies. The results of these simulations indicate that the problem identified by Lucas may be of great quantitative importance in the econometric analysis of policy alternatives.

Published in: _Journal of Monetary Economics_ (Vol. 5, No. 1, January 1979, pp. 67-80)