Jan-Oliver Menz: Behavioural Macroeconomics and the New Keynesian model

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Behavioural Macroeconomics and the New Keynesian model

29 pp.
4.53 EUR
(October 2009)

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In “Behavioural Macroeconomics and the New Keynesian model” Jan-Oliver Menz makes use of recent advances in Behavioural Economics in order to improve the now standard New Keynesian macroeconomic model. The contribution of the chapter is twofold. First, it summarizes the state of the art of the ongoing research in the standard New Keynesian model. It is shown that a range of questions remains unanswered, concerning especially the explanation of serial correlation and the (longrun) effects of macroeconomic policy. So far, the extensions proposed to overcome these problems have not yet been fully convincing, the author argues. Second, hyperbolic discounting is used for the derivation of the New Keynesian IS curve. Menz holds that for analytical simplicity, both a finite and an infinite time horizon can be useful. He also emphasizes the fact that one either has to assume perfect financial markets or allow for capital accumulation in order to be able to derive consumption smoothing in the model. Concerning the results, it is shown that using hyperbolic discounting in a New Keynesian macroeconomic model reduces the forward-looking behaviour of agents and leads to a closer comovement of income and consumption. These results are similar to the widely used rule-of-thumbs; however, they follow from an explicit microeconomic framework. Finally it is argued that that using Behavioural Economics in macroeconomic models is a promising approach which deserves further research.

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