Rational Expectations in a VAR with Markov Switching

No 627, Seminar Papers from Stockholm University, Institute for International Economic Studies

Abstract: This paper shows how a well known class of rational expectations hypotheses using linear vector autoregressions (VAR:s) can be extended to allow for unobservable Markov switching. The regime shift model used falls into the general framework of Hamilton (1990), but differs to the centered model actually implemented by Hamilton and others. The model here has the advantage that it is easier to estimate, and the intuitive appeal that the state dependence is symmetric. The contribution of the paper is to derive testable restrictions implied by rational expectations, which are linear when the forecast horizon is infinite. The restrictions on the autoregressive parameters are the same as those that appear in the centered model. As an illustration, we duplicate a test of the expectations hypothesis (EH) in Sola & Driffill (1994) on 3 and 6 month US bills on quarterly data, and find that their results may be fragile.

Keywords: VAR; Markov chain; regime switching; rational expectations; expectations hypothesis (search for similar items in EconPapers)
JEL-codes: C12 C32 (search for similar items in EconPapers)
Pages: 37 pages
Date: 1997-10-31
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

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Related works:
Working Paper: Rational Expectations in a VAR with Markov Switching (1997)
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Persistent link: https://EconPapers.repec.org/RePEc:hhs:iiessp:0627

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