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Recent studies show that the estimated parameters of rational expectations dynamic stochastic general equilibrium models of the business cycle are largely time-varying. This paper shows that assuming adaptive learning (rather than rational expectations) strongly reduces the estimated parameter variability of standard models (by around 75%). Moreove...

## Context in source publication

**Context 1**

... the correlation coefficients between real and nominal variables were negative until the early 1980's, but became positive in the two recent decades as shown in Figure 1. The time-varying correlation between inflation and hours worked is shown in Figure 3. All models do a reasonable job in reproducing the dynamic swings in this correlation statistic. ...

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## Citations

... This paper evaluates the relative importance of alternative structural shocks during the periods surrounding three major US recessions by using the medium-scale DSGE model of Smets and Wouters (2007) augmented with the financial accelerator of Bernanke, Gertler and Gilchrist (1999). 2 As such, this paper can be viewed as a test of the standard New-Keynesian DSGE model with financial accelerator in closed economies in assessing its ability to characterize different economic episodes. We consider this benchmark specification since we want to keep the model as standard as possible and versions of this model have been extensively used in the related literature. ...

... In the same vein, Reis (2018) provides a critical assessment of the state of macroeconomics by responding to some of the negative views on what is the trouble with macroeconomics stated in Stiglitz (2018), among others. 2 Del Negro and Schorfheide (2013) show that this DSGE model with this type of financial frictions would have done a much better job forecasting the dynamics of real GDP growth and inflation during the Great Recession than the DSGE model without financial frictions. 3 See, among others, Christiano, Motto and Rostagno (2003) for assessing the Friedman-Schwartz hypothesis that a more accommodative monetary policy could have mitigated the severity of the Great Depression; Christiano, Motto and Rostagno (2014) for analyzing the importance of risk shocks in the Great Recession; De Graeve (2008) for obtaining a measure of the external finance premium; Villa (2016) for evaluating alternative approaches of incorporating financial frictions in a DSGE model; and Rychalowska (2016) for studying how bounded rationality modify the implications of financial frictions for the real economy. ...

We revisit three major US recessions through the lens of a standard medium-scale DSGE model (Smets and Wouters, 2007) augmented with financial frictions. We first estimate the DSGE model using a Bayesian approach for three alternative periods, each containing a major US recession: the Great Depression, the Stagflation and the Great Recession. Then, we assess the stability of structural parameters, and analyze what frictions were particularly important and what shocks were the main drivers of aggregate fluctuations in each historical period. This exercise can be understood as a test of the standard New-Keynesian DSGE model with financial accelerator in closed economies. We find that the estimated DSGE model is able to provide a sound explanation of all three recessions by closely relating both estimated structural shocks and frictions with well known economic events. JEL classification: E30, E44

The slope of the yield curve has long been found to be a useful predictor of future economic activities, but the relationship is unstable. One change we have identified in this paper is that, between the early 1990s and the collapse of the housing market in 2007, movements at the long end of the yield curve have an increase in predictive power. We use a medium-scale DSGE model with a housing sector and a yield curve as a guide to find out the sources of such change. The model implies that an increase in the short-term interest rate and a decrease in the long-term interest rate have different impacts on the economy, and to use the slope as a predictor one needs to distinguish movements at the two ends of the yield curve. Based on simulated data from the model, we find that nominal wage rigidities and the capital adjustment costs are closely related to the predictive power of the yield curve. This result is further confirmed with actual data.

We revisit three major US recessions through the lens of a standard medium-scale DSGE model (Smets, F., and R. Wouters. 2007. “Shocks and Frictions in US Business Cycles: A Bayesian DSGE Approach.” The American Economic Review 97: 586–606.) augmented with financial frictions. We first estimate the DSGE model using a Bayesian approach for three alternative periods, each containing a major US recession: the Great Depression, the Stagflation and the Great Recession. Then, we assess the stability of structural parameters, and analyze what frictions were particularly important and what shocks were the main drivers of aggregate fluctuations in each historical period. This exercise can be understood as a test of the standard New-Keynesian DSGE model with financial accelerator in closed economies. We find that the estimated DSGE model is able to provide a sound explanation of all three recessions by closely relating both estimated structural shocks and frictions with well known economic events.

This paper evaluates several small open economy DSGE models and the impact of external shock spillovers on small open economies. We investigate five small economies (the UK, Australia, Canada, New Zealand and Taiwan) and find that the welfare consequences vary depending on key domestic economic variables, and the best interest-rate rule varies across models. Then we examine the performances of the four types of models, a preferred result has been found in a model which considers the country risk premium, as the best rule could be obtained as long as the selected parameters are calibrated for particular economies.