On Recent Behavioral DSGE Models

Abstract

With growing interest in the view that macroeconomics should incorporate departures from rationality, many economists have attempted to explain the economy by careful observation of individuals behavior. It is often assumed in standard macroeconomics that firms face fixed costs of changing prices that lead to sticky prices. Marketing surveys reveal, however, that the primary reason firms keep their prices rigid is due to the concern of antagonizing and thus losing their customers. In this paper we study recent behavioral economic models, in particular behavioral Dynamic Stochastic General Equilibrium (DSGE) models. To investigate the fitness of these behavioral price-setting models into the real economy, we estimate the log-linearized version of the behavioral price setting model from Rotemberg (2005) using Bayesian estimation methods. Then we compare the obtained estimation results to the Bayesian estimation results of the standard New Keynesian 3 equation model. The comparison of estimated results to the results of the standard New Keynesian model allowed us to conclude that when the steady state rate of inflation equals zero, the behavioral model and the standard New Keynesian model display similar impulse response patterns, albeit they exhibit some differences in the magnitude of the response. Moreover, when the steady state rate of inflation is positive, the behavioral and the standard New Keynesian model display strikingly similar impulse responses.