Expectation Formation in a Cobweb Economy: Some One Person Experiments

Abstract

In economics expectations play an important role. In making decisions agents form expectations about future values of variables. Therefore, in any dynamic economic model, agents beliefs about the future have to be modeled. Do people form expectations using a simple rule of thumb or do they use a continually updated forecasting rule? Can people learn a rational expectations equilibrium? This paper describes experiments where we investigate how people form expectations in the simplest dynamic economic model, the cobweb model, without any knowledge of the underlying market equilibrium equations. We found that only about 35% of the subjects seemed to be able to learn the unique rational expectations equilibrium. We also found that many individuals deviate from rational expectations for long periods of time, sometimes with ‘systematic forecasting errors’.