The Finnish rational expectations QMED model : estimation, dynamic properties and policy results

Abstract

This paper reports some policy experiments carried out with the QMED model of the Bank of Finland. These experiments illustrate the dynamic and long-run properties of this model. Thus, it is investigated how different temporary and permanent, random and nonrandom, shocks affect the cyclical path and long-run growth rate of total output. The main issue is, however, the role of expectations. Thus, we compare a static expectations version with two rational expectations versions of the model. These two versions differ in terms of the time horizon of expectations. When various policy simulations are carried out with these different versions - both in terms of anticipated and unanticipated shocks - it turns out that the whole short-run dynamics is cruci ally affected by the way in which expectations are modelled. In particular, we find the advance effects in the case of the rati onal expectati ons versi ons can be af considerable magnitude.