A Macroeconomy with Intuitive Thinkers

Expectation formation is a key element in macroeconomic models. A large literature documents that individuals' expectations are often influenced not only by rational but also by intuitive thinking. In this paper, we propose a tractable dual-system framework in which expectations are formed by both types of thinking. The framework is versatile and can easily be integrated into DSGE models. As an application, we integrate it into a simple New Keynesian model and study the effect of an intuitive "stagflationary model" (higher inflation comes with lower output) that has been frequently found in the recent empirical literature. We derive impulse responses for an "intuitive thinking shock" and show how such a shock can have relatively persistent effects that resemble a supply shock, with no actual supply shock involved. We contribute to the development of tractable alternatives of fully rational expectations, and to the study of how non-fundamental factors can influence fluctuations in macroeconomic series.