The uncertainty of an economy's agents regarding the decisions of others results in macroeconomic risks. The assumption of rational behavior leads to multiple equilibria in many models and, thus, prevents them from being able to make a unique prediction. This is a particularly notable feature of models of speculative attacks, banking crises, price setting with price-adjustment costs, network investment, corporate refinancing, and price bubbles in financial markets.
With the advent of the theory of global games over the past few years, a new set of instruments has been developed with which the strategic uncertainty of agents regarding the behavior of others can be modeled. The theory of global games provides, under relatively general conditions, a unique prediction regarding the probabilities with which specific realizations of macroeconomic variables come to pass. As a consequence of this uniqueness, a functional relationship can be specified between exogenous parameters and the probability of specific realizations of endogenous variables. This, in turn, provides for the more accurate prediction of financial crises and gives insight regarding, e.g., optimal monetary policy with respect to the dampening of cyclical fluctuations, the fostering of innovative network technologies, and optimal information policy.
In recent years, experimental economics has increasingly sought to answer macroeconomic questions. Most notably, game-theoretic models of the impact of monetary policy have been tested in laboratory experiments. The gains from the observation of behavioral patterns in these experiments are twofold. On the one hand, these patterns serve to select among differing equilibrium concepts. On the other hand, systematic deviations of these patterns from the equilibrium predictions of a theory help to identify theoretical weaknesses, as these predictions should hold irrespective of the surroundings and, thus, should hold especially under laboratory conditions. The goals of this subproject are the further development of models of strategic uncertainty, the testing of the same experimentally, and the application of these models to the study of currency and banking crises and their macroeconomic consequences, to New Keynesian macroeconomic models, and to competition between trading platforms.