We argue that standard modeling practice overstates the potency of general-equilibrium (GE) mechanisms. We formalize the notion that GE adjustment is weak, or that it takes time, by modifying an elementary Walrasian economy in two alternative manners. In one, we replace Rational-Expectations Equilibrium with cognitive processes that mimic, inter alia, Tatonnement dynamics or Level-k Thinking. In the other, we maintain rational expectations but remove common knowledge of aggregate shocks. This permits us, not only to illustrate the broader plausibility of the sought after notion of GE attenuation, but also to elaborate on the sense in which our preferred approach--removing common knowledge--can be seen as a disciplined substitute to certain kinds of bounded rationality. We discuss possible applications, including how our results may help reduce the gap between the macroeconomic effects of interest and the micro or local elasticities that a growing empirical literature estimates in the cross section.
↧