LEARNING ABOUT REGIME CHANGE

Total factor productivity (TFP) and investment specific technology (IST) growth both exhibit regime-switching behavior, but the regime at any given time is difficult to infer. We build a rational expectations real business cycle model where underlying TFP IST regimes are unobserved. develop general perturbation solution algorithm for wide class of models with unobserved regime-switching. Using our method, we show learning about fits data, affect responses shifts intraregime shocks, increase asymmetries in responses, generate forecast error bias even agents, raise welfare cost fluctuations.