Adaptive expectations

In economics, adaptive expectations is a hypothesized process by which people form their expectations about what will happen in the future based on what has happened in the past. For example, if inflation has been higher than expected in the past, people would revise expectations for the future.

One simple version of adaptive expectations is stated in the following equation, where ${\displaystyle p^{e}}$ is the next year's rate of inflation that is currently expected; ${\displaystyle p_{-1}^{e}}$is this year's rate of inflation that was expected last year; and ${\displaystyle p}$ is this year's actual rate of inflation:

where ${\displaystyle \lambda }$ is between 0 and 1. This says that current expectations of future inflation reflect past expectations and an "error-adjustment" term, in which current expectations are raised (or lowered) according to the gap between actual inflation and previous expectations. This error-adjustment is also called "partial adjustment."

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