Rational Expectations, Uncertainty and Cyclical Activity in the British Office Market

Abstract

This study presents an econometric investigation of office building development in Great Britain. The results show that the cyclical activity in office development, measured by the changes in the office building output series compiled by the Department of the Environment, is explained by the changes in Hillier Parker real office rents, and changes in the volume of output in services. There is also strong evidence that uncertainty, originating in the volatility of rents, exerted a negative influence on the rate of office development in the 1990s. The study advances further the existing econometric treatment of office building development by undertaking direct tests of rationality and shows that the estimated model produces forecasts which are characterised by rational expectations. It is established that information contained in the past history of office building output and variables which are considered to explain its cyclical pattern is efficiently and consistently incorporated. The model also suggests that in the formation of one-period forecasts the weight attached to the error most recently observed is about 30 per cent.