Structural models for policy-making: Coping with parametric uncertainty

Abstract

The ex-ante evaluation of policies using structural microeconometric models is based on estimated parameters as a stand-in for the truth. This practice ignores uncertainty in the counterfactual policy predictions of the model. We develop an approach that deals with parametric uncertainty and properly frames model-informed policy-making as a decision problem under uncertainty. We use the seminal human capital investment model by Keane and Wolpin (1997) as a well-known, influential, and empirically-grounded test case. We document considerable uncertainty in their policy predictions and highlight the resulting policy recommendations from using different formal rules on decision-making under uncertainty.