Fragile beliefs and the price of uncertainty

Lars Peter Hansen, Thomas J. Sargent

    Research output: Contribution to journalArticle

    Abstract

    A representative consumer uses Bayes' law to learn about parameters of several models and to construct probabilities with which to perform ongoing model averaging. The arrival of signals induces the consumer to alter his posterior distribution over models and parameters. The consumer's specification doubts induce him to slant probabilities pessimistically. The pessimistic probabilities tilt toward a model that puts long-run risks into consumption growth. That contributes a countercyclical history-dependent component to prices of risk.

    Original languageEnglish (US)
    Pages (from-to)129-162
    Number of pages34
    JournalQuantitative Economics
    Volume1
    Issue number1
    DOIs
    StatePublished - Jul 2010

    Keywords

    • Bayes' law
    • Learning
    • Pessimism
    • Prices of risk
    • Risk sensitivity
    • Robustness

    ASJC Scopus subject areas

    • Economics and Econometrics

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