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Learning Under Ambiguity

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Author Info

  • Larry Epstein

    ()
    (University of Rochester)

  • Martin Schneider

    ()
    (New York University)

Abstract

This paper considers learning when the distinction between risk and ambiguity matters. It first describes thought experiments, dynamic variants of those provided by Ellsberg, that highlight a sense in which the Bayesian learning model is extreme - it models agents who are implausibly ambitious about what they can learn in complicated environments. The paper then provides a generalization of the Bayesian model that accommodates the intuitive choices in the thought experiments. In particular, the model allows decision-makers’ confidence about the environment to change — along with beliefs — as they learn. A calibrated portfolio choice application shows how this property induces a trend towards more stock market participation and investment.

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File URL: http://rcer.econ.rochester.edu/RCERPAPERS/rcer_527.pdf
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Bibliographic Info

Paper provided by University of Rochester - Center for Economic Research (RCER) in its series RCER Working Papers with number 527.

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Length: 35 pages
Date of creation: Apr 2006
Date of revision:
Handle: RePEc:roc:rocher:527

Contact details of provider:
Postal: University of Rochester, Center for Economic Research, Department of Economics, Harkness 231 Rochester, New York 14627 U.S.A.

Related research

Keywords: ambiguity; learning; noisy signals; ambiguous signals; quality information; portfolio choice; portfolio diversification; Ellsberg Paradox;

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References

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  1. Michael Haliassos, Alexander Michaelides, 2000. "Portfolio Choice And Liquidity Constraints," Computing in Economics and Finance 2000 297, Society for Computational Economics.
  2. Andrew B. Abel, 2001. "An exploration of the effects of pessimism and doubt on asset returns," Working Papers 01-1, Federal Reserve Bank of Philadelphia.
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  4. Kandel, Shmuel & Stambaugh, Robert F, 1996. " On the Predictability of Stock Returns: An Asset-Allocation Perspective," Journal of Finance, American Finance Association, vol. 51(2), pages 385-424, June.
  5. Epstein, Larry G. & Miao, Jianjun, 2003. "A two-person dynamic equilibrium under ambiguity," Journal of Economic Dynamics and Control, Elsevier, vol. 27(7), pages 1253-1288, May.
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  7. Carsten Krabbe Nielsen, 1995. "Rational Belief Structures and Rational Belief Equilibrium," Discussion Papers 95-14, University of Copenhagen. Department of Economics.
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  10. Brandt, M.W.Michael W. & Zeng, Qi & Zhang, Lu, 2004. "Equilibrium stock return dynamics under alternative rules of learning about hidden states," Journal of Economic Dynamics and Control, Elsevier, vol. 28(10), pages 1925-1954, September.
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