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Recursive Preferences, Correlation Aversion, and the Temporal Resolution of Uncertainty

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  • Lorenzo Stanca

Abstract

Models of recursive utility are of central importance in many economic applications. This paper investigates a new behavioral feature exhibited by these models: aversion to risks that exhibit persistence (positive autocorrelation) through time, referred to as correlation aversion. I introduce a formal notion of such a property and provide a characterization based on risk attitudes, and show that correlation averse preferences admit a specific variational representation. I discuss how these findings imply that attitudes toward correlation are a crucial behavioral aspect driving the applications of recursive utility in fields such as asset pricing, climate policy, and optimal fiscal policy.

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  • Lorenzo Stanca, 2023. "Recursive Preferences, Correlation Aversion, and the Temporal Resolution of Uncertainty," Carlo Alberto Notebooks 693 JEL Classification: C, Collegio Carlo Alberto.
    • Handle: RePEc:cca:wpaper:693
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    Keywords

    Intertemporal substitution; risk aversion; correlation aversion; recursive utility; preference for early resolution of uncertainty; information.;
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