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Inattentive Economies

Author

Listed:
  • George-Marios Angeletos
  • Karthik Sastry

Abstract

We study the efficiency of competitive markets in the presence of a general form of rational inattention. The appropriate amendments of the Fundamental Welfare Theorems are shown to hold if rational inattention is modeled as an arbitrary cost for obtaining signals about the exogenous state of nature. If instead rational inattention is modeled as a cost for observing prices or other endogenous outcomes, inefficiency can arise because of a cognitive externality: people do not internalize how their choices affect the complexity of the price system and thereby others’ cost of tracking or decoding it. This externality is muted in an important special case, when cognitive costs are given by the mutual information of agents’ decisions with the joint of the price system and the entire state of nature. For more general costs, however, there is room for policies aimed at simplifying or otherwise regulating markets.

Suggested Citation

  • George-Marios Angeletos & Karthik Sastry, 2019. "Inattentive Economies," NBER Working Papers 26413, National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberwo:26413
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    More about this item

    JEL classification:

    • D5 - Microeconomics - - General Equilibrium and Disequilibrium
    • D6 - Microeconomics - - Welfare Economics
    • D8 - Microeconomics - - Information, Knowledge, and Uncertainty
    • E7 - Macroeconomics and Monetary Economics - - Macro-Based Behavioral Economics

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