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Knightian Uncertainty and Poverty Trap in a Model of Economic Growth

  • Shin-ichi Fukuda

    (Faculty of Economics, University of Tokyo)

This paper explores how Knightian uncertainty affects dynamic properties in a model of economic growth. The decision-making theory in the analysis is that of expected utility under a non-additive probability measure, that is, the Choquet expected utility model of preference. We apply this decision theory to an overlapping-generations model where producers face uncertainty in their technologies. When the producer has aversion to uncertainty, the firm's profit function may not be differentiable. The firm's decision to invest and hire labor therefore becomes rigid for some measurable rage of real interest rate. In the dynamic equilibrium, the existence of the firm level rigidity causes discontinuity in the wage function, which makes multiple equilibria more likely outcome under log utility and Cobb-Douglass production functions. We show that even if aversion to uncertainty is small, "poverty trap" can arise for a wide range of parameter values.

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File URL: http://www.cirje.e.u-tokyo.ac.jp/research/dp/2007/2007cf502.pdf
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Paper provided by CIRJE, Faculty of Economics, University of Tokyo in its series CIRJE F-Series with number CIRJE-F-502.

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Length: 29 pages
Date of creation: Jul 2007
Date of revision:
Handle: RePEc:tky:fseres:2007cf502
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  2. Howitt, Peter & Mayer-Foulkes, David, 2005. "R&D, Implementation, and Stagnation: A Schumpeterian Theory of Convergence Clubs," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 37(1), pages 147-77, February.
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  18. Brock, William A. & Mirman, Leonard J., 1972. "Optimal economic growth and uncertainty: The discounted case," Journal of Economic Theory, Elsevier, vol. 4(3), pages 479-513, June.
  19. Benhabib, Jess & Gali, Jordi, 1995. "On growth and indeterminacy: some theory and evidence," Carnegie-Rochester Conference Series on Public Policy, Elsevier, vol. 43(1), pages 163-211, December.
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