The U.S. military, despite spending over $13 billion, appears powerless to stop the Iraqi insurgency’s improvised explosive devices (IEDs), which cause most of the military’s casualties and prevent victory by showing lawlessness and insecurity. However, this view ignores substitution effects we consider here. Using rational choice and expectations models, we find a backward-bending supply curve...

This paper studies how relative wealth concerns, in which a person’s satisfaction with their own consumption depends on how much others are consuming, affect investors’ incentives to acquire information. We find that such externalities can generate complementarities in information acquisition within the standard rational expectations paradigm. When agents are sensitive to the wealth of others, ...

Saddlepath learning occurs when agents know the form but not the coefficients of the saddlepath relationship defining rational expectations equilibrium. Under saddlepath learning, we obtain a completely general relationship between determinacy and e-stability, and generalise Minimum State Variable results previously derived only under full information. When the system is determinate, we show th...

This paper analyzes the stability of the exchange rate in an economy with noise traders. Noise trading is restricted to agents investing in the domestic stock market. The agents pricing foreign exchange hold rational expectations. Monetary policy is affected by the behavior of investors in the domestic stock market and in turn affects fundamental stock evaluations as well as noise trading. We s...

Motivated by psychological evidence that attention is a scarce cognitive resource, we model investors’ attention allocation in learning and study the effects of this on asset-price dynamics. We show that limited investor attention leads to category-learning behavior, i.e., investors tend to process more market and sector-wide information than firm-specific information. This endogenous structure...

This paper provides a dynamic rational expectations equilibrium model in which investors have heterogeneous information and investment opportunities. Informed investors privately receive advance information about future earnings that is unrelated to current earnings. In response to good advance information, stock prices increase and informed investors act as trend chasers, increasing their inve...

We examine the role of central bank transparency when the private sector is modeled as adaptive learners. In our model, transparent policies enable the private sector to adopt correctly specified models of inflation and output while intransparent policies do not. In the former case, the private sector learns the rational expectations equilibrium while in the latter case it learns a restricted p...

On average, “young”people underestimate whereas “old”people overestimate their chances to survive into the future. We adopt a Bayesian learning model of ambiguous survival beliefs which replicates these patterns. The model is embedded within a non-expected utility model of life-cycle consumption and saving. Our analysis shows that agents with ambiguous survival beliefs (i) save less than origin...

We study how asymmetric information affects the set of rationalizable solutions in a linear setup where the outcome is determined by forecasts about this same outcome. The unique rational expectations equilibrium is also the unique rationalizable solution when the sensitivity of the outcome to agents’ forecasts is less than one, provided that this sensitivity is common knowledge. Relaxing this ...

Do We Follow Others When We Should? A Simple Test of Rational Expectations The paper presents a new meta data set covering 13 experiments on the social learning games by Bikhchandani, Hirshleifer, and Welch (1992). The large amount of data makes it possible to estimate the empirically optimal action for a large variety of decision situations and ask about the economic significance of suboptimal...