Choice under Fundamental Uncertainty: The Case of Aggregate Consumption
Type
working paper
Date Issued
2025-04-13
Author(s)
Abstract
We consider an agent who does not know the data-generating process (DGP) of the economic environment but observes past outcomes. Moreover, the agent considers it possible that the DGP changes in unpredictable ways. In this setting-which we refer to as one of fundamental uncertainty-standard optimal intertemporal choice is not feasible. We provide a model in which the agent makes forward-looking decisions using a future value function that does not depend on any specific information about a DGP. The agent makes forecasts about a subsequent period based on historical analogies. Specifically, we consider the consumption and asset holding decision of a representative agent who earns an exogenous stream of labor income. We calibrate the model to aggregate US data. Despite its simplicity, the model captures the relevant empirical patterns better than a rational expectations model with a comparable degree of flexibility.
Keywords
D81
D84
E21 Fundamental uncertainty
value function
aggregate consumption
expectation formation
historical analogies
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ChoiceUnderFundamentalUncertaintyTheCaseofFU.pdf
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