Working Paper: NBER ID: w22838
Authors: Martin Guzman; Joseph E. Stiglitz
Abstract: This paper provides an explanation for situations in which the state variables describing the economy do not change, but aggregate consumption experiences significant changes. We present a theory of pseudo-wealth—individuals’ perceived wealth that is derived from heterogeneous beliefs and expectations of gains in a bet. This wealth is divorced from real assets that may exist in society. The creation of a market for bets will imply positive pseudo-wealth. Changes in the differences of prior beliefs will lead to changes in expected wealth and hence to changes in consumption, implying ex-post intertemporal individual and aggregate consumption misallocations and instabilities. Thus, in the environment we describe, completing markets increases macroeconomic volatility, raising unsettling welfare questions.
Keywords: Pseudowealth; Consumption Fluctuations; Heterogeneous Beliefs; Betting Markets
JEL Codes: D60; D83; D84; E21; E32
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| pseudowealth (E21) | aggregate consumption (E20) |
| heterogeneous beliefs + betting market (D80) | pseudowealth (E21) |
| pseudowealth destruction (E21) | aggregate consumption (E20) |
| creation of betting market (L83) | expected wealth (G19) |
| expected wealth (G19) | aggregate consumption (E20) |
| pseudowealth fluctuations (E32) | consumption volatility (E20) |