Why Do We Miss Early Warning Signs of Economic Crises?
33 Pages Posted: 20 Aug 2015
Date Written: August 20, 2015
This paper shows that agents underreact to rare and extreme signals. Agents observing these signals choose delay, hoping to condition their behavior on future actors (who may themselves also delay). This stalemate prevents society from recognizing the presence of rare states, even when the relevant signals are widely distributed across agents. Instead, rare signals accumulate privately (and redundantly) until they become overwhelming, after which they are all simultaneously revealed in a burst.
Keywords: Crises, fragility, herding, tail events
JEL Classification: G32
Suggested Citation: Suggested Citation