Risk-Taking Adaptation to Macroeconomic Experiences: Theory and Evidence from Developing Countries
80 Pages Posted: 1 Feb 2021
Date Written: October 14, 2020
How do lifetime experiences of macroeconomic risk shape attitudes towards risk? We study this question theoretically and empirically for individuals in developing countries. We build a Bayesian model of choice in which agents' risk attitude adapts to their evolving beliefs about background risk. Our model predicts that risk aversion will increase monotonically in the variance of the background risk, and will decrease convexly in the mean. We test the model by linking longitudinal surveys from Indonesia and Mexico, containing elicited measures of risk aversion for the same subjects years apart, with state-level real GDP growth time series capturing their lifetime macroeconomic experiences. In both countries measured risk aversion significantly increases in experienced growth volatility and significantly decreases in experienced mean growth. The effect of volatility is 0.9-4.3 times the effect of the mean, indicating that experiences of volatility are first-order drivers of risk attitudes.
Keywords: Risk attitudes, experience effects, macroeconomic volatility, development
JEL Classification: D14, D81, D83, E32, G11, O11, O12
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