The Distributional Consequences of Belief Heterogeneity

Abstract

This paper studies a life-cycle model economy in which agents utilize idiosyncratic information to forecast personal income risk. Agents either inherit full information (``dynastic households") or learn to forecast lifetime income using personal employment data given incorrect initial beliefs (``non-dynastic households"). We find that the distribution of initial beliefs regarding the transition probabilities into and out of unemployment greatly impact both aggregate savings and the stationary wealth distribution in a simple model economy. The wealth Gini coefficient in a model economy comprised solely of dynastic agents is 18%-52% lower than in the simulations with both dynastic and non-dynastic households. Optimistic households accumulate less wealth and are more likely to enter states of unemployment with little or no savings and pessimistic households over-accumulate wealth relative to households who inherit correct beliefs. Further, our framework shows how the welfare of rational agents and the value of holding correct beliefs depends on the beliefs of other agents.