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Learning with rare disasters

Jessica A. Wachter & Yicheng Zhu

Quantitative Economics2025https://doi.org/10.3982/qe1716article
AJG 4ABDC A*
Weight
0.41

What the paper says

Financial crises appear to have long‐lasting effects, even after the crisis itself has passed. This paper offers a simple explanation based on Bayesian learning from rare events. Agents face a latent and time‐varying probability of economic disaster. When a disaster occurs, learning results in greater effects on asset prices because agents update their probability of future disasters. Moreover, agents' belief that the disaster risk is high can rationally persist for years, even when it is in fact low. We generalize the model to allow for a noisy signal of the disaster probability. This generalized model explains excess stock market volatility together with negative skewness, effects that previous models in the literature struggle to explain.

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https://doi.org/https://doi.org/10.3982/qe1716

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@article{jessica2025,
  title        = {{Learning with rare disasters}},
  author       = {Jessica A. Wachter & Yicheng Zhu},
  journal      = {Quantitative Economics},
  year         = {2025},
  doi          = {https://doi.org/https://doi.org/10.3982/qe1716},
}

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Evidence weight

0.41

Balanced mode · F 0.40 / M 0.15 / V 0.05 / R 0.40

F · citation impact0.25 × 0.4 = 0.10
M · momentum0.55 × 0.15 = 0.08
V · venue signal0.50 × 0.05 = 0.03
R · text relevance †0.50 × 0.4 = 0.20

† Text relevance is estimated at 0.50 on the detail page — for your query’s actual relevance score, open this paper from a search result.