Throwing good money after bad

摘要

An "investment bubble" is a period of "excessive, and predictably unprofitable, investment" (DeMarzo et al. in J Financ Econ 85:737-754,2007). Such bubbles most often accompany the arrival of some new technology, such as the tech stock boom and bust of the late 1990s and early 2000s. We provide a rational explanation for investment bubbles based on the dynamics of learning in highly uncertain environments. Objective information about the earnings potential of a new technology gives rise to a set of priors or a belief function. A generalised form of Bayes' rule is used to update this set of priors using earnings data from the new economy. In each period, agents-who are heterogeneous in their tolerance for ambiguity-make optimal occupational choices, with wages in the new economy set to clear the labour market. A preponderance of bad news about the new technology may nevertheless give rise to increasing firm formation around this technology, at least initially. To a frequentist outside observer, the pattern of adoption appears as an investment bubble.