Dynamic consistency, valuable information and subjective beliefs

Abstract

AbstractAmbiguity sensitive preferences must fail either Consequentialism or Dynamic Consistency (DC), two properties that are compatible with subjective expected utility and Bayesian updating, while forming the basis of backward induction and dynamic programming. We examine the connection between these properties in a general environment of convex preferences over monetary acts and find that, far from being incompatible, they are connected in an economically meaningful way. In single-agent decision problems, positive value of information characterises one direction of DC. We propose a weakening of DC and show that one direction is equivalent to weakly valuable information, whereas the other characterises the Bayesian updating of the subjective beliefs which are revealed by trading behavior.