Randomization and ambiguity perception

Abstract: We provide a model of preferences over lotteries of acts in which a decision maker behaves as if optimally filtering her ambiguity perception. She has a set of plausible ambiguity perceptions and a cost function over them, and chooses multiple priors to maximize the minimum expected utility minus the cost. We characterize the model by axioms on attitude toward randomization and its timing, uniquely identify the filtering cost from observable data, and conduct several comparatives. Our model can explain Machina's (2009) two paradoxes, which are incompatible with many standard ambiguity models.