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Price stability and volatility in markets with positive and negative expectations feedback: An experimental investigation

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Author Info
Heemeijer, Peter
Hommes, Cars
Sonnemans, Joep
Tuinstra, Jan

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Abstract

The evolution of many economic variables is affected by expectations that economic agents have with respect to the future development of these variables. We show, by means of laboratory experiments, that market behavior depends to a large extent on whether realized market prices respond positively or negatively to average price expectations. In the case of negative expectations feedback, as in commodity markets, prices converge quickly to their equilibrium value, confirming the rational expectations hypothesis. In the case of positive expectations feedback, as is typical for speculative asset markets, large fluctuations in realized prices and persistent deviations from the benchmark fundamental price are likely. We estimate individual forecasting rules and investigate how these explain the differences in aggregate market outcomes.

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Publisher Info
Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

Volume (Year): 33 (2009)
Issue (Month): 5 (May)
Pages: 1052-1072
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Handle: RePEc:eee:dyncon:v:33:y:2009:i:5:p:1052-1072

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Related research
Keywords: Market behavior Coordination Expectations feedback Experimental economics;

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References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Klaus Adam, 2007. "Experimental Evidence on the Persistence of Output and Inflation," Economic Journal, Royal Economic Society, vol. 117(520), pages 603-636, 04. [Downloadable!] (restricted)
    Other versions:
  2. Hommes, Cars & Sonnemans, Joep & Tuinstra, Jan & Van De Velden, Henk, 2007. "Learning In Cobweb Experiments," Macroeconomic Dynamics, Cambridge University Press, vol. 11(S1), pages 8-33, November. [Downloadable!]
  3. Cars Hommes & Joep Sonnemans & Jan Tuinstra & Henk van de Velden, 2005. "Coordination of Expectations in Asset Pricing Experiments," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 18(3), pages 955-980. [Downloadable!] (restricted)
    Other versions:
  4. Arifovic, Jasmina, 1994. "Genetic algorithm learning and the cobweb model," Journal of Economic Dynamics and Control, Elsevier, vol. 18(1), pages 3-28, January. [Downloadable!] (restricted)
  5. Canoles, W. Bruce & Thompson, Sarahelen R. & Irwin, Scott H. & France, Virginia G., 1997. "An Analysis Of The Profiles And Motivations Of Habitual Commodity Speculators," ACE OFOR Reports 14768, University of Illinois at Urbana-Champaign, Department of Agricultural and Consumer Economics. [Downloadable!]
    Other versions:
  6. Garber, Peter M, 1990. "Famous First Bubbles," Journal of Economic Perspectives, American Economic Association, vol. 4(2), pages 35-54, Spring. [Downloadable!] (restricted)
  7. Jean-Robert Tyran & Ernst Fehr, 2002. "Limited Rationality and Strategic Interaction - The Impact of the Strategic Environment on Nominal Inertia," University of St. Gallen Department of Economics working paper series 2002 2002-25, Department of Economics, University of St. Gallen. [Downloadable!]
    Other versions:
  8. C.H. Hommes & J.H. Sonnemans & J. Tuinstra & H. van de Velde, 2003. "Learning in Cobweb Experiments," Tinbergen Institute Discussion Papers 03-020/1, Tinbergen Institute. [Downloadable!]
  9. repec:att:wimass:199530r is not listed on IDEAS
  10. Hugh Kelley & Daniel Friedman, 2002. "Learning to Forecast Price," Economic Inquiry, Oxford University Press, vol. 40(4), pages 556-573, October.
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Michael W.M. Roos & Wolfgang J. Luhan, 2008. "Are Expectations Formed by the Anchoring-and-adjustment Heuristic? – An Experimental Investigation," Ruhr Economic Papers 0054, Rheinisch-Westfälisches Institut für Wirtschaftsforschung, Ruhr-Universität Bochum, Universität Dortmund, Universität Duisburg-Essen. [Downloadable!]
  2. Hommes, C.H., 2007. "Bounded Rationality and Learning in Complex Markets," CeNDEF Working Papers 07-01, Universiteit van Amsterdam, Center for Nonlinear Dynamics in Economics and Finance. [Downloadable!]
  3. Pietro Dindo & Jan Tuinstra, 2006. "A Behavioral Model for Participation Games with Negative Feedback," Tinbergen Institute Discussion Papers 06-073/1, Tinbergen Institute. [Downloadable!]
    Other versions:
  4. Michael W.M. Roos & Wolfgang J. Luhan, 2008. "As if or What? – Expectations and Optimization in a Simple Macroeconomic Environment," Ruhr Economic Papers 0055, Rheinisch-Westfälisches Institut für Wirtschaftsforschung, Ruhr-Universität Bochum, Universität Dortmund, Universität Duisburg-Essen. [Downloadable!]
  5. Cars Hommes & Thomas Lux, 2008. "Individual Expectations and Aggregate Behavior in Learning to Forecast Experiments," Kiel Working Papers 1466, Kiel Institute for the World Economy. [Downloadable!]
  6. Joep Sonnemans & Jan Tuinstra, 2008. "Positive Expectations Feedback Experiments and Number Guessing Games as Models of Financial Markets," Tinbergen Institute Discussion Papers 08-076/1, Tinbergen Institute. [Downloadable!]
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