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Do Behavioral Biases Adversely Affect the Macro-economy?

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  • George M. Korniotis
  • Alok Kumar
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    Abstract

    We investigate whether the adverse effects of investors' behavioral biases extend beyond the domain of financial markets to the broad macro-economy. Focusing on the income risk-sharing role of financial markets, we find that risk sharing is higher (more than double) in U.S. states where investors are more sophisticated and exhibit weaker behavioral biases. The potential for risk sharing varies geographically, but states with better risk-sharing opportunities are able to achieve higher levels of risk sharing only when investors in those states are more sophisticated. Collectively, these results indicate that investors' aggregate behavioral biases and their lack of financial sophistication adversely affect the local macro-economy. The Author 2011. Published by Oxford University Press on behalf of The Society for Financial Studies. All rights reserved. For Permissions, please e-mail: journals.permissions@oup.com., Oxford University Press.

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    File URL: http://hdl.handle.net/10.1093/rfs/hhq110
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    Bibliographic Info

    Article provided by Society for Financial Studies in its journal Review of Financial Studies.

    Volume (Year): 24 (2011)
    Issue (Month): 5 ()
    Pages: 1513-1559

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    Handle: RePEc:oup:rfinst:v:24:y:2011:i:5:p:1513-1559

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    Cited by:
    1. Kris Jacobs & Stephane Pallage & Michel A. Robe, 2005. "Market Incompleteness and the Equity Premium Puzzle: Evidence from State-Level Data," Computing in Economics and Finance 2005 47, Society for Computational Economics.
    2. Hoffmann, Arvid O.I. & Post, Thomas & Pennings, Joost M.E., 2013. "Individual investor perceptions and behavior during the financial crisis," Journal of Banking & Finance, Elsevier, vol. 37(1), pages 60-74.

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