Bubbles and Crashes in a Behavioural Finance Model

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Bubbles and Crashes in a Behavioural Finance Model

Author Info

Paul De Grauwe ()
Marianna Grimaldi

Abstract

We develop a simple model of the exchange rate in which agents optimize their portfolio and use different forecasting rules. They check the profitability of these rules ex post and select the more profitable one. This model produces two kinds of equilibria, a fundamental and a bubble one. In a stochastic environment the model generates a complex dynamics in which bubbles and crashes occur at unpredictable moments. We contrast these "behavioural" bubbles with "rational" bubbles.

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Paper provided by CESifo Group Munich in its series CESifo Working Paper Series with number CESifo Working Paper No. 1194.

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Date of creation: 2004
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Handle: RePEc:ces:ceswps:_1194

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Find related papers by JEL classification:
F31 - International Economics - - International Finance - - - Foreign Exchange
F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)

This paper has been announced in the following NEP Reports:

NEP-ALL-2004-06-02 (All new papers)
NEP-CFN-2004-06-02 (Corporate Finance)
NEP-FIN-2004-06-02 (Finance)
NEP-FMK-2004-06-02 (Financial Markets)
NEP-IFN-2004-06-02 (International Finance)

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Steven Pennings & Rod Tyers, 2007. "Increasing Returns, Financial Capital Mobility And Real Exchange Rate Dynamics," CAMA Working Papers 2007-16, Australian National University, Centre for Applied Macroeconomic Analysis. [Downloadable!]
Other versions:
- Steven Pennings & Rod Tyers, 2008. "Increasing Returns, Financial Capital Mobility and Real Exchange Rate Dynamics," The Economic Record, The Economic Society of Australia, vol. 84(s1), pages S141-S158, 09. [Downloadable!] (restricted)

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