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Bubbles and Crashes with Partially Sophisticated Investors

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  • Bianchi, Milo
  • Jehiel, Philippe

Abstract

We analyze bubbles and crashes in a model in which some investors are partially sophisticated. While the expectations of such investors are endogenously determined in equilibrium, these are based on a coarse understanding of the market dynamics. We highlight how such investors may endogenously switch from euphoria to panic and how this may lead to equilibrium bubbles and crashes even in a purely speculative market in which information is complete and it is commonly understood that the bubble cannot grow forever. We also show how this setting can match stylized empirical facts, and we investigate whether bubbles may last longer when the share of fully rational traders increases.

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Bibliographic Info

Paper provided by Paris Dauphine University in its series Economics Papers from University Paris Dauphine with number 123456789/5361.

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Date of creation: 2010
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Publication status: Published in PSE Working Papers, 2010
Handle: RePEc:dau:papers:123456789/5361

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Keywords: Speculative bubbles; crashes; bounded rationality;

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  1. Harrison Hong & Jose Scheinkman & Wei Xiong, 2005. "Asset Float and Speculative Bubbles," Levine's Bibliography 122247000000000861, UCLA Department of Economics.
  2. J. Bradford De Long & Andrei Shleifer & Lawrence H. Summers & Robert J. Waldmann, 1989. "Positive Feedback Investment Strategies and Destabilizing Rational Speculation," NBER Working Papers 2880, National Bureau of Economic Research, Inc.
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  8. Bianchi, Milo & Jehiel, Philippe, 2010. "Bubbles and Crashes with Partially Sophisticated Investors," Economics Papers from University Paris Dauphine 123456789/5361, Paris Dauphine University.
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Cited by:
  1. Milo Bianchi & Philippe Jehiel, 2010. "Bubbles and Crashes with Partially Sophisticated Investors," Levine's Working Paper Archive 122247000000002180, David K. Levine.
  2. Steiner, Jakub & Stewart, Colin, 2014. "Price Distortions in High-Frequency Markets," CEPR Discussion Papers 9817, C.E.P.R. Discussion Papers.

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