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Speculative trading with rational beliefs and endogenous uncertainty

Listed author(s):
  • Ho-Mou Wu
  • Wen-Chung Guo

This paper introduces the framework of rational beliefs of Kurz (1994), which makes the assumptions of heterogeneous beliefs of Harrison and Kreps (1978) and Morris (1996) more plausible. Agents hold diverse beliefs that are “rational” in the sense of being compatible with ample observed data. In a non-stationary environment the agents only learn about the stationary measure of observed data, but their beliefs can remain non-stationary and diverse. Speculative trading then stems from disagreements among traders. In a Markovian framework of dividends and beliefs, we obtain analytical results to show how the speculative premium depends on the extent of heterogeneity of beliefs. In addition, we demonstrate that there exists a unique Rational Belief Equilibrium (RBE) generically with endogenous uncertainty (as defined by Kurz and Wu, 1996) and that the RBE price is higher than the rational expectation equilibrium price (REE) under some general conditions Copyright Springer-Verlag Berlin Heidelberg 2003

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Article provided by Springer & Society for the Advancement of Economic Theory (SAET) in its journal Economic Theory.

Volume (Year): 21 (2003)
Issue (Month): 2 (March)
Pages: 263-292

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Handle: RePEc:spr:joecth:v:21:y:2003:i:2:p:263-292
DOI: 10.1007/s00199-002-0303-x
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