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The endogenous dynamics of markets: price impact and feedback loops


  • Jean-Philippe Bouchaud



We review the evidence that the erratic dynamics of markets is to a large extent of endogenous origin, i.e. determined by the trading activity itself and not due to the rational processing of exogenous news. In order to understand why and how prices move, the joint fluctuations of order flow and liquidity - and the way these impact prices - become the key ingredients. Impact is necessary for private information to be reflected in prices, but by the same token, random fluctuations in order flow necessarily contribute to the volatility of markets. Our thesis is that the latter contribution is in fact dominant, resulting in a decoupling between prices and fundamental values, at least on short to medium time scales. We argue that markets operate in a regime of vanishing revealed liquidity, but large latent liquidity, which would explain their hyper-sensitivity to fluctuations. More precisely, we identify a dangerous feedback loop between bid-ask spread and volatility that may lead to micro-liquidity crises and price jumps. We discuss several other unstable feedback loops that should be relevant to account for market crises: imitation, unwarranted quantitative models, pro-cyclical regulation, etc.

Suggested Citation

  • Jean-Philippe Bouchaud, 2010. "The endogenous dynamics of markets: price impact and feedback loops," Papers 1009.2928,
  • Handle: RePEc:arx:papers:1009.2928

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    Cited by:

    1. Jake J. Xia, 2016. "A Model of Synchronization for Self-Organized Crowding Behavior," Papers 1612.01132,
    2. Al-Suwailem, Sami, 2014. "Complexity and endogenous instability," Research in International Business and Finance, Elsevier, vol. 30(C), pages 393-410.
    3. Leopoldo S'anchez-Cant'u & Carlos Arturo Soto-Campos & Andriy Kryvko, 2016. "Evidence of Self-Organization in Time Series of Capital Markets," Papers 1604.03996,, revised Mar 2017.
    4. Zhong, Tao & Peng, Qinke & Wang, Xiao & Zhang, Jing, 2016. "Novel indexes based on network structure to indicate financial market," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 443(C), pages 583-594.
    5. Adri'an Carro & Ra'ul Toral & Maxi San Miguel, 2015. "Markets, herding and response to external information," Papers 1506.03708,, revised Jun 2015.

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