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Belief Heterogeneity and Survival in Incomplete Markets

  • Tarek Coury
  • Emanuela Sciubba

    (Department of Economics, Mathematics & Statistics, Birkbeck)

In complete markets economies (Sandroni [15]), or in economies with Pareto optimal outcomes (Blume and Easley [9]), the market selection hypothesis holds, as long as traders have identical discount factors. Traders who survive must have beliefs that merge with the truth. We show that in incomplete markets, regardless of traders’ discount factors, the market selects for a range of beliefs, at least some of which do not merge with the truth. We also show that impatient traders with incorrect beliefs can survive and that these incorrect beliefs impact prices. These beliefs may be chosen so that they are far from the truth.

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File URL: http://www.bbk.ac.uk/ems/research/wp/PDF/BWPEF0613.pdf
File Function: First version, 2006
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Paper provided by Birkbeck, Department of Economics, Mathematics & Statistics in its series Birkbeck Working Papers in Economics and Finance with number 0613.

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Date of creation: Nov 2006
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Handle: RePEc:bbk:bbkefp:0613
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  1. Biais, Bruno & Shadur, Raphael, 2000. "Darwinian selection does not eliminate irrational traders," European Economic Review, Elsevier, vol. 44(3), pages 469-490, March.
  2. Magill, M. & Quinzii, M., 1992. "Infinite Horizon Incomplete Markets," Papers 413a, California Davis - Institute of Governmental Affairs.
  3. Araujo, Aloisio, 1985. "Lack of Pareto Optimal Allocations in Economies with Infinitely Many Commodities: The Need for Impatience," Econometrica, Econometric Society, vol. 53(2), pages 455-61, March.
  4. Emanuela Sciubba, 2006. "The evolution of portfolio rules and the capital asset pricing model," Economic Theory, Springer, vol. 29(1), pages 123-150, September.
  5. Lawrence Blume & David Easley, 2006. "If You're so Smart, why Aren't You Rich? Belief Selection in Complete and Incomplete Markets," Econometrica, Econometric Society, vol. 74(4), pages 929-966, 07.
  6. Sciubba, E., 1999. "Asymmetric Information and Survival in Financial Markets," Cambridge Working Papers in Economics 9908, Faculty of Economics, University of Cambridge.
  7. Beker, Pablo & Subir Chattopadhyay, 2009. "Consumption Dynamics in General Equilibrium : A Characterisation when Markets are Incomplete," The Warwick Economics Research Paper Series (TWERPS) 921, University of Warwick, Department of Economics.
  8. Bewley, Truman F., 1972. "Existence of equilibria in economies with infinitely many commodities," Journal of Economic Theory, Elsevier, vol. 4(3), pages 514-540, June.
  9. J. Bradford De Long & Andrei Shleifer & Lawrence H. Summers & Robert J. Waldmann, . "Noise Trader Risk in Financial Markets," J. Bradford De Long's Working Papers _124, University of California at Berkeley, Economics Department.
  10. Aloisio Araujo & Alvaro Sandroni, 1999. "On the Convergence to Homogeneous Expectations when Markets Are Complete," Econometrica, Econometric Society, vol. 67(3), pages 663-672, May.
  11. Armen A. Alchian, 1950. "Uncertainty, Evolution, and Economic Theory," Journal of Political Economy, University of Chicago Press, vol. 58, pages 211.
  12. Alvaro Sandroni, 2000. "Do Markets Favor Agents Able to Make Accurate Predicitions?," Econometrica, Econometric Society, vol. 68(6), pages 1303-1342, November.
  13. De Long, J. Bradford & Shleifer, Andrei & Summers, Lawrence H. & Waldmann, Robert J., 1991. "The Survival of Noise Traders in Financial Markets," Scholarly Articles 3725470, Harvard University Department of Economics.
  14. Blume, Lawrence & Easley, David, 1992. "Evolution and market behavior," Journal of Economic Theory, Elsevier, vol. 58(1), pages 9-40, October.
  15. Shefrin, Hersh & Statman, Meir, 1994. "Behavioral Capital Asset Pricing Theory," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 29(03), pages 323-349, September.
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