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Managing Overreaction During a Run

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  • Caio Machado

Abstract

This paper studies whether suspensions intended to provide a time-out for agents to digest incoming information attenuate runs, under the assumption that agents overreact to news and need time to properly process it. To do so, I embed diagnostic expectations into a standard global game model of runs. I show that during bad times, when bad public news arrives and/or investment returns are low, such policy actually amplifies runs, even in cases where almost all investors are receiving negative news and temporarily overreacting to it. During good times, the opposite result arises.

Suggested Citation

  • Caio Machado, 2023. "Managing Overreaction During a Run," Documentos de Trabajo 574, Instituto de Economia. Pontificia Universidad Católica de Chile..
    • Handle: RePEc:ioe:doctra:574
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    File URL: https://www.economia.uc.cl/docs/doctra/dt-574.pdf
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    Keywords

    global games; overreaction; diagnostic expectations; runs;
    All these keywords.

    JEL classification:

    • D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations
    • D91 - Microeconomics - - Micro-Based Behavioral Economics - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making
    • G41 - Financial Economics - - Behavioral Finance - - - Role and Effects of Psychological, Emotional, Social, and Cognitive Factors on Decision Making in Financial Markets

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