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Power-laws in economics and finance: some ideas from physics

  • Jean-Philippe Bouchaud

    (Science & Finance, Capital Fund Management
    CEA Saclay;)

Registered author(s):

    We discuss several models in order to shed light on the origin of power-law distributions and power-law correlations in financial time series. From an empirical point of view, the exponents describing the tails of the price increments distribution and the decay of the volatility correlations are rather robust and suggest universality. However, many of the models that appear naturally (for example, to account for the distribution of wealth) contain some multiplicative noise, which generically leads to *non universal exponents*. Recent progress in the empirical study of the volatility suggests that the volatility results from some sort of multiplicative cascade. A convincing `microscopic' (i.e. trader based) model that explains this observation is however not yet available. It would be particularly important to understand the relevance of the pseudo-geometric progression of natural human time scales on the long range nature of the volatility correlations.

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    Paper provided by Science & Finance, Capital Fund Management in its series Science & Finance (CFM) working paper archive with number 500023.

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    Date of creation: Aug 2000
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    Publication status: Published in Quantitative Finance, proccedings of the 2000 Santa Fe conference
    Handle: RePEc:sfi:sfiwpa:500023
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    1. J. Doyne Farmer, 2002. "Market force, ecology and evolution," Industrial and Corporate Change, Oxford University Press, vol. 11(5), pages 895-953, November.
    2. Hideaki Aoyama & Yuichi Nagahara & Mitsuhiro P. Okazaki & Wataru Souma & Hideki Takayasu & Misako Takayasu, 2000. "Pareto's Law for Income of Individuals and Debt of Bankrupt Companies," Papers cond-mat/0006038, arXiv.org.
    3. Giulia Iori, 2000. "A microsimulation of traders activity in the stock market: the role of heterogeneity, agents' interactions and trade frictions," Finance 0004007, EconWPA.
    4. J. Doyne Farmer, 1999. "Physicists Attempt to Scale the Ivory Towers of Finance," Working Papers 99-10-073, Santa Fe Institute.
    5. Rama Cont & Marc Potters & Jean-Philippe Bouchaud, 1997. "Scaling in stock market data: stable laws and beyond," Science & Finance (CFM) working paper archive 9705087, Science & Finance, Capital Fund Management.
    6. Irene Giardina & Jean-Philippe Bouchaud & Marc Mezard, 2000. "Population dynamics in a random environment," Science & Finance (CFM) working paper archive 500025, Science & Finance, Capital Fund Management.
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