Ambiguity, Infra-Marginal Investors, and Market Prices

Hammad A. Siddiqi ()

MPRA Paper from University Library of Munich, Germany

Abstract: It is difficult to explain the price insensitive or infra-marginal behavior, an example of which is the behavior of credit markets during the recent financial crisis, by risk aversion alone. It is known that infra-marginal behavior may arise with ambiguity aversion. Furthermore, there appears to be fairly strong evidence of a close connection between ambiguity and conformity. Here we propose an extension of the standard ambiguity framework to incorporate conformity. We find that there are open sets of state-price ratios over which the entire market is price insensitive or infra-marginal. This result has important implications for market equilibrium and volatility

Keywords: Ambiguity; Infra-Marginal Behavior; Arrow Securities (search for similar items in EconPapers)
JEL-codes: G0 G10 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-upt
Date: 2009-01-13
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