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Heterogeneous beliefs and trading inefficiencies

William Branch () and Bruce McGough ()

Journal of Economic Theory, 2016, vol. 163, issue C, 786-818

Abstract: Heterogeneous beliefs are introduced into the monetary economy of Lagos and Wright (2005) and the implications for monetary equilibria are considered. An endogenous fraction of agents hold rational expectations and the remaining agents employ an adaptive learning rule similar to Evans and Honkapohja (2001) and Brock and Hommes (1997). Three primary results follow from the finding that heterogeneous beliefs can destabilize a stationary monetary equilibrium and lead to non-linear dynamics bounded around the monetary steady state. First, heterogeneous beliefs can lead to equilibria that are welfare reducing due, in part, to a lower acceptance rate in decentralized meetings. Second, when buyers, who are uncertain about their beliefs, behave like Bayesians by placing a prior on sellers' beliefs, uncertainty impacts dynamic stability and welfare. Third, the model's unique predictions provide an explanation of new findings about the acceptance rate in monetary laboratory experiments.

Keywords: Money; Search frictions; Liquidity; Learning; Heterogeneous beliefs (search for similar items in EconPapers)
JEL-codes: D83 D84 E30 E40 (search for similar items in EconPapers)
Date: 2016
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DOI: 10.1016/j.jet.2016.02.003

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