Informational Externalities, Herding and Incentives

Xavier Vives and Lluis Bru

No 3080, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: A version of the herding prediction model with a rational expectations flavor is reexamined in the light of incentive theory. The welfare loss at the market solution with respect to the incentive efficient solution can be decomposed into an information externality term minus an incentive cost term. It is found that the inefficiency of herding at the market solution is low when the cost of providing incentives is high. When the cost of providing incentives is low (and this happens when prior information is diffuse) the incentive efficient solution approaches the team solution that fully internalizes the information externality. Then the herding problem at the market solution is at its worst.

Keywords: Information aggregation; Rational expectations; Coordination; Teams; Mechanism design (search for similar items in EconPapers)
JEL-codes: D82 L13 L40 (search for similar items in EconPapers)
Date: 2001-11
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Journal Article: Informational Externalities, Herding, and Incentives (2002)
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