Information Flow, Social Interactions and the Fluctuations of Prices in Financial Markets

João Amaro de Matos

No 114, Econometric Society 2004 Latin American Meetings from Econometric Society

Abstract: We model how excess demand or excess supply can be generated in the presence of a social network of interactions, where agents are subject to external information and individual incentives. In this context we study price fluctuations in financial markets under equilibrium. In particular, we isolate the role of these different factors in the determination of price fluctuations and describe non trivial sensitivities to changes in equilibrium due to the existence of social interactions. We characterize equilibrium and distinguish between stable and unstable equilibrium. Crashes or bubbles are seen as out-of-equilibrium situations, preceeded by unstable equilibrium. Fluctuations under unstable equilibrium are shown to be abnormal and particulary large. Also, we show how fluctuations of the external information flows affect the fluctuations of the return process. In all cases we explain the well-known phenomena that prices do not fluctuate upwards in the same way as they fluctuate downwards. This asymmetry of price fluctuations is due to asymmetries in the price elasticity of demand and supply curves at the level defining equilibrium

Keywords: social network; excess demand; excess supply; price fluctuations (search for similar items in EconPapers)
JEL-codes: D40 D85 G10 Z13 (search for similar items in EconPapers)
Date: 2004-08-11
New Economics Papers: this item is included in nep-mic
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Persistent link: https://EconPapers.repec.org/RePEc:ecm:latm04:114

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