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Private Beliefs and Information Externalities in the Foreign Exchange Market

Richard Lyons ()

No 3889, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: An information externality exists in the foreign exchange market due to the fact that traders play two partially conflicting roles: (i) each is a speculator and (ii) each is an information clearinghouse in that each intermediates own-customer orders which convey information. Profit maximization induces traders to underweight fundamental information in making their trades, reducing the degree to which prices reveal information at any given time. In the model, agents update diverse beliefs over time, with transactions-mediated tatonnement. The explicit role for transactions provides a framework for interpreting the relationship between the diversity of beliefs, trading volume, and price adjustment.

Date: 1991-10
Note: ITI IFM
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Published as Journal of International Economics, new title," A Simultaneous Trade Model of the Foreign Exchange Hot Potato", February 1997vol. 36.

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Working Paper: Private Beliefs and Information Externalities in the Foreign Exchange Market (1991)
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