Giffen goods and market making

Giovanni Cespa

Economics Working Papers from Department of Economics and Business, Universitat Pompeu Fabra

Abstract: This paper shows that information effects per se are not responsible for the Giffen goods anomaly affecting competitive traders’ demands in multi- asset, noisy rational expectations equilibrium models. The role that information plays in traders’ strategies also matters. In a market with risk averse, uninformed traders, informed agents have a dual motive for trading: speculation and market making. While speculation entails using prices to assess the effect of private signal error terms, market making requires employing them to disentangle noise traders’ effects in traders’ aggregate orders. In a correlated environment, this complicates a trader’s signal-extraction problem and may generate upward-sloping demand curves. Assuming either (i) that competitive, risk neutral market makers price the assets, or that (ii) the risk tolerance coefficient of uninformed traders grows without bound, removes the market making component from informed traders’ demands, rendering them well behaved in prices.

Keywords: Financial economics; asset pricing; information and market efficiency (search for similar items in EconPapers)
JEL-codes: G10 G12 G14 (search for similar items in EconPapers)
Date: 2002-04, Revised 2003-05
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Related works:
Working Paper: Giffen Goods and Market Making (2015)
Journal Article: Giffen goods and market making (2005)
Working Paper: Giffen Goods and Market Making (2003)
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Persistent link: https://EconPapers.repec.org/RePEc:upf:upfgen:681

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