Relative Wealth Concerns and Financial Bubbles

Posted: 26 Jun 2008

See all articles by Peter M. DeMarzo

Peter M. DeMarzo

Stanford Graduate School of Business; National Bureau of Economic Research (NBER)

Ron Kaniel

University of Rochester - Simon Business School; CEPR

Multiple version iconThere are 3 versions of this paper

Abstract

We present a rational general equilibrium model that highlights the fact that relative wealth concerns can play a role in explaining financial bubbles. We consider a finite-horizon overlapping generations model in which agents care only about their consumption. Though the horizon is finite, competition over future investment opportunities makes agents' utilities dependent on the wealth of their cohort and induces relative wealth concerns. Agents herd into risky securities and drive down their expected return. Even though the bubble is likely to burst and lead to a substantial loss, agents' relative wealth concerns make them afraid to trade against the crowd.

JEL Classification: G11, G12, D52, D53, D91, E43

Suggested Citation

DeMarzo, Peter M. and Kaniel, Ron, Relative Wealth Concerns and Financial Bubbles. The Review of Financial Studies, Vol. 21, No. 1, pp. 19-50, 2008. Available at SSRN: https://ssrn.com/abstract=1151571 or http://dx.doi.org/10.1093/rfs/hhm032

Peter M. DeMarzo (Contact Author)

Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
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650-736-1082 (Phone)
650-725-7979 (Fax)

HOME PAGE: http://www.stanford.edu/people/pdemarzo

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
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Ron Kaniel

University of Rochester - Simon Business School ( email )

Rochester, NY 14627
United States

HOME PAGE: http://rkaniel.simon.rochester.edu

CEPR ( email )

London
United Kingdom

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