Power Laws in Economics and Finance
Harvard University - Department of Economics; National Bureau of Economic Research (NBER); Centre for Economic Policy Research (CEPR); European Corporate Governance Institute (ECGI); New York University - Stern School of Business
September 11, 2008
A power law is the form taken by a large number of surprising empirical regularities in economics and finance. This article surveys well-documented empirical power laws concerning income and wealth, the size of cities and firms, stock market returns, trading volume, international trade, and executive pay. It reviews detail-independent theoretical motivations that make sharp predictions concerning the existence and coefficients of power laws, without requiring delicate tuning of model parameters. These theoretical mechanisms include random growth, optimization, and the economics of superstars coupled with extreme value theory. Some of the empirical regularities currently lack an appropriate explanation. This article highlights these open areas for future research.
Number of Pages in PDF File: 61
Keywords: scaling, fat tails, superstars, crashes
JEL Classification: E0,G1, R1
Date posted: August 27, 2008 ; Last revised: April 3, 2009