A Quasi‐Experimental Test of the Marginal Trader Hypothesis
Posted: 22 Oct 2011
Date Written: November 2011
Economists have tried to reconcile irrational individual‐level behavior with rational market behavior through the Marginal Trader Hypothesis (MTH), which posits that even when most traders act irrationally, a small group of well‐informed traders can keep an asset's market price equal to its fundamental value. I test the MTH by comparing predictions for the 2008 U.S. presidential election generated by the Iowa Electronic Markets to those of a prediction contest, a decision task that precludes marginal traders. The results do not support the MTH; I find that the forecasts generated by the prediction market and the prediction contest are equally accurate.
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