Do the Effects of Individual Behavioral Biases Cancel Out?

46 Pages Posted: 4 Jan 2017 Last revised: 6 Jul 2021

See all articles by Harjoat Singh Bhamra

Harjoat Singh Bhamra

Imperial College Business School

Raman Uppal

EDHEC Business School; Centre for Economic Policy Research (CEPR)

Multiple version iconThere are 3 versions of this paper

Date Written: July 4, 2021

Abstract

A major criticism of behavioral economics is that it has not shown that the idiosyncratic biases of individual investors lead to aggregate effects. We construct a model of a general-equilibrium production economy with a large number of firms and investors. Investors' beliefs about stock returns are determined endogenously based on their psychological distances from firms; consequently, investors are optimistic about some stocks and pessimistic about others. We consider two examples: one where portfolio errors cancel out and the other in which the behavioral biases cancel out when aggregated across investors. We show asset prices and macroeconomic aggregates are still distorted.

Keywords: Behavioral finance, money market, aggregate growth, stochastic discount factor.

JEL Classification: G02, E03, E44, G11, G41

Suggested Citation

Bhamra, Harjoat Singh and Uppal, Raman, Do the Effects of Individual Behavioral Biases Cancel Out? (July 4, 2021). Available at SSRN: https://ssrn.com/abstract=2893013 or http://dx.doi.org/10.2139/ssrn.2893013

Harjoat Singh Bhamra (Contact Author)

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Raman Uppal

EDHEC Business School ( email )

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Centre for Economic Policy Research (CEPR)

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