Princeton Working Paper
41 Pages Posted: 15 Jan 2002
Date Written: November 2001
We present a model in which an asset bubble can persist despite the presence of rational arbitrageurs. The resilience of the bubble stems from the inability of arbitrageurs to temporarily coordinate their selling strategies. This synchronization problem, together with the individual incentive to time the market, results in the persistence of bubbles over a substantial period of time. Since the derived trading equilibrium is unique, our model rationalizes the existence of bubbles in a strong sense. The model also provides a natural setting in which public events, by enabling synchronization, can have a disproportionate impact relative to their intrinsic informational content.
Keywords: Bubbles, Temporal Coordination, Synchronization, Market Timing, Limits to Arbitrage, Behavioral Finance, Dynamic Global Games
JEL Classification: D8, G1
Suggested Citation: Suggested Citation