Revisiting the Efficiency of Competitive Markets: The Incentive to Social Communication

32 Pages Posted: 28 Dec 2017

See all articles by Youcheng Lou

Youcheng Lou

Chinese Academy of Sciences (CAS) - Academy of Mathematics and Systems Science

Duan Li

Chinese University of Hong Kong; City University of Hong Kong

Shouyang Wang

Chinese Academy of Sciences (CAS) - Center for Forecasting Science; Academy of Mathematics and Systems Sciences

Date Written: December 23, 2017

Abstract

This paper revisits the efficiency of a rational expectations equilibrium model of a competitive market from the perspective of the incentive to social communication. The classical result tells us that the equilibrium price perfectly reveals all dispersed information in the market when the supply of the risky asset is a constant, but does not in the environment of random supply. As opposite to this finding, in this paper we show that for some cases the equilibrium price still perfectly reveals all private information of traders when taking into account the incentive to social communication. Specifically, we show that when the communication cost and the difference between traders' signal precisions are small, traders have the incentive to take the average of all traders' demands, that is, the per-capita supply to improve social welfare and every individual trader's welfare. Knowing the supply information reduces the equilibrium price to be a perfect aggregator again even though the supply of the risky asset is stochastic.

Keywords: Efficiency, social communication, incentive, social welfare, individual welfare

JEL Classification: D6, D82, G14

Suggested Citation

Lou, Youcheng and Li, Duan and Wang, Shouyang, Revisiting the Efficiency of Competitive Markets: The Incentive to Social Communication (December 23, 2017). Available at SSRN: https://ssrn.com/abstract=3092574 or http://dx.doi.org/10.2139/ssrn.3092574

Youcheng Lou

Chinese Academy of Sciences (CAS) - Academy of Mathematics and Systems Science ( email )

Beijing
China

Duan Li (Contact Author)

Chinese University of Hong Kong ( email )

Shatin, New Territories
Hong Kong

City University of Hong Kong

Tat Chee Avenue
Kowloon Tong
Kowloon
Hong Kong
852 3442 8591 (Phone)

Shouyang Wang

Chinese Academy of Sciences (CAS) - Center for Forecasting Science; Academy of Mathematics and Systems Sciences ( email )

China

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