Market Selection with Idiosyncratic Uncertainty

39 Pages Posted: 14 May 2018 Last revised: 18 Apr 2019

Date Written: April 17, 2019

Abstract

I analyze the survival probabilities of different types of agents in a general equilibrium model with disagreement over idiosyncratic uncertainties. I find that such biases create a separation between individual and group level survival: even when the survival probability of a single irrational agent tends to zero, these agents may still succeed as a whole. Effectively the irrational agent population can survive due to a vanishingly small group of increasingly rich agents. Disagreement over idiosyncratic uncertainties distorts savings decisions and interest rates, but idiosyncratic risks are not priced. Simulations confirm that the limiting results are relevant when the population of irrational agents is large.

Keywords: Market Selection Hypothesis, Heterogeneous Beliefs, General Equilibrium

JEL Classification: D51, D84, G12

Suggested Citation

Sihvonen, Markus, Market Selection with Idiosyncratic Uncertainty (April 17, 2019). Journal of Economic Theory, Forthcoming, Available at SSRN: https://ssrn.com/abstract=3170862 or http://dx.doi.org/10.2139/ssrn.3170862

Markus Sihvonen (Contact Author)

Bank of Finland ( email )

P.O. Box 160
Helsinki 00101
Finland

HOME PAGE: http://sites.google.com/site/mesihvonen/

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