Modelling Asset Prices under Heterogeneous Beliefs
28 Pages Posted: 16 Oct 2019 Last revised: 27 Jul 2020
Date Written: June 7, 2020
Abstract
Asset pricing theorists have recently started to study the market impact of differences in beliefs among participants. The analysis is often carried out in the framework of Radner's perfect foresight ('rational expectations') equilibrium. Here, we study when this makes sense. In particular, we are concerned about clashes between perfect foresight (of future prices) and participants' own beliefs. Is it possible that perfect foresight may reveal to a participant that her beliefs are wrong? We show that a sufficient condition to avoid such clashes is if higher-order beliefs (about other participants' beliefs) are correct.
Keywords: Perfect Foresight, Rational Expectations Equilibrium, Heterogeneous Beliefs, Higher-Order Beliefs
JEL Classification: D53, G12, D84
Suggested Citation: Suggested Citation