Beauty contests and irrational exuberance
Subtitle: a neoclassical approach
By: George-Marios Angeletos, Guido Lorenzoni, Alessandro Pavan
Contributors: Lorenzoni, Guido; Pavan, Alessandro; National Bureau of Economic Research
Series: NBER working paper series -- working paper 15883; Working paper series (National Bureau of Economic Research : Online) -- working paper no. 15883.
Publisher: National Bureau of Economic Research
Published: 2010
Place of publication: Cambridge, MA
Language: eng
Format: Electronic resource
Description: "The arrival of new, unfamiliar, investment opportunities is often associated with "exuberant" movements in asset prices and real economic activity.  During these episodes of high uncertainty, financial markets look at the real sector for signals about the profitability of the new investment opportunities, and vice versa.  In this paper, we study how such information spillovers impact the incentives that agents face when making their real economic decisions.  On the positive front, we find that the sensitivity of equilibrium outcomes to noise and to higher-order uncertainty is amplified, exacerbating the disconnect from fundamentals.  On the normative front, we find that these effects are symptoms of constrained inefficiency; we then investigate policies that can improve welfare in our model without any informational advantage on the government's part.  At the heart of these results is a distortion that induces a conventional neoclassical economy to behave as a Keynesian "beauty contest" and to exhibit fluctuations that may look like "irrational exuberance" to an outside observer"--National Bureau of Economic Research web site.
Notes: Title from PDF file as viewed on 4/13/2010.

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