# Tag Info

10

I have to intervene to say that market failure and externality are not the same thing. So I do not think it is at all correct to define market failure as when "the production or consumption of a good or service causes additional positive or negative externalities on a third party not involved in the economic activity". Externalities are but one example ...

8

The Rational Expectations Hypothesis (REH) is an hypothesis about aggregate expectations. I believe it is illuminating to post here a lengthy quote (part 2) from Muth (1961) paper where REH originated (bold letters are our emphasis): 2. THE "RATIONAL EXPECTATIONS" HYPOTHESIS Two major conclusions from studies of expectations data are the following: 1....

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The efficient market hypothesis does not imply that there are no patterns! As Eugene Fama pointed out decades ago, any test of market efficiency is a joint test of market efficiency and an asset pricing model. The EMH on its own is not a testable theory. If I understand your statement properly, you're claiming that forecasting variance would violate market ...

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The seminal paper in this area with over 3,000 citations is by Shleifer and Vishney: Textbook arbitrage in financial markets requires no capital and entails no risk. In reality, almost all arbitrage requires capital, and is typically risky. Moreover, professional arbitrage is conducted by a relatively small number of highly specialized investors ...

5

They don't have anything to do with each other. Use the superscript $e$ to denote "anticipated value" in whatever way it is formed. Then the Efficient Market Hypothesis states $$X^e_{t+1,market} = E(X_{t+1}\mid I_t)$$ In words, the value anticipated "by the market" equals the true expected value conditional on all information available at time $t$. So ...

5

We could expect the rational expectations hypothesis to hold, as long as errors were randomly distributed, without any systematic biases. The hypothesis becomes problematic, if we find systematic biases. We have found some systematic biases, thanks to behavioural economics experiments, and studies of risk. Some systematic biases: We are not asymmetric ...

5

I just want to build on @Alecos's nice answer. I'll restate some of what he said and add a few other details. tl;dr They don't have anything to do with each other. The assumption of efficient markets does not imply that asset prices follow a random walk and the random-walk assumption does not imply efficient markets. Due the "joint hypothesis theorem," the ...

5

Your description of the Efficient Market Hypothesis (EMH) is not correct. The EMH simply states that asset prices fully reflect all publicly-available information. It does not make the wild claim that: the market will find the best solution both in the short and in the long term. You write: It seems that market players are not investing in ensuring ...

5

The two propositions here are: EMH: I can't predict which stocks will do better than average. The average stock will increase in the long run. 1 does not contradict 2. Analogy: I am in a room full of babies. EMH: I can't predict which of these babies will be the tallest in 20 years. Nonetheless, I can predict that in 20 years, these babies will be taller ...

4

If I have understood correctly, the question asks what should we know so that we can determine the wage using only information on the unconstrained workers. Here is a toy static model: Let's say we have $N_u$ unconstrained workers and $N_c$ constrained workers. Each has a total labor endowment $t$. Worker population is denoted $N_c+N_u = N$. The ...

4

To answer your other question of what properly defines market failure: The market fails when the socially desirable outcome is not achieved through the market. Since the market decisions are made based on cost-benefit analysis, when social (net) cost/benefit = private (net) cost/benefit then private actors in a market will make the socially optimal decision....

3

Convexity of the production set is indeed not needed for the proof of the first welfare theorem but for the proof of the second welfare theorem. It is not a necessary condition though. It is possible to interpret this as an existence issue. The first welfare theorem is about all competitive equilibria and holds trivially if there are none. The second ...

3

Yes, Smith addresses these issues in Book 1 Chapter 10 of The Wealth of Nations. Firstly, he notes that where two jobs are in almost every respect equivalent, we should expect them to pay the same wage: "THE whole of the advantages and disadvantages of the different employments of labour and stock must, in the same neighbourhood, be either perfectly equal ...

3

NA, in my opinion, is the lack of a trading strategy to generate excess returns, that means returns greater than those of assets in the same risk category. Note that it doesn't mean no risk. A market is efficient, again in my own understanding, when all the contents of an information set are reflected in the market's assets prices. There are 3 forms of ...

3

Short answer: the market has a forecast of the government numbers but the market considers the actual government numbers to contain information not available to the market. Therefore when unemployment is lower than the market forecasts this indicates that on average things will be better than than the market forecast before the release. This is not to say ...

3

The Lo, Mamaysky and Wang paper Foundations of Technical Analysis: Computational Algorithms, Statistical Inference, and Empirical Implementation is probably the best investigation of this question. He found there were some patterns that seemed to be useful, notably the Head and Shoulders pattern.

3

The theory of efficient markets is that no one can make rewards that are in excess of the level reflected by the risk they are taking, except by random chance. So if markets can make mistakes, but not in a way that allows anyone to make disproportionate rewards except by random chance, then they can be highly efficient.

3

Suppose we have 100 jars, each with an unknown number of jelly beans. Denote these numbers $N_1$, $N_2$, $\dots$, $N_{100}$. Millions of contestants are invited to submit their guesses for what these 100 numbers are. For each $i=1,2,\dots,100$, let $G_i$ be the average of all the submitted guesses for the number $N_i$. Let us refer to these 100 average ...

2

One of the challenges to rational expectations is that it must be the case that the first moment exists for the variable of interest. This cannot be the case either for equity or equity-like investments, or economic growth. The assumption is that the marginal expectation, or possibly the average expectation is equal to the true value at some limit. For ...

2

Rational expectations seems to have a similar joint hypothesis problem as the efficient market hypothesis. In the efficient market hypothesis, this means "If efficiency is rejected, this could be because the market is truly inefficient or because an incorrect equilibrium model has been assumed." Similarly here, if rational expectations is rejected this could ...

2

What bdsl's comment means is this: Suppose there was a way for "experts" (here or anywhere else) to predict when the pound would start depreciating against the euro, and that this method predicted that it would begin to do so tomorrow. What would the experts do with this information? They would start selling pounds today in order to get out of the market at ...

2

Let's start with the statement - 'Consider the commodity exchange where the futures price of a commodity is determined by supply demand during trading hours and is not directly determined by the real price' first, this statement is not accurate. Not everyone that buy a commodity future ever intend to take delivery. Second, you need to look at financial ...

2

As you say the RWH is an implication of the EMH, but the other way doesn't necessarily hold. Consider the problem of predicting the value, $X$, of the stock market at time $t+1$. The random walk hypothesis says $$X_{t+1} = X_{t} + \epsilon_t$$ where $X_t$ is the value today and $\epsilon_t$ is a random variable. The EMH says the value tomorrow is the ...

2

At the outset, discovery does not equate availability. Huge amounts of platinum (or the material at issue) might be discovered, but that does not necessarily mean that its extraction is feasible or practicable with the currently available techniques. See here and here. Assuming that the discovered material is economically available, then supply would ...

2

I'm not very familiar with the history of the Rosetta Stone method, but as for your remark that "there are vastly inferior products on the market which are preferred to ones that are much better", here's some food for thought: It could be due to some type of lock-in effect (1, 2). This could be deliberate on the part of the vendors by spreading ...

2

I do not see the contradiction here: The stock indices generally increase in the long run, because of the growth of the global economy (or local economy in the case of one national index). This increase is believed to be about 4-6% per year in real terms (market premium + risk-free returns in real terms) on the long run. (global average) The EMH semi-strong ...

2

The EMH applies to assets, not just stocks, and its implications are more relevant for investors who own part of the market - not the entire thing. This is important, because it's the difference between looking at a closed system versus an open one, and between populations versus samples. People make money all the time by cycling between stocks, bonds, ...

1

The latest Freakonomics podcast topic Stupidest money may shed some light. I just quote part of the conversation from John Bogle: The markets are highly efficient — although, importantly, not perfectly efficient. Sometimes they’re very efficient and sometimes they’re not. It’s hard for we poor souls on Earth to know which is which It is a gamble ...

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By itself, no it does not, at least how I am understanding your post. While I am an opponent of the Efficient Market Hypothesis, what you would need to show is that there is a "free lunch," with your methodology. You would also have to show it persists out-of-sample and does so for decades. You would need to measure commissions as well. A $\$3\$ gain that ...

1

It does not make sense to compare a generic commodities future with a generic stock future, because neither of these things exist. Different derivatives have different volatilities, that much is true. The Black-Scholes model enables one to quantify how much volatility is priced into a derivative, as long as you know the price of the derivative, the ...

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