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SHAKEOUTS AND MARKET CRASHES *
Author(s) -
Barbarino Alessandro,
Jovanovic Boyan
Publication year - 2007
Publication title -
international economic review
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 2.658
H-Index - 86
eISSN - 1468-2354
pISSN - 0020-6598
DOI - 10.1111/j.1468-2354.2007.00432.x
Subject(s) - optimism , crash , economics , stock market , stock market crash , stock (firearms) , moral hazard , financial economics , monetary economics , microeconomics , incentive , computer science , mechanical engineering , psychology , social psychology , paleontology , horse , engineering , biology , programming language
This article provides a microfoundation for the rise in optimism that seems to precede market crashes. Small, young markets are more likely to experience stock‐price run‐ups and crashes. We use a Zeira–Rob type of model in which demand size is uncertain. Optimism then grows rationally if traders' prior distribution over market size has a decreasing hazard. Such prior beliefs are appropriate if most new markets are duds and only a few reach a large size. The crash occurs when capacity outstrips demand. As an illustration, for the period 1971–2001 we fit the model to the Telecom sector.