Discussion paper

DP7652 Trading Frenzies and Their Impact on Real Investment

We study a model where a capital provider learns from the price of a firm?s security in deciding how much capital to provide for new investment. This feedback effect from the financial market to the investment decision gives rise to trading frenzies, where speculators all wish to trade like others, generating large shifts in prices and firms? investments. Coordination among speculators is sometimes desirable for price informativeness and investment efficiency, but speculators? incentives push in the opposite direction, so that they coordinate exactly when it is undesirable. We analyze the determinants of coordination among speculators and study policy measures that affect patterns of coordination to improve price informativeness and investment efficiency.

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Citation

Goldstein, I, K Yuan and E Ozdenoren (2010), ‘DP7652 Trading Frenzies and Their Impact on Real Investment‘, CEPR Discussion Paper No. 7652. CEPR Press, Paris & London. https://cepr.org/publications/dp7652