Managing Overreaction During a Run

Machado, Caio (2023): Managing Overreaction During a Run.

Abstract

This paper studies whether suspensions intended to provide a time-out for agents to digest incoming information attenuate runs, under the assumption that agents overreact to news and need time to properly process it. To do so, I embed diagnostic expectations into a standard global game model of runs. I show that during bad times, when bad public news arrives and/or investment returns are low, such policy actually amplifies runs, even in cases where almost all investors are receiving negative news and temporarily overreacting to it. During good times, the opposite result arises.

• Item Type: MPRA Paper
• Language: English
• Keywords: global games, overreaction, diagnostic expectations, runs
• Subjects: G - Financial Economics > G0 - General > G01 - Financial Crises

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