Herding or wisdom of the crowd? Controlling efficiency in a partially rational financial market

Herding has often been blamed as one of the possible causes of market instabilities, ultimately yielding to bubbles and crushes. On the other hand, researchers hypothesized that financial systems may benefit from the so-called wisdom of the crowd. To solve this apparent dichotomy, we leverage a nove...

Full description

Saved in:
Bibliographic Details
Published in:PloS one 2020-09, Vol.15 (9), p.e0239132-e0239132
Main Authors: Della Rossa, Fabio, Giannini, Lorenzo, DeLellis, Pietro
Format: Article
Language:English
Subjects:
Analysis
Behavior
Bids
Biology and Life Sciences
Computer and Information Sciences
Control stability
Crowds
Decision making
Economic efficiency
Economic research
Efficiency
Efficient markets
Electrical engineering
Expectations
Financial markets
Financial systems
Herding
Information technology
Investors
Market prices
Markets
Physical Sciences
Prediction markets
Research and Analysis Methods
Securities markets
Social interaction
Social Sciences
Citations: Items that this one cites
Items that cite this one
Online Access:Get full text
Tags: Add Tag
No Tags, Be the first to tag this record!
Description
Summary:Herding has often been blamed as one of the possible causes of market instabilities, ultimately yielding to bubbles and crushes. On the other hand, researchers hypothesized that financial systems may benefit from the so-called wisdom of the crowd. To solve this apparent dichotomy, we leverage a novel financial market model, where the agents form their expectations by combining their individual return estimation with the expectations of their neighbors. By establishing a link between herding, sociality, and market instabilities, we point out that the emergence of collective decisions in the market is not necessarily detrimental. Indeed, when all the agents tend to conform their expectations to those of one or few leaders, herding might dramatically reduce market efficiency. However, when each agent accounts for a plurality of opinions, thus following the wisdom of the crowd, market dynamics become efficient. Following these observations, we propose two alternative control strategies to reduce market instability and enhance its efficiency.
ISSN:1932-6203
1932-6203
DOI:10.1371/journal.pone.0239132