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Traders, forecasters and financial instability: A model of individual learning of anchor-and-adjustment heuristics

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  • Makarewicz, Tomasz

Abstract

Bao et al. (2017) show that in laboratory subjects have problems with both trading an experimental asset and forecasting its price. In this paper I explore these experimental results, by investigating a model in which financial traders individually learn how to use forecasting and/or trading anchor and adjustment heuristics, by updating them with Genetic Algorithms. The model replicates main outcomes of the Bao et al. (2017) experiment, and shows that both forecasters and traders coordinate on asset price oscillations, albeit the trading markets generate larger cycles. Both forecasters and traders learn to chase market trends, and this behavior is reinforced when agents have to perform both tasks. As a result, the famous positive feedback between financial expectations and price trends becomes enhanced and markets generate prices that oscillate between 10% and 350% of the fundamental value.

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  • Makarewicz, Tomasz, 2021. "Traders, forecasters and financial instability: A model of individual learning of anchor-and-adjustment heuristics," Journal of Economic Behavior & Organization, Elsevier, vol. 190(C), pages 626-673.
    • Handle: RePEc:eee:jeborg:v:190:y:2021:i:c:p:626-673
    DOI: 10.1016/j.jebo.2021.07.008
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    More about this item

    Keywords

    Financial instability; Learning-to-Forecast and Learning-to-optimize experiments; Genetic algorithm model of individual learning;
    All these keywords.

    JEL classification:

    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods
    • C63 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Computational Techniques
    • C91 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Individual Behavior
    • D03 - Microeconomics - - General - - - Behavioral Microeconomics: Underlying Principles
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • D84 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Expectations; Speculations

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