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ON THE EVOLUTIONARY STABILITY OF RATIONAL EXPECTATIONS

Published online by Cambridge University Press:  18 June 2013

William R. Parke  and
George A. Waters
William R. Parke
Affiliation:
University of North Carolina
George A. Waters*
Affiliation:
Illinois State University
*
Address correspondence to: George A. Waters, Department of Economics, Illinois State University, Normal, IL 61790-4200, USA; e-mail: gawater@ilstu.edu.
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Abstract

Evolutionary game theory provides a fresh perspective on the prospect that agents with heterogeneous expectations might eventually come to agree on a single expectation corresponding to the efficient markets hypothesis. We establish conditions under which agreement on a unique forecast is stable, but also show that persistent heterogeneous expectations can arise if those conditions do not hold. The critical element is the degree of curvature in the payoff weighting functions agents use to value forecasting performance. We illustrate our results in the context of an asset pricing model where a martingale solution competes with the fundamental solution for agents' attention.

Keywords

Rational ExpectationsHeterogeneous ExpectationsEvolutionary Game TheoryAsset PricingEfficient Markets Hypothesis
Type
Articles
Information
Macroeconomic Dynamics , Volume 18 , Issue 7 , October 2014 , pp. 1581 - 1606
Copyright
Copyright © Cambridge University Press 2013 

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