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Documento de trabajo

Managing Overreaction During a Run

  • person Caio Machado

  • class Documento de Trabajo IE-PUC 574, 2023

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.

JEL Classifications: D84, D91, G41.
Keywords: global games, overreaction, diagnostic expectations, runs.