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New Perspectives on Asset Price Bubbles$
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Douglas D. Evanoff, George G. Kaufman, and A. G. Malliaris

Print publication date: 2012

Print ISBN-13: 9780199844333

Published to Oxford Scholarship Online: April 2015

DOI: 10.1093/acprof:osobl/9780199844333.001.0001

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PRINTED FROM OXFORD SCHOLARSHIP ONLINE (oxford.universitypressscholarship.com). (c) Copyright Oxford University Press, 2021. All Rights Reserved. An individual user may print out a PDF of a single chapter of a monograph in OSO for personal use. date: 24 July 2021

Struggling to Escape from “Assumption 14”

Struggling to Escape from “Assumption 14”

Chapter:
(p.341) Chapter 13 Struggling to Escape from “Assumption 14”
Source:
New Perspectives on Asset Price Bubbles
Author(s):

Benjamin M. Friedman

Publisher:
Oxford University Press
DOI:10.1093/acprof:osobl/9780199844333.003.0013

This chapter examines Assumption 14, proposed by Franklin Allen and Gary Gorton in their 1993 paper suggesting that “all agents know the structure of the model and the distributions of the random variables, but do not observe the particular realizations of random variables.” It considers the standard “rational expectations” assumption that has governed most economic analysis for the past forty years as well as the significance of Assumption 14 in the financial crisis of the late 2000s. It suggests that the financial crisis presents a strong challenge to the assumption of rationality employed in many of the analyses and the efficiency of the financial system to optimally allocate capital.

Keywords:   financial crisis, Assumption 14, Franklin Allen, Gary Gorton, random variables, rational expectations, economic analysis, rationality, financial system, capital

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