Published online by Cambridge University Press: 07 October 2011
This chapter is devoted to a comparison of the macroeconomic literature on rational expectations with the finance literature on the information content of prices and to a discussion of the effects of an economy-wide capital market on the aggregate–relative confusion.
The similarities and differences between the multimarkets rational expectations models used in macroeconomic analysis and the finance models in which prices aggregate information are discussed in Section 2. Section 3 focuses on the modifications that occur in the basic multimarkets model of Chapters 3, 4, and 6 in the presence of an economy-wide capital market.
Aggregation of information by prices and the aggregate–relative confusion
The multimarkets model used in Chapters 3–6 to illustrate the implications of the aggregate–relative confusion bears more than a token resemblance to the finance models discussed in Sections 3–5 of Chapter 2 in which prices aggregate private information. In both cases individuals learn some relevant information from market prices; however, in the macroeconomic framework individuals typically obtain only partial information from prices so that some confusion between aggregate and relative shocks persists. In the finance literature there are, by contrast, some cases in which market prices are fully revealing. This section discusses the methodological similarities and differences between the two classes of models.
In both the macroeconomic and the finance literature the basic premise is that individuals come to the market with initially different information sets, and that the equilibriums that arise have to be self-fulfilling.