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Unrealized arbitrage opportunities in naive equilibria with non-Bayesian belief processes
A non-Bayesian decision maker forms posterior beliefs through an – ever so slightly – violation of Bayes’ rule. A naive equilibrium is a competitive equilibrium for a multiperiod complete markets economy such that every economic agent – Bayesian or non-Bayesian – assumes that all economic agents are Bayesian decision makers. If all agents are indeed Bayesian decision makers, the naive equilibrium coincides with the standard concept of an arbitrage-free equilibrium for which dynamic price ratios are comprehensively pinned down as the equilibrium price ratios of Arrow–Debreu securities in a static economy. If at least one agent is a non-Bayesian decision maker, however, some equilibrium price ratios will change over time. These changing price ratios imply the existence of unrealized dynamic arbitrage opportunities in a naive equilibrium with non-Bayesian decision makers.
Description:
DATA AVAILABILITY : No data was used for the research described in the article.