The Transition from Brownian Motion to Boom-and-Bust Dynamics in Financial and Economic Systems

TL;DR

This paper demonstrates how herding effects among agents can induce a transition from stable quasi-equilibrium to boom-and-bust dynamics in financial and economic systems, challenging traditional assumptions.

Contribution

It introduces a simplified market model showing herding-induced transitions, bridging agent-based behavior with macroeconomic boom-bust phenomena.

Findings

Herding effects can cause systemic transitions to boom-and-bust dynamics.

The model acts as a stochastic particle system with switching and reinjection.

Traditional quasi-equilibrium models may overlook critical herding-induced instabilities.

Abstract

Quasi-equilibrium models for aggregate variables are widely-used throughout finance and economics. The validity of such models depends crucially upon assuming that the systems' participants behave both independently and in a Markovian fashion. We present a simplified market model to demonstrate that herding effects between agents can cause a transition to boom-and-bust dynamics at realistic parameter values. The model can also be viewed as a novel stochastic particle system with switching and reinjection.