Bubbles are rational

TL;DR

This paper argues that bubbles and escalations can be rational in an infinite world, challenging traditional views of equilibrium as stability, and proposes a new approach incorporating coinduction to better understand infinite economic games.

Contribution

It introduces a novel perspective that rationalizes bubbles using infinite game theory and proposes adding coinduction to economic reasoning.

Findings

Bubbles can be rational in infinite economic models.

Equilibrium does not necessarily imply stability.

A new methodological approach using coinduction is proposed.

Abstract

As we show using the notion of equilibrium in the theory of infinite sequential games, bubbles and escalations are rational for economic and environmental agents, who believe in an infinite world. This goes against a vision of a self regulating, wise and pacific economy in equilibrium. In other words, in this context, equilibrium is not a synonymous of stability. We attempt to draw from this statement methodological consequences and a new approach to economics. To the mindware of economic agents (a concept due to cognitive psychology) we propose to add coinduction to properly reason on infinite games. This way we refine the notion of rationality.