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Transaction costs and informational cascades in financial markets

Cipriani, M.; Guarino, A.; (2008) Transaction costs and informational cascades in financial markets. Journal of Economic Behavior & Organization , 68 (3-4) pp. 581-592. 10.1016/j.jebo.2008.08.001.

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We study the effect of transaction costs (e.g., a trading fee or a transaction tax, like the Tobin tax) on the aggregation of private information in financial markets. We implement a financial market with sequential trading and transaction costs in the laboratory. According to theory, eventually all traders neglect their private information and abstain from trading (i.e., a no-trade informational cascade occurs). We find that, in the experiment, informational no-trade cascades occur when theory predicts they should (i.e., when the trade imbalance is sufficiently high). At the same time, the proportion of subjects irrationally trading against their private information is smaller than in a financial market without transaction costs. As a result, the overall efficiency of the market is not significantly affected by the presence of transaction costs.

Type: Article
Title: Transaction costs and informational cascades in financial markets
DOI: 10.1016/j.jebo.2008.08.001
Publisher version: http://dx.doi.org/10.1016/j.jebo.2008.08.001
Language: English
UCL classification: UCL > Provost and Vice Provost Offices > UCL SLASH > Faculty of SandHS > Dept of Economics
URI: http://discovery.ucl.ac.uk/id/eprint/16556
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