Heterogeneity, Selection and Wealth Dynamics

The market selection hypothesis states that, among expected utility maximizers, competitive markets select for agents with correct beliefs. In some economies this hypothesis holds, while in others it fails. It holds in complete market economies with a common discount factor and bounded aggregate consumption. It can fail when markets are incomplete, when consumption grows too quickly, or when discount factors and beliefs are correlated. These insights have implication for the general equilibrium modeling of asset prices and macroeconomic phenomena. “The trading floor is a jungle,” he went on, “and the guy you end up working for is your jungle leader. Whether you succeed here or not depends on knowing how to survive in the jungle.” Lewis (1989, pp. 39–40.)