Information Cascade and the Stock Market
In this article, the writer states that stock prices are divorcing from the company’s actions. When the price is rising, more people buy the stocks and drive the price even higher. When the price is dropping, people sell them and the drive the price down. Equilibrium isn’t formed in the stock market and underlaying values aren’t being considered. The information cascade forms easily on the stock market. People follow other people’s decision without considering their personal expectations of the stock and checking the company’s status themselves.
The author also mentions that information cascade plays an important role in financial crisis. In 2011, while the leaders of the euro-zone countries had meetings to prevent a negative cascade about the value of government debt in European economies, European stocks were holding flat. However, if the leaders failed to come up with an agreement, traders would repurchase the secondary market bonds to break the European Central Bank’s commitment of keeping spread low. If some traders shorted Italian debt successfully, others would take the same action and the prices would drop dramatically.
Technology makes the information cascade form much faster than before, which lead to a more unified global society. There will be more positive or negative feedback loops, less attention on self-aggravating mass phenomena, and things more likely to cycle wildly between various extremes.