Economic Theories


While these ideas are self-created, I generally assume that it’s unlikely that I have come up with something that no one else has. Hence, I am wondering whether there are any official titles for these theories:

  1. Any economic theory which can predict the movement of money, once popularized, will work to change the movement of money until the theory is no longer true. (Can also be stated as: No economic theory will remain true, where it can be exploited for greater gain.)

  2. If a company uses dishonest or quasi-legal means to achieve a significantly cheaper or better product, other companies are obligated to do the same to stay competitive.

#1 is something like the Efficient Market Theory (or Rational Expectations but that is a bit broader).

#2 is called “Race to the bottom” though race to the bottom includes more than dishonest behavior.

OldGuy already mentioned Efficient Market Hypothesis

Another framework to consider is Nash Equilibrium

The wiki entry for EMH has no cross-reference to Nash Equilibrium. In my mind, there’s an overlap of behavioral concepts. If knew how to edit the wiki (and I had something insightful to say), I’d think it would be worth pointing that out.

#1 is not really the Efficient Market Hypothesis (EMH). Although there are several forms of the EMH, they all basically say that new information is rapidly incorporated into the price of a security. Thus, all securities are always fairly priced.

I believe market anomalies, specifically non-persistent market anomalies, are what the OP was thinking of. Once these become widely known, they often disappear as arbitrageurs capitalize upon them and force prices to converge.

For example, a famous market anomaly is the January Effect. Historically, stock prices tended to increase more than is warranted in January (this is often attributed to tax-loss selling in December - i.e., investors are selling in December to lock in gains and offsetting losses before the end of the tax year). As this anomaly became more widely know it began to diminish in significance as savvy investors would buy stocks in December only to sell them in January. This resulted in an increase in buying pressure in December (causing prices to increase) and an increase in selling pressure in January (causing prices to decrease). As more and more investors did this, eventually the December prices would increase (and the January prices decrease) to the point where no profits could be made (net of transaction costs). Instead of being able to buy low and sell high, investors would simply be buying middle and selling middle.

To state this simply:

     **market anomaly + arbitrage = no market anomaly

I’m not sure if there is a widely accepted name for this, though. “Erosion of market anomalies through arbitrage” explains it, but is not really a name. :slight_smile: