Center for Economic Research, Department of Economics, University of Minnesota
Markets have the capacity to resolve complex coordination problems. Hayek  asked
how privately held market information is organized through the trading process to arrive at
competitive equilibrium. We propose strategies for sellers and buyers in a double auction
(DA) market that result in transaction prices at or near competitive equilibrium in a variety
of market environments.
A large experimental literature documents convergence in many market environments to
competitive equilibrium, but the theoretical literature treating the bargaining behavior in
this institution is relatively small, and the models presented to date do not account for the
many regularities observed in the data from experiments. We provide a model that accounts
for several important regularities of double auction data.
We model an informationally decentralized decision making procedure for sellers and buyers.
Sellers form beliefs that an ask will be taken by some buyer. Similarly, buyers form beliefs
that a bid will be taken by a seller. These beliefs are formed on the basis of observed market
data, including frequencies of asks, bids, accepted asks, and accepted bids. Then traders
choose an action that maximizes their own expected surplus. While traders in this model
form beliefs about the probability that a given action they choose will result in a transaction,
they have no beliefs about the types (costs or valuations) or strategies of other traders. The
trading activity resulting from these beliefs is sufficient to achieve transaction prices near
competitive equilibrium and complete market efficiency after several periods of trading.
Gjerstad, S. and Dickhaut, J., (1995), "Price Formation in Double Auctions", Discussion Paper No. 284, Center for Economic Research, Department of Economics, University of Minnesota.
Gjerstad, Steven; Dickhaut, John.
Price Formation in Double Auctions.
Center for Economic Research, Department of Economics, University of Minnesota.
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