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Contagion in Experimental Financial Markets

Author

Listed:
  • Suren Vardanyan
Abstract
We experimentally study the possibility that news of a crisis in one market may cause a contagious crisis in another market though there are no links between those markets. Literature provides models of contagion in which news of a crisis may cause contagion in Bandwagon and Strategic risk channels; however, these models lack empirical evidence. The reason may be that it is difficult to isolate the effect of news of a crisis in real data, as markets are linked in many ways. To our knowledge this is the first research into contagious effects of the news of a crisis. We modify the influential experimental design of Smith et al. (1988) to construct an environment in which two separate markets are traded simultaneously, and there is no link between these markets other than possibility of observing prices in the other market. We create a crisis in one market by simulating a price drop in that market and observe whether prices in the other market drop in a contagious manner. Our results show that news of a crisis is a significant source of contagion and the Bandwagon channel is significant, while the Strategic risk channel is not. Further, news of a crisis may cause contagion in channels other than Bandwagon and Strategic risk; however, we do not identify which channels in the present study, leaving it for future research.

Suggested Citation

  • Suren Vardanyan, 2016. "Contagion in Experimental Financial Markets," CERGE-EI Working Papers wp580, The Center for Economic Research and Graduate Education - Economics Institute, Prague.
    • Handle: RePEc:cer:papers:wp580
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    File URL: http://www.cerge-ei.cz/pdf/wp/Wp580.pdf
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    References listed on IDEAS

    as
    1. Eichengreen, Barry & Rose, Andrew K & Wyplosz, Charles, 1996. "Contagious Currency Crises," CEPR Discussion Papers 1453, C.E.P.R. Discussion Papers.
    2. repec:bla:scandj:v:98:y:1996:i:4:p:463-84 is not listed on IDEAS
    3. Eizo Akiyama & Nobuyuki Hanaki & Ryuichiro Ishikawa, 2017. "It is Not Just Confusion! Strategic Uncertainty in An Experimental Asset Market," Economic Journal, Royal Economic Society, vol. 127(605), pages 563-580, October.
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    6. Aloui, Riadh & Aïssa, Mohamed Safouane Ben & Nguyen, Duc Khuong, 2011. "Global financial crisis, extreme interdependences, and contagion effects: The role of economic structure?," Journal of Banking & Finance, Elsevier, vol. 35(1), pages 130-141, January.
    7. Li Qi & Jack Ochs, 2009. "Information Use and Transference among Legally Separated Share Markets— An Experimental Approach," Southern Economic Journal, John Wiley & Sons, vol. 76(1), pages 99-129, July.
    8. Toni Ahnert & Christoph Bertsch, 2022. "A Wake-Up Call Theory of Contagion [Asymmetric business cycles: theory and time-series evidence]," Review of Finance, European Finance Association, vol. 26(4), pages 829-854.
    9. Goldstein, Itay & Pauzner, Ady, 2004. "Contagion of self-fulfilling financial crises due to diversification of investment portfolios," Journal of Economic Theory, Elsevier, vol. 119(1), pages 151-183, November.
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    More about this item

    Keywords

    asset market; contagion; experiment;
    All these keywords.

    JEL classification:

    • C92 - Mathematical and Quantitative Methods - - Design of Experiments - - - Laboratory, Group Behavior
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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