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Journal of Economic Interaction and Coordination

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01.10.2015 | Regular Article

Share price formation, market exuberance and financial stability under alternative accounting regimes

verfasst von: Yuri Biondi, Pierpaolo Giannoccolo

Erschienen in: Journal of Economic Interaction and Coordination | Ausgabe 2/2015

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Abstract

This paper develops a theoretical analysis of share market price formation driven by accounting and market structures. Heterogeneous investors are assumed to discover and process fundamental information disclosed by accounting system of share-issuing entity. Information set available to share market investors for decision-making comprises then market-driven and firm-specific (non-market) information. On the one side, accounting system provides collective signal of fundamental information; on the other side, price system provides collective signal of market-driven information over time. Both jointly drive the formation of aggregate share market prices through limited knowledge, hazard, and social interaction. Numerical simulations are provided under alternative accounting designs (namely, historical cost and fair value accounting regimes), to derive implications and recommendations for the concept and occurrence of speculative bubbles and herd behavior; the cyclical effects of accounting regime on share market dynamics; and the “value relevance” of accounting information and its role in the formation of share market prices over time. This numerical statistical analysis contributes to shed light on accounting anomalies and fundamental analysis.

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Emergency Economic Stabilization Act of 2008, 3 October 2008, Sec. 132. Authority to suspend mark-to-market accounting: “(a) AUTHORITY—The Securities and Exchange Commission shall have the authority under the securities laws (as such term is defined in section 3(a)(47) of the Securities Exchange Act of 1934 (15 U.S.C. 78c(a)(47)) to suspend, by rule, regulation, or order, the application of Statement Number 157 of the Financial Accounting Standards Board [concerned with fair value measurements, NdA] for any issuer (as such term is defined in section 3(a)(8) of such Act) or with respect to any class or category of transaction if the Commission determines that is necessary or appropriate in the public interest and is consistent with the protection of investors.” Analogous decisions were taken by European authorities thereafter.

Our analysis distinguishes system and equilibrium as distinctive concepts (Shubik 1993; Foley 1994; Biondi 2013).

Accounting studies analyse an ‘unconstrained relationship’ when they delegate their implicit model of reference to applied econometric methods (usually linear regressions). They analyse a ’constrained relationship’ when they explicitly introduce a model which generates hypotheses (and restrictions) on the parameters to be estimated.

See also Nichols and Wahlen (2004), Bissessur and Hodgson (2012).

A further extension may develop a two-step modeling strategy, moving from fundamentals (\(Y\)) to further design the ways to represent them through accounting reporting and disclosure (\(f\)).

For sake of simplicity, we consider mark-to-market accounting and fair value accounting synonymously, under the label FVA. While mark-to-market accounting implies the use of observable market prices to measure current value of every asset and liability, fair value accounting includes the recourse to observable and unobservable inputs to reproduce that value.

This is not less restrictive than the widespread hypothesis of a fixed discount rate on the whole time period of analysis.

This model of price expectation \(E_{S_{t,I}}\left( p_{t+1}\right) \) results from a combination between a “first order adaptive model”: \(E_{t}(P_{t+1})=E_{t-1}(P_{t})+\beta ^{\prime }\left( P_{t}-E_{t-1}(P_{t})\right) \) where \(\beta ^{\prime }\) weights the revision of the most recent expectation error, and an “extrapolative expectation model”: \(E_{t}(P_{t+1})-(P_{t})=\gamma (P_{t}-P_{t-1})\) where \(\gamma \) weights the most recent price change (trend). With \(\gamma >0\), any market price increase results in increasing the price expectation.

This is equivalent to set \(\beta _{i}=0\) in Eq. (3), implying an “extrapolative expectation model” outside the market. This hypothesis increases heterogeneity between investors but remains a minor analytical assumption that is not critical for our theoretical frame or simulation findings.

A further extension may analyze changing pattern of individual price expectation, by considering transaction and information-treatment costs, as well as revision of individual parameters (including \(\varphi _{i}\)) according to individual learning or social interaction over time (Frydman and Goldberg 2008; Biondi et al. 2012). Biondi and Righi (2013) investigate simulation results across parameter space of \(\alpha _{j,t}\) (\(j=S,D\)) that is then assumed to depend on dominant market mood expressed by supply and demand sides through time.

This random error \(\epsilon _{t}\) could result here from the working of a drunk auctioneer!

Bubbles cannot be defined here through a collective concept of fundamental value that does no longer exist. They may be denoted according to the stability and resilience of share price formation over time.

After all, if all investors know (agree on) one unique fundamental value, why do they still need a share market to perform price-fixing and trades?

Biondi et al. (2012) further analyse a specific evolution of interacting individual opinions by allowing \(\alpha _{t}^{j}\) to vary across periods \(t\) according to the Galam model of social opinion dynamics.

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Titel: Share price formation, market exuberance and financial stability under alternative accounting regimes
verfasst von: Yuri Biondi
Pierpaolo Giannoccolo
Publikationsdatum: 01.10.2015
Verlag: Springer Berlin Heidelberg
Erschienen in: Journal of Economic Interaction and Coordination / Ausgabe 2/2015
Print ISSN: 1860-711X
Elektronische ISSN: 1860-7128
DOI: https://doi.org/10.1007/s11403-014-0131-7

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