Information aggregation in markets
How do markets aggregate information?
Markets are thought to readily aggregate dispersed information. This theory of "wisdom of the crowds" has inspired real-world prediction markets, and underpins the faith of finance scholars and practitioners in market prices as the "best" estimate of true value. There is a fundamental problem with this however. If markets are uniformly better than individuals, why would any individual rely on his or her bit of information? But if nobody uses own information, the price cannot possibly reveal any information. Martin Hellwig posed this problem in the early 80s, and we have recently found experimental evidence that the problem is real. We have been conducting experiments to delineate the scope and magnitude of this problem.