RATIONAL BEHAVIOR AND RATIONAL-EXPECTATIONS

This paper presents a new definition of rational expectations equilibrium in security markets, characterized by a rigorous treatment of the decision problem facing each agent. A rational expectations equilibrium is one in which it is common knowledge among the agents that all of them are rational and that the price observed is the market clearing price. The paper shows that such equilibria always exist and that they need not have the property that for generic economies the equilibrium price reveals all economically relevant information. The paper also shows that the new definition generalizes existing definitions of rational expectations equilibrium. © 1990.