Skip to main content

Financial Crises as Herds: Overturning the Critiques

Staff Report 316 | Published April 1, 2003

Download PDF


Patrick J. Kehoe Monetary Advisor
V. V. Chari Consultant
Financial Crises as Herds: Overturning the Critiques


Financial crises are widely argued to be due to herd behavior. Yet recently developed models of herd behavior have been subjected to two critiques which seem to make them inapplicable to financial crises. Herds disappear from these models if two of their unappealing assumptions are modified: if their zero-one investment decisions are made continuous and if their investors are allowed to trade assets with market-determined prices. However, both critiques are overturned—herds reappear in these models—once another of their unappealing assumptions is modified: if, instead of moving in a prespecified order, investors can move whenever they choose.

Published in: _Journal of Economic Theory_ (Vol. 119, No. 1, November 2004, pp. 128-150)