Strategic decisions taken during financial instability periods are directly influenced by the competitive environment in which actors are evolving. In the highly financialized context in which they proceed, firms are moving in a half light. The rational expectations hypothesis no longer stands relevant when the information made available to actors is incomplete. The aim of this paper is to discuss how in such a situation, firms and banks interact using uncertain profit expectations, and then feed financial crises.
The paper pinpoints the key role played by a competitive environment on firms' and banks' strategic governance, by discussing a cognitive or experience linked expectations model. It then focuses on the free play of behavior in these enhanced competitive spaces.
Once admitted the irrelevancy of the rational expectations hypothesis, an optimal way of characterizing expectations under uncertainty is proposed. This solution helps to illustrate how the free play of banks and firms in today's enhanced competitive spaces generate systematic escalations on the markets.
Financial governance would gain more from being steered towards a more explicit consideration of speculative behaviors: the cognitive or experience linked expectations model proposed in this paper is a first attempt to discuss this question.
