Markets for information : of inefficient firewalls and efficient monopolies

In this paper we build a formal model to study market environments where information is costly to acquire and is of use also to potential competitors. In such situations a market for information may form, where reports - of unverifiable quality - over the information acquired are sold. A complete characterization of the equilibria of the game is provided. We find that information is acquired when its costs are not too high and in that case it is also sold, though reports are typically noisy. Also, the market for information tends to be a monopoly, and there is typically inefficiency given by underinvestment in information acquisition. Regulatory interventions in the form of firewalls, limiting the access to the sale of information to third parties, uninterested in trading the underlying object, only make the inefficiency worse. On the other hand, efficiency can be attained with a monopolist selling differentiated information, provided entry is blocked. The above findings hold when information has a prevalent horizontal differentiation component. When that is not the case, and the vertical differentiation element is more important, firewalls can in fact be beneficial

Value of Information in Competitive Economies with Incomplete Markets

A substantial literature addresses the negative effect on welfare of the release of information in a competitive market economy. We show that the value of information in this setting is typically positive if asset markets are sufficiently incomplete. More specifically, for any competitive equilibrium of a generic economy, we can find a finer information structure such that an allocation that is resource feasible and measurable with respect to this information ex-post Pareto dominates the given equilibrium allocation.Competitive Equilibrium, Incomplete Markets, Value of Information.

Decentralizing Incentive Efficient Allocations of Economies with Adverse Selection

We study competitive economies with adverse selection and fully exclusive contractual relationships. We consider economies where agents are privately informed over the probability distribution of their endowments, and trade to insure against this uncertainty. As in Prescott-Townsend (1984), we model exclusivity by imposing the incentive compatibility constraints directly on the agents' consumption possibility set. In this set-up, we identify the externality associated with the presence of adverse selection as a special form of consumption externality. We consider a structure of markets which allows to internalize such externality, for which we show that competitive equilibria exist and are incentive efficient. On the other hand, when this 'expanded' set of markets required to internalize such externality does not exist, competitive equilibria are shown to be, typically, not incentive efficient, but to satisfy an appropriately defined notion of third best efficiency. Appropriate versions of the second welfare theorem for these two market structures are also established.

Market Power and Information Revelation in Dynamic Trading

We study a strategic model of dynamic trading where agents are asymmetrically informed over common value sources of uncertainty. There is a continuum of uninformed buyers and a finite number of sellers, some of them informed. When there is only one seller, full information revelation never occurs in equilibrium and the only information transmission happens in the first period. The outcome with n sellers depends both on the structure of sellers' information and, more importantly, on the intensity of competition among them allowed by the trading rules. With intense competition (absence of clienteles), information is fully and immediately revealed to the buyers in every equilibrium for n large enough, both when all sellers are informed and when only one seller is informed. On the other hand, with a less intense form of competition (presence of clienteles), we always have equilibria where information is never fully revealed, whatever the number of sellers. Moreover in this case, when only one seller is informed, for many parameter configurations there are no equilibria with full information revelation, for any n.asymmetric information, information revelation, dynamic trading, oligopolistic competition, clienteles

Illiquidity and Under-Valuation of Firms

We study a competitive model in which market incompleteness implies that debt-financed firms may default in some states of nature and default may lead to the sale of the firms’ assets at fire sale prices when markets are illiquid. This incompleteness is the only friction in the model and the only cost of default. The anticipation of such losses alone may distort .rms.investment decisions. We characterize the conditions under which fire sales occur in equilibrium and their consequences on firms' investment decisions. We also show that endogenous financial crises may arise in this environment, with asset prices collapsing as a result of pure self-fulfilling beliefs. Finally, we examine alternative interventions to restore the efficiency of equilibria.illiquid markets, default, incomplete markets, price distortions, inefficient investment

Social Security and Risk Sharing

In this paper we identify conditions under which the introduction of a pay-as-you-go social security system is ex ante Pareto-improving in a stochastic overlapping generations economy with capital accumulation and land. We argue that these conditions are consistent with many calibrations of the model used in the literature. In our model financial markets are complete and competitive equilibria are interim Pareto e¢ cient. Therefore, a welfare improvement can only be obtained if agents' welfare is evaluated exante, and arises from the possibility of inducing, through social security, an improved level of intergenerational risk sharing. We will also examine the optimal size of a given social security system as well as its optimal reform. The analysis will be carried out in a relatively simple set-up, where the various effects of social security, on the prices of long-lived assets and the stock of capital, and hence on output, wages and risky rates of returns, can be clearly identified.Intergenerational Risk Sharing, Social Security, Ex Ante Welfare Improvements, Social Security Reform, Price E¤ects

Bankruptcy: Is It Enough to Forgive or Must we Also Forget?

In many countries, lenders are not permitted to use information about past defaults after a specified period of time has elapsed. We model this provision and determine conditions under which it is optimal. We develop a model in which entrepreneurs must repeatedly seek external funds to finance a sequence of risky projects under conditions of both adverse selection and moral hazard. We show that forgetting a default makes incentives worse, ex-ante, because it reduces the punishment for failure. However, following a default it is generally good to forget, because by improving an entrepreneur’s reputation, forgetting increases the incentive to exert effort to preserve this reputation. Our key result is that if agents are sufficiently patient, and low effort is not too inefficient, then the optimal law would prescribe some amount of forgetting — that is, it would not permit lenders to fully utilize past information. We also argue that forgetting must be the outcome of a regulatory intervention by the government — no lender would willingly agree to ignore information available to him.Bankruptcy, Information, Incentives, Fresh Start

Efficient Competitive Equilibria with Adverse Selection

Do Walrasian markets function orderly in the presence of adverse selection? In particular, is their outcome efficient? This paper addresses these questions in the context of a Rothschild and Stiglitz insurance economy. We identify an externality associated with the presence of adverse selection as a special form of consumption externality. Consequently, we show that while competitive equilibria always exist, they are not typically incentive efficient. However, as markets for pollution rights can internalize environmental externalities, markets for consumption rights can be designed so as to internalize the consumption externality due to adverse selection. With such markets competitive equilibria exist and are always incentive efficient. Moreover, any incentive efficient allocation can be decentralized as a competitive equilibrium.