Publications

Information, Market Power and Welfare, Journal of Economic Theory (2023), 214:105756 (with Youcheng Lou). [DOI]

We study the market for a risky asset in which traders are heterogeneous both in terms of their value for the asset and the information that they have about this value. Traders behave strategically and use the equilibrium price to extract information that is relevant to them. Due to adverse selection, uninformed traders are less willing than the informed to provide liquidity.  We evaluate the impact of a change in the size or composition of the investor population on price informativeness, liquidity and welfare, with applications to the rise of passive investing and the adoption of ESG standards.

Information Acquisition with Heterogeneous Valuations, Journal of Economic Theory (2021), 191:105155. [DOI]

We study the market for a risky asset with uncertain heterogeneous valuations. Agents seek to learn about their own valuation by acquiring private information and making inferences from the equilibrium price. As agents of one type gather more information, they pull the price closer to their valuation and further away from the valuations of other types. Thus they exert a negative learning externality on other types. This in turn implies that a lower cost of information for one type induces all agents to acquire more information. Private information production is typically not socially optimal. In the case of two types who differ in their cost of information, we can always find a Pareto improvement that entails an increase in the aggregate amount of information, with a higher proportion produced by the low-cost type.

Information Acquisition, Price Informativeness, and Welfare, Journal of Economic Theory (2018), 177:558-593 (with Jean-Pierre Zigrand). [DOI]

We consider the market for a risky asset with heterogeneous valuations. Private information that agents have about their own valuation is reflected in the equilibrium price. We study the learning externalities that arise in this setting, and in particular their implications for price informativeness and welfare. When private signals are noisy, so that agents rely more on the information conveyed by prices, discouraging information gathering may be Pareto improving. Complementarities in information acquisition can lead to multiple equilibria.

Walrasian Foundations for Equilibria in Segmented Markets,  Mathematics and Financial Economics (2014), 8:249-264 (with Jean-Pierre Zigrand). [DOI]

We study a CAPM economy with segmented financial markets and competitive arbitrageurs who link these markets. We show that the equilibrium of the arbitraged economy is Walrasian in the sense that it coincides with the equilibrium of an appropriately defined competitive economy with no arbitrageurs. This characterization serves to clarify the role that arbitrageurs play in integrating markets.

Value of Information in Competitive Economies with Incomplete Markets, International Economic Review (2014), 55:57-81 (with Piero Gottardi). [DOI]

We study the value of public information in competitive economies with incomplete markets. We show that generically the welfare effect of a change in the information available prior to trading can be in any direction: There exist changes in information that make all agents better off and changes for which all agents are worse off. In contrast, for any change in information, a Pareto improvement is feasible, that is, attainable by a planner facing the same informational and asset market constraints as agents. In this sense, the response of competitive markets to changes in information is typically not socially optimal.

Risk Sharing and Retrading in Incomplete Markets,  Economic Theory (2013), 54:287-304 (with Piero Gottardi). [DOI]

At a competitive equilibrium of an incomplete-markets economy agents’ marginal valuations for the tradable assets are equalized ex-ante. We characterize the finest partition of the state space conditional on which this equality holds for any economy. This leads naturally to a necessary and sufficient condition on information that would lead to retrade, if such information were to become publicly available after the initial round of trade. 

Strategic Financial Innovation in Segmented Markets,  Review of Financial Studies (2009), 22:2941-2971 (with Jean-Pierre Zigrand). [DOI]

We study an equilibrium model with restricted investor participation in which strategic arbitrageurs reap profits by exploiting mispricings across different market segments. We endogenize the asset structure as the outcome of a security design game played by the arbitrageurs. The equilibrium asset structure depends realistically upon considerations such as depth and gains from trade. It is neither complete nor socially optimal in general; the degree of inefficiency depends upon the heterogeneity of investors. 

Informed Trading, Investment, and Welfare,  Journal of Business (2003), 76:439-454 (with James Dow).

This paper studies the welfare economics of informed stock market trading, in a model in which all agents are rational and trade either to exploit information or to hedge risk. We analyze the effect of more informative prices on investment, given that this dependence will itself be reflected in equilibrium prices. Agents understand that asset prices may influence corporate investment decisions, and condition their trades on prices. We present both a general framework, and a parametric version that allows a closed-form solution. While a higher incidence of informed speculation always increases firm value through a more informative trading process, the effect on agents’ welfare depends on how revelation of information changes risk-sharing opportunities in the market. Greater revelation of information that agents wish to insure against reduces their hedging opportunities (the Hirshleifer effect). On the other hand, early revelation of information that is uncorrelated with hedging needs allows agents to construct better hedges.  

Should Speculators be Taxed?,  Journal of Business (2000), 73:89-107 (with James Dow).

A number of economists have supported the taxation of speculation in financial markets. We examine the welfare economics of such a tax in a model of a financial market where some agents have superior information and others have a hedging motive. We show that a tax on speculators may actually increase speculative profits. This occurs if the speculators’ benefit from less informative prices offsets the cost of the tax. The effect on the welfare of other agents depends on how information revelation changes risk-sharing opportunities. It is possible for the introduction of a tax to cause a Pareto improvement.   

Information Revelation and Market Incompleteness,   Review of Economic Studies (2000), 67:563-579 (with José M. Marín).

This paper introduces a theory of market incompleteness based on the information transmission role of prices and its adverse impact on the provision of insurance in financial markets. We analyse a simple security design model in which the number and payoff of securities are endogenous. Agents have rational expectations and differ in information, endowments, and attitudes toward risk. When markets are incomplete, equilibrium prices are typically partially revealing, while full revelation is attained with complete markets. The optimality of complete or incomplete markets depends on whether the adverse selection effect (the unwillingness of agents to trade risks when they are informationally disadvantaged) is stronger or weaker than the Hirshleifer effect (the impossibility of trading risks that have already been resolved), as new securities are issued and prices reveal more information. When the Hirshleifer effect dominates, an incomplete set of securities is preferred by all agents, and generates a higher volume of trade.

Speculative Securities,  Economic Theory (1999), 14:653-668 (with José M. Marín).

A speculative security is an asset whose payoff depends in part on a random shock uncorrelated with economic fundamentals (a sunspot) about which some traders have superior information. In this paper we show that agents may find it desirable to trade such a security in spite of the fact that it is a poorer hedge against their endowment risks at the time of trade, and has an associated adverse selection cost. In the specific institutional setting of innovation of futures contracts, we show that a futures exchange may not have an incentive to introduce a speculative security even when all traders favor it. 

Adverse Selection and Security Design,   Review of Economic Studies (1996), 63:287-300.

This paper studies the problem of optimal security design by a privately informed entrepreneur. In the context of a simple parametric model, it is shown that the entrepreneur does not find it profitable to float an asset that affords her an informational advantage. The reason is that, with rational, uninformed outside investors, the entrepreneur faces adverse selection in the security market, which prevents her from exploiting her position as an insider. This is true whether or not she has market power in trading the asset.

Financial Market Innovation and Security Design: An Introduction,  Journal of Economic Theory (1995), 65:1-42 (with Darrell Duffie).

The article describes, in the context of theory and practice, this special issue of the Journal of Economic Theory on financial market innovation and security design. The main focus is on security design in incomplete financial markets, possibly with asymmetrically informed traders. We first survey the general equilibrium literature, which emphasizes the spanning role of securities. We then provide a unified framework encompassing the literature that employs a CARA-Gaussian setting to study the impact of financial innovation on risk-sharing and information aggregation.

Optimal Incomplete Markets with Asymmetric Information,  Journal of Economic Theory (1995), 65:171-197.

This paper provides a simple parametric framework for comparing alternative incomplete asset structures in a productive economy, focusing on the role of assets in allocating risk and transmitting private information. It characterizes asset structures that are constrained efficient in the sense that no other asset structure, with the same number of securities, leads to a Pareto-dominating allocation in equilibrium. Specifically, a constrained efficient asset structure must be efficient with respect to both risk-sharing and information-transmission. Explicit optimality criteria are developed and used to evaluate innovation by volume maximizing futures exchanges.

Partially Revealing Rational Expectations Equilibria with Nominal Assets,  Journal of Mathematical Economics (1995), 24:137-146.

This paper studies a static exchange economy with nominal assets and a finite state space. Agents have private information and learn from prices. It is shown that any structure of information revealed by prices, that is consistent with the absence of arbitrage, can be embedded in a rational expectations equilibrium. This is in sharp contrast to the case of real assets, in which prices are generically fully revealing.