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The Existence of Informationally Efficient Markets When Individuals Are Rational

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Marc-Andreas Muendler (University of California, San Diego)

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Abstract

A rational-expectations equilibrium with positive demand for financial information does exist under fully revealing asset price-contrary to a wide-held conjecture. Generalizing the common additive signal-return model with CARA utility to the family of distributions with moment generating functions, this paper shows that individual investors en- dowed with an average portfolio demand information in equilibrium if they can adjust portfolio size. More information diminishes the ex- pected excess return of a risky asset so that investors who only have a choice of portfolio composition or whose asset endowments strongly differ from the average portfolio are worse off. Under fully revealing price, information market equilibria both with and without informa- tion acquisition are Pareto efficient.

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Paper provided by Department of Economics, UC San Diego in its series University of California at San Diego, Economics Working Paper Series with number 2004-09.

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Date of creation: 29 Sep 2004
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Handle: RePEc:cdl:ucsdec:2004-09

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Keywords: Information Acquisition; Information and Market efficiency; Asymmetric;

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  1. Grossman, Sanford J & Stiglitz, Joseph E, 1976. "Information and Competitive Price Systems," American Economic Review, American Economic Association, vol. 66(2), pages 246-53, May.
  2. Routledge, Bryan R, 1999. "Adaptive Learning in Financial Markets," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 12(5), pages 1165-1202.
  3. David Romer, 1992. "Rational Asset Price Movements Without News," NBER Working Papers 4121, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
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  4. Gadi Barlevy & Pietro Veronesi, . "Information Acquisition in Financial Markets," CRSP working papers 484, Center for Research in Security Prices, Graduate School of Business, University of Chicago.
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  5. Jackson, Matthew O, 1991. "Equilibrium, Price Formation, and the Value of Private Information," Review of Financial Studies, Oxford University Press for Society for Financial Studies, vol. 4(1), pages 1-16. [Downloadable!] (restricted)
  6. Jordan, J S, 1983. "On the Efficient Markets Hypothesis," Econometrica, Econometric Society, vol. 51(5), pages 1325-43, September. [Downloadable!] (restricted)
  7. Bhattacharya, Sudipto & Pfleiderer, Paul, 1985. "Delegated portfolio management," Journal of Economic Theory, Elsevier, vol. 36(1), pages 1-25, June. [Downloadable!] (restricted)
  8. Morris, S & Song Shin, H, 1996. "Unique Equilibrium in a Model of Self-Fulfilling Currency Attacks," Economics Papers 126, Economics Group, Nuffield College, University of Oxford.
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  9. Citanna, Alessandro & Villanacci, Antonio, 2000. "Existence and regularity of partially revealing rational expectations equilibrium in finite economies," Journal of Mathematical Economics, Elsevier, vol. 34(1), pages 1-26, August. [Downloadable!] (restricted)
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  1. Marc-Andreas Muendler, 2005. "Rational Information Choice in Financial Market Equilibrium," University of California at San Diego, Economics Working Paper Series 2005-04, Department of Economics, UC San Diego. [Downloadable!]
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