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Financial Expertise as an Arms Race

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Author Info

  • Glode, V.
  • Green, R.C.
  • Lowery, R.

    (Tilburg University, Center for Economic Research)

Abstract

We propose a model in which firms involved in trading securities overinvest in financial expertise. Intermediaries or traders in the model meet and bargain over a financial asset. As in the bargaining model in Dang (2008), counterparties endogenously decide whether to acquire information, and improve their bargaining positions, even though the information creates adverse selection. We add to this setting the concept of "financial expertise" as resources invested to lower the cost of later acquiring information about the value of the asset being traded. These investments are made before the parties know about their role in the bargaining game, as proposer or responder, buyer or seller. A prisoner's dilemma arises because investments to lower information acquisition costs improve bargaining outcomes given the other party's information costs, even though the information has no social benefit. These investments lead to breakdowns in trade, or liquidity crises, in response to random but infrequent increases in asset volatility

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Bibliographic Info

Paper provided by Tilburg University, Center for Economic Research in its series Discussion Paper with number 2010-87S.

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Date of creation: 2010
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Handle: RePEc:dgr:kubcen:201087s

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Web page: http://center.uvt.nl

Related research

Keywords: Financial services; over-the-counter markets; financial crisis;

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References

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  1. Orley Ashenfelter & David E. Bloom & Gordon B. Dahl, 2013. "Lawyers as Agents of the Devil in a Prisoner's Dilemma Game," Working Papers 1451, Princeton University, Department of Economics, Industrial Relations Section..
  2. Robert Hauswald & Robert Marquez, 2006. "Competition and Strategic Information Acquisition in Credit Markets," Review of Financial Studies, Society for Financial Studies, vol. 19(3), pages 967-1000.
  3. Admati, Anat R & Perry, Motty, 1987. "Strategic Delay in Bargaining," Review of Economic Studies, Wiley Blackwell, vol. 54(3), pages 345-64, July.
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Blog mentions

As found by EconAcademics.org, the blog aggregator for Economics research:
  1. Overinvestment in financial expertise
    by Economic Logician in Economic Logic on 2010-09-29 14:35:00
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Cited by:
  1. Marco Di Maggio & Marco Pagano, 2012. "Financial Disclosure and Market Transparency with Costly Information Processing," EIEF Working Papers Series 1212, Einaudi Institute for Economics and Finance (EIEF), revised May 2014.
  2. Biais, Bruno & Foucault, Thierry & Moinas, Sophie, 2013. "Equilibrium Fast Trading," Les Cahiers de Recherche 968, HEC Paris.
  3. Kartik Anand & James Chapman & Prasanna Gai, 2012. "Covered bonds, core markets, and financial stability," SFB 649 Discussion Papers SFB649DP2012-065, Sonderforschungsbereich 649, Humboldt University, Berlin, Germany.
  4. Thomas Philippon, 2012. "Has the U.S. Finance Industry Become Less Efficient? On the Theory and Measurement of Financial Intermediation," NBER Working Papers 18077, National Bureau of Economic Research, Inc.
  5. Patrick Bolton & Tano Santos & Jose A. Scheinkman, 2011. "Cream Skimming in Financial Markets," NBER Working Papers 16804, National Bureau of Economic Research, Inc.
  6. Stefan Arping, 2013. "Proprietary Trading and the Real Economy," Tinbergen Institute Discussion Papers 13-032/IV/DSF52, Tinbergen Institute.
  7. Donnelly, Catherine & Guillén, Montserrat & Nielsen, Jens Perch, 2014. "Bringing cost transparency to the life annuity market," Insurance: Mathematics and Economics, Elsevier, vol. 56(C), pages 14-27.
  8. Philip Bond & Yaron Leitner, 2013. "Market run-ups, market freezes, inventories, and leverage," Working Papers 13-14, Federal Reserve Bank of Philadelphia, revised 04 Feb 2014.
  9. Garvey, John & Gallagher, Liam A., 2013. "The economics of data: Using simple model-free volatility in a high-frequency world," The North American Journal of Economics and Finance, Elsevier, vol. 26(C), pages 370-379.
  10. Eden, Maya, 2012. "Should Wall-Street be occupied ? an overlooked price externality of financial intermediation," Policy Research Working Paper Series 6059, The World Bank.

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  1. Economic Logic blog

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