Commitment to Overinvest and Price Informativeness
AbstractA fundamental role of financial markets is to gather information on firmsâ€™ investment opportunities, and so help guide investment decisions in the real sector. We argue in this paper that firmsâ€™ overinvestment is sometimes necessary to induce speculators in financial markets to produce information. If firms always cancel planned investments following poor stock market response, the value of their shares will become insensitive to information on investment opportunities, so that speculators will be deterred from producing information. We discuss several commitment devices firms can use to facilitate information production. We show that the mechanism studied in the paper amplifies shocks to fundamentals across stages of the business cycle.
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Bibliographic InfoPaper provided by Oxford Financial Research Centre in its series OFRC Working Papers Series with number 2005fe18.
Date of creation: 2005
Date of revision:
This paper has been announced in the following NEP Reports:
- NEP-ALL-2006-01-02 (All new papers)
- NEP-BEC-2006-02-07 (Business Economics)
- NEP-FIN-2006-01-01 (Finance)
- NEP-FMK-2006-01-02 (Financial Markets)
- NEP-MAC-2006-01-02 (Macroeconomics)
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- Bond, Philip & Eraslan, Hülya, 2010.
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- Philip Bond & Itay Goldstein & Edward S. Prescott, 2006. "Market-based regulation and the informational content of prices," Working Paper 06-12, Federal Reserve Bank of Richmond.
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