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Efficiency Properties of Rational Expectations Equilibria with Asymmetric Information

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  • Gottardi, Piero
  • Rahi, Rohit

Abstract

In this paper we provide a characterization of the welfare properties of rational expectations equilibria of economies in which, prior to trading, agents have some information over the realization of uncertainty. We study a model with asymmetrically informed agents, treating symmetric information as a limiting case. Trade takes place in asset markets that may or may not be complete. We show that equilibria are characterized by two forms of inefficiency, price inefficiency and spanning inefficiency, and that generically both of them are present. Price inefficiency arises whenever equilibrium prices reveal some information. It formalizes and generalizes the so-called Hirshleifer effect, by showing that generically an interim Pareto improvement is possible even conditional on the information that is available to agents in equilibrium; the primary source of the inefficiency is a pecuniary externality. Spanning inefficiency, on the other hand, arises if prices are not fully revealing and markets are incomplete relative to the uncertainty faced by agents in equilibrium. In this case, an ex-post improvement can generically be implemented by providing agents with more information, thus expanding their risk-sharing opportunities and reducing informational asymmetries, even though this additional information restricts the set of allocations that are incentive compatible and individually rational.

Suggested Citation

  • Gottardi, Piero & Rahi, Rohit, 2001. "Efficiency Properties of Rational Expectations Equilibria with Asymmetric Information," CEPR Discussion Papers 2922, C.E.P.R. Discussion Papers.
  • Handle: RePEc:cpr:ceprdp:2922
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    References listed on IDEAS

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    1. Holmstrom, Bengt & Myerson, Roger B, 1983. "Efficient and Durable Decision Rules with Incomplete Information," Econometrica, Econometric Society, vol. 51(6), pages 1799-1819, November.
    2. Tom Krebs, 1999. "Information and Efficiency in Financial Market Equilibrium," Working Papers 99-20, Brown University, Department of Economics.
    3. Joseph E. Stiglitz, 1982. "The Inefficiency of the Stock Market Equilibrium," Review of Economic Studies, Oxford University Press, vol. 49(2), pages 241-261.
    4. Gul, Faruk & Postlewaite, Andrew, 1992. "Asymptotic Efficiency in Large Exchange Economies with Asymmetric Information," Econometrica, Econometric Society, vol. 60(6), pages 1273-1292, November.
    5. Forges Francoise, 1994. "Posterior Efficiency," Games and Economic Behavior, Elsevier, vol. 6(2), pages 238-261, March.
    6. Postlewaite, Andrew & Schmeidler, David, 1986. "Implementation in differential information economies," Journal of Economic Theory, Elsevier, vol. 39(1), pages 14-33, June.
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    Cited by:

    1. Piero Gottardi & Rohit Rahi, 2014. "Value Of Information In Competitive Economies With Incomplete Markets," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 55, pages 57-81, February.
    2. Juan Hatchondo, 2004. "The value of information with heterogeneous agents and partially revealing prices," Econometric Society 2004 North American Summer Meetings 175, Econometric Society.

    More about this item

    Keywords

    Asymmetric Information; Incomplete Markets; Rational Expectations Equilibrium;

    JEL classification:

    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
    • D60 - Microeconomics - - Welfare Economics - - - General
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design

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