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Information revelation and market incompleteness

  • José M. Marín
  • Rohit Rahi

\documentstyle[portada,11pt]{article} This paper shows that the presence of private information in an economy can be a source of market incompleteness even when it is feasible to issue a set of securities that completely eliminates the informational asymmetries in equilibrium. We analyze a simple security design model in which a volume maximizing futures exchange chooses not only the characteristics of each individual contract but also the number of contracts. Agents have rational expectations and differ in information, endowments and, possibly, attitudes toward risk. The emergence of complete or incomplete markets in equilibrium depends on whether the {\it adverse selection effect} is stronger or weaker than the {\it Hirshleifer effect}, as new securities are issued and prices reveal more information. When the Hirshleifer effect dominates, the exchange chooses an incomplete set of financial contracts, and the equilibrium price is partially revealing.

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Paper provided by Department of Economics and Business, Universitat Pompeu Fabra in its series Economics Working Papers with number 145.

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Date of creation: Feb 1996
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Handle: RePEc:upf:upfgen:145
Contact details of provider: Web page: http://www.econ.upf.edu/

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  1. Franklin Allen & Douglas Gale, . "Arbitrage, Short Sales and Financial Innovation," Rodney L. White Center for Financial Research Working Papers 10-89, Wharton School Rodney L. White Center for Financial Research.
  2. Bhattacharya Utpal & Reny Philip J. & Spiegel Matthew, 1995. "Destructive Interference in an Imperfectly Competitive Multi-Security Market," Journal of Economic Theory, Elsevier, vol. 65(1), pages 136-170, February.
  3. Franklin Allen & Douglas Gale, 1990. "Incomplete Markets and Incentives to Set Up an Options Exchange*," The Geneva Risk and Insurance Review, Palgrave Macmillan, vol. 15(1), pages 17-46, March.
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