Insider Trading, Investment and Liquidity: A Welfare Analysis
28 Pages Posted: 8 Jun 2000
Date Written: October 1999
We compare competitive equilibrium outcomes with and without trading by an informed insider, in a model with ex ante aggregate investment choices which can not respond to any enhanced informational content of interim asset prices associated with insider trading. Noise trading is generated by aggregate uncertainty regarding other agents' intertemporal consumption preferences. Since all agents, and noise traders in particular, have well-specified preferences, the welfare implications of insider trading for outsiders can be analyzed. Moreover, the allocation without the insider trading is not assumed to be ex ante (constrained) Pareto efficient, since we depart from the standard setup with negative exponential utility and normal returns. Our welfare analysis uncovers the potentially beneficial role of interim information revelation arising from insider trading, in improving the risk-sharing among outsiders with stochastic liquidity needs.
JEL Classification: D52, D82, G14
Suggested Citation: Suggested Citation