Exploiting the Financial Wisdom of the Crowd -- Crowdfunding as a Tool to Aggregate Vague Information

31 Pages Posted: 2 Aug 2014

See all articles by Hendrik Hakenes

Hendrik Hakenes

Finance Group; Centre for Economic Policy Research (CEPR)

Friederike Schlegel

University of Bonn - Faculty of Law & Economics

Date Written: August 1, 2014

Abstract

Crowdfunding, a novel form of financing, has seen massive growth over the last few years. Under crowdfunding, a firm asks for a large number of small loans from many households. But if some predefined threshold for the aggregate loan volume is missed, the firm cannot draw the loans. We construct a model to argue that this mechanism can be used to aggregate vague information by many households (for example, potential future consumers of the firm's products). Each household can spend an effort to obtain a bit of vague information -- too vague to justify a straight loan. But if the firm sets a high threshold, a household knows that its money will only be drawn if many other households also get positive information. We describe the equilibrium behavior of households and firms. With crowdfunding, from a welfare perspective, firms set both the loan rate and the threshold too low, inducing households to generate too much information. But compared with standard debt, crowdfunding enables more good projects to receive funding.

Keywords: Crowdfunding, Gatekeeper Function of Finance, Wisdom of the Crowds, Entrepreneurial Finance, Information Efficiency, Signaling

JEL Classification: G23, G24, L15

Suggested Citation

Hakenes, Hendrik and Schlegel, Friederike, Exploiting the Financial Wisdom of the Crowd -- Crowdfunding as a Tool to Aggregate Vague Information (August 1, 2014). Available at SSRN: https://ssrn.com/abstract=2475025 or http://dx.doi.org/10.2139/ssrn.2475025

Hendrik Hakenes (Contact Author)

Finance Group ( email )

Adenauerallee 24-42
D-53113 Bonn
Germany
+49-228-73-9225 (Phone)

HOME PAGE: http://www.finance.uni-bonn.de/hakenes

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

Friederike Schlegel

University of Bonn - Faculty of Law & Economics ( email )

Postfach 2220
D-53012 Bonn
Germany

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
664
Abstract Views
3,386
rank
47,407
PlumX Metrics