Manipulation, the Allocational Role of Prices and Production Externalities

44 Pages Posted: 11 Mar 2002

See all articles by Itay Goldstein

Itay Goldstein

University of Pennsylvania - The Wharton School - Finance Department

Alexander Guembel

Toulouse School of Economics, University of Toulouse Capitole

Date Written: August 6, 2002

Abstract

This paper shows that profitable market manipulation via trade is possible if prices perform an allocational role. If market prices affect the real value of an asset (e.g. because they contain information relevant to a firm's investment decisions), a potentially informed speculator may wish to trade even in the absence of information. A source of profits will then be the effect that his trade has on the real value of the traded asset. We show that the problem is exacerbated if, in the real sector, there are multiple firms with positive investment spillovers. In this case, firm managers who have perfect private information may ignore it and follow the price signal, knowing that other managers are also looking at this signal. Shutting down a financial market may improve investment efficiency in this case. We discuss the implications of our argument to foreign exchange markets.

Keywords: Manipulation, speculation, market efficiency, production externalities

JEL Classification: D62, D82, D84, G14

Suggested Citation

Goldstein, Itay and Guembel, Alexander, Manipulation, the Allocational Role of Prices and Production Externalities (August 6, 2002). AFA 2003 Washington, DC Meetings; 5th Annual Texas Finance Festival; EFA 2002 Berlin Meetings Presented Paper. Available at SSRN: https://ssrn.com/abstract=302207 or http://dx.doi.org/10.2139/ssrn.302207

Itay Goldstein

University of Pennsylvania - The Wharton School - Finance Department ( email )

The Wharton School
3620 Locust Walk
Philadelphia, PA 19104
United States
215-746-0499 (Phone)

Alexander Guembel (Contact Author)

Toulouse School of Economics, University of Toulouse Capitole ( email )

Manufacture des Tabacs
21, allee de Brienne
Toulouse, 31000
France

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