The Social Value of Information Uncertainty

48 Pages Posted: 28 Feb 2019 Last revised: 1 Jun 2021

See all articles by Xuezhong He

Xuezhong He

University of Technology Sydney (UTS) - Finance Discipline Group, Business School; Financial Research Network (FIRN)

Lei Shi

Macquarie University; Financial Research Network (FIRN)

Marco Tolotti

Ca Foscari University of Venice - Department of Management

Date Written: February 12, 2019

Abstract

We consider probabilistic information acquisition in the canonical Grossman-Stiglitz pure-exchange economy. In contrast to the previous literature, we show that costly information acquisition in financial markets can be welfare-improving. In particular, when risk-sharing incentives are weak and information quality is moderate, the welfare benefit can be very significant for speculators who provide liquidity. We show that marginal welfare can be decomposed into a positive probability-choice effect and a negative informed-trading effect. When the latter effect dominates, which occurs when risk-sharing incentives are strong, only the no-information equilibrium is Pareto-optimal. Otherwise, heterogenous endowment shocks and the Hirshleifer effect allow for a continuum of Pareto optimal equilibria. This suggests that regulatory efforts to alter the amount of informed trading may be unnecessary.

Keywords: social welfare, information acquisition uncertainty, probabilistic choices, rational expectations equilibrium

JEL Classification: D82, G12, G14

Suggested Citation

He, Xue-Zhong 'Tony' and Shi, Lei and Tolotti, Marco, The Social Value of Information Uncertainty (February 12, 2019). Available at SSRN: https://ssrn.com/abstract=3332356 or http://dx.doi.org/10.2139/ssrn.3332356

Xue-Zhong 'Tony' He (Contact Author)

University of Technology Sydney (UTS) - Finance Discipline Group, Business School ( email )

Haymarket
Sydney, NSW 2007
Australia

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

Lei Shi

Macquarie University ( email )

New South Wales 2109
Australia
+612 98508478 (Phone)

Financial Research Network (FIRN)

C/- University of Queensland Business School
St Lucia, 4071 Brisbane
Queensland
Australia

HOME PAGE: http://www.firn.org.au

Marco Tolotti

Ca Foscari University of Venice - Department of Management ( email )

San Giobbe, Cannaregio 873
Venice, 30121
Italy

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