Disclosure Paternalism

Abstract

Investors lacking good judgment may miscalculate the strategic motives causing withholding of material information. The resulting inadequate professional skepticism encourages excessively optimistic expectations after a non-disclosure and breaks the economic forces inducing forthcoming voluntary disclosure. A regulator may intervene to correct the problem by mandating disclosure over events that would otherwise be withheld; however, such paternalistic interventions come with a drawback: over-protection prevents investors from learning to be skeptical through repeated experiences of non-disclosure losses. While an unregulated market will converge over time toward greater transparency, paternalism may lead to cycles characterized by high levels of compliance followed by excessive optimism. The model further predicts negative market reactions to regulation, an association between positive price drift and transparency, and when regulators prefer to shut down entire markets.

Keywords: communication, standard, regulations, accounting

JEL Classification: D4, D5, D6, M4