DP9207 Financial Disclosure and Market Transparency with Costly Information Processing

Author(s): Marco Di Maggio, Marco Pagano
Publication Date: November 2012
Keyword(s): financial disclosure, information processing, liquidity, market transparency, rational inattention
JEL(s): D83, D84, G18, G38, K22, M48
Programme Areas: Financial Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=9207

We study a model where some investors (?hedgers?) are bad at information processing, while others (?speculators?) have superior information-processing ability and trade purely to exploit it. The disclosure of financial information induces a trade externality: if speculators refrain from trading, hedgers do the same, depressing the asset price. Market transparency reinforces this mechanism, by making speculators? trades more visible to hedgers. As a consequence, asset sellers will oppose both the disclosure of fundamentals and trading transparency. This is socially inefficient if a large fraction of market participants are speculators and hedgers have low processing costs. But in these circumstances, forbidding hedgers? access to the market may dominate mandatory disclosure.