Firm Heterogeneity and Adverse Selection in External Finance: Micro Evidence and Macro Implications

Xing Guo, Pablo Ottonello, Thomas Winberry and Toni Whited

Staff Working Papers from Bank of Canada

Abstract: We study the macroeconomic consequences of asymmetric information between firms and external investors. To do so, we develop a heterogeneous firm macro model in which firms have private information about their quality. Private information creates a lemons problem in the market for external finance, depressing investment relative to the full information benchmark. We measure the distribution of private information, and therefore the magnitude of this lemons problem, using high-frequency stock price changes when firms raise new funding (revealing their quality to the market). We find that changes in distribution of private information are a quantitatively important determinant of aggregate fluctuations. For example, a spike in private information accounts for 40% of the decline in aggregate investment during the 2007-2009 financial crisis and made monetary stimulus significantly less effective at that time.

Keywords: Business fluctuations and cycles; Financial market; Firm dynamics; Monetary policy (search for similar items in EconPapers)
JEL-codes: D82 E22 E32 E52 G30 (search for similar items in EconPapers)
Pages: 78 pages
Date: 2025-08
New Economics Papers: this item is included in nep-cfn and nep-ifn
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Related works:
Working Paper: Firm Heterogeneity and Adverse Selection in External Finance: Micro Evidence and Macro Implications (2025)
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Persistent link: https://EconPapers.repec.org/RePEc:bca:bocawp:25-20

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