Public information and uninformed trading: Implications for market liquidity and price efficiency

Bing Han, Ya Tang and Liyan Yang

Journal of Economic Theory, 2016, vol. 163, issue C, 604-643

Abstract: We develop a rational expectations equilibrium model in which noise trading comes from discretionary liquidity traders. The equilibrium quantity of aggregate noise trading is endogenously determined by the population size of liquidity traders active in the financial market. By improving market liquidity, public information reduces the expected trading loss of liquidity traders and thus attracts more such traders to the market, which negatively affects information aggregation. Analyzing an alternative setting that models noise trading as coming from hedgers yields similar insights. In a setting with endogenous information, public information can harm information aggregation both through crowding out private information and through attracting noise trading.

Keywords: Discretionary liquidity trading; Market liquidity; Information aggregation; Information production; Hedging (search for similar items in EconPapers)
JEL-codes: D61 G14 G30 M41 (search for similar items in EconPapers)
Date: 2016
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (47)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:jetheo:v:163:y:2016:i:c:p:604-643

DOI: 10.1016/j.jet.2016.02.012

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