Overcoming Adverse Selection: How Public Intervention Can Restore Market Functioning

Jean Tirole
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Jean Tirole: TSE-R - Toulouse School of Economics - UT Capitole - Université Toulouse Capitole - UT - Université de Toulouse - EHESS - École des hautes études en sciences sociales - CNRS - Centre National de la Recherche Scientifique - INRAE - Institut National de Recherche pour l’Agriculture, l’Alimentation et l’Environnement

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Abstract: The paper provides a first analysis of market jumpstarting and its two-way interaction between mechanism design and participation constraints. The government optimally overpays for the legacy assets and cleans up the market of its weakest assets, through a mixture of buybacks and equity injections, and leaves the firms with the strongest legacy assets to the market. The government reduces adverse selection enough to let the market rebound, but not too much, so as to limit the cost of intervention. The existence of a market imposes no welfare cost.

Keywords: Market freeze; Market rebound; Asset repurchases; Recapitalization; Mechanism design; Mechanism-dependent participation constraint (search for similar items in EconPapers)
Date: 2012-02
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Published in American Economic Review, 2012, 102 (1), pp.29-59. ⟨10.1257/aer.102.1.29⟩

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Persistent link: https://EconPapers.repec.org/RePEc:hal:journl:hal-04886042

DOI: 10.1257/aer.102.1.29

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