Production and Financial Policies under Asymmetric Information

We propose an extension of the standard general equilibrium model with production and incomplete markets to situations in which (i) private investors have limited information on the returns of specific assets, (ii) managers of firms have limited information on the preferences of individual shareholders. The extension is obtained by the assumption that firms are not traded directly but grouped into ‘sectorial’ funds. In our model the financial policy of the firm is not irrelevant; we define a decision criterion for the firm that takes into account both its production and financial decisions. With this criterion, we prove the existence of equilibria. Then we discuss the nature of the inefficiencies introduced by the presence asymmetric information. In an appendix we illustrate the properties of the model in the CAPM framework. JEL Classification: D52, D81, D82. Date: April 2004. CORE, Université Catholique de Louvain. FNRS and CORE, Université Catholique de Louvain. Università degli Studi Roma Tre. We would like to thank Armando Dominioni, Piero Gottardi and Tito Pietra for useful discussions and comments.