The possibility of informationally efficient markets

A rational-expectations equilibrium with positive demand for financial information does exist under fully revealing asset price—contrary to a wide-held conjecture. Whereas a continuum of investors is inconsistent with fully revealing equilibrium, finitely many investors with average portfolios demand information in equilibrium if they can adjust portfolio size in an additive-signal return model. More information diminishes the expected excess return of a risky asset so that investors who only have a choice of portfolio composition or whose asset endowments strongly differ from the average portfolio are worse off. Under fully revealing price, information market equilibria both with and without information acquisition are Pareto efficient. JEL D82, D83, G14 ∗I thank Vince Crawford, David Hirshleifer, Phil Reny, Ross Starr, Jeroen Swinkels, Laura Veldkamp, Joel Watson, and especially Mark Machina and Joel Sobel for many insightful discussions. I benefited from an anonymous referee’s helpful suggestions and from comments by seminar participants at the Southwest Economic Theory Conference (UC Riverside) and UCSD. I owe the inspiration for generalizations to Walter Novaes whose remarks on CARA and moment generating functions made me first ponder a generalized approach. Any remaining mistakes are mine. ¶[email protected] (www.econ.ucsd.edu/muendler). University of California San Diego (UCSD), Dept. of Economics, 9500 Gilman Dr. #0508, La Jolla, CA 92093-0508, USA