Journal of Monetary Economics2013-09-05 2:57 AM

Information manipulation and rational investment booms and busts

Highlights • Endogenous investment booms and busts arise in a rational expectations framework. • Aggregate distortions exist despite the design of optimal incentive contracts. • Investors can endogenously be “stuck” at overoptimistic productivity expectations. • Aggregate uncertainty may not be resolved even as the number of signals increases. • Confluence of innovation, manipulation and investment distortions. Abstract A model of endogenous investment booms and busts with rational agents is presented where outside investors are uncertain about both industry (aggregate) and firm-specific capital productivity, and insiders manipulate information through strategic productivity disclosures. For intermediate and high levels of agency conflict, there are aggregate investment distortions along the equilibrium path, investment dynamics are history-dependent, and depict patterns of persistent investment booms or investment busts even though investors design optimal incentive contracts based on Bayes-rational beliefs. Moreover, the aggregate uncertainty may not be resolved in the limit, as the number of firms and disclosures gets arbitrarily large.

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Journal of Monetary Economics

The Journal of Monetary Economics is a peer-reviewed academic journal covering research on macroeconomics and monetary economics. It is published by Elsevier and was established in October 1973 by Karl Brunner and Charles I. Plosser.

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