Valuation, Adverse Selection, and Market Collapses
We study a market for funding real investment in which valuation creates information on which adverse selection can occur. Unlike in previous models, higher amounts of valuation are associated with lower market prices and so greater returns to valuation, and this strategic complementarity in the capacity to do valuation generates multiple equilibria. In this region, the equilibrium without valuation is always more efficient despite funding projects that valuation would reveal as unprofitable. Valuation equilibria look like credit crunches. A large investor can ensure the efficient equilibrium only if it can precommit to a price and, for some parameters, only if subsidized.
This paper was revised on April 23, 2014
Document Object Identifier (DOI): 10.3386/w18358
Published: Valuation, Adverse Selection, and Market Collapses Michael J. Fishman Northwestern University Jonathan A. Parker Rev. Financ. Stud. (2015) doi: 10.1093/rfs/hhv025 First published online: April 9, 2015
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