Public Signals and the Equilibrium Allocation of Private Information

Abstract

The purpose of this paper is to examine how accounting disclosures can affect the equilibrium allocation of private information. In addition to various kinds of publicly available information, such as accounting disclosures, an investor can also acquire private information for a cost. In such an environment, changes in accounting disclosure requirements may change investors' incentives to acquire private information, so part of the impact of a new accounting disclosure requirement may well be changes in the acquisition of private information. In an economy with informative prices, however, the allocation of private information must be determined as part of an overall equilibrium. As traders choose between signals from different information sources they rationally anticipate the information that will be freely available by observing the asset's price. But the informativensss of price depends on the allocation of private information. Thus an equilibrium model of the information environment must be used to assess the effect of different disclosure requirements. I consider an economy with two different sources of private information. Each trader may remain privately uninformed, or purchase a signal from only one information source, or purchase a signal from both infor-