Misinformation Adds to the Risks for the Economy

Abstract

The damage done by misinformation needs to be contained. Companies should publish their domestic and worldwide output. This should reduce the misstatement and thus volatility of published profits. US profits are habitually overstated, and this does relatively little harm, but periods of excessive overstatement lead to the risks in credit markets being under-appreciated and markets overpriced. Overstated RoEs encourage high hurdle rates, which reduces investment. The complacency about debt and asset prices is less prevalent today than it was before the financial crisis to which it made a major contribution. But restricting debt and asset prices is more difficult when there is bad information about asset values and credit risks. Misstated profits also contribute to asset bubbles and consequently to the magnitude of cyclical swings in the economy. Modern corporate accounting has contributed to this profit volatility.