Dynamic Information Aggregation and Welfare

Abstract

In a market with a safe rate and a risky asset that pays a continuous dividend stream depending on a latent state of the economy, several agents make consumption and investment decisions based on public information — prices and dividends — and private signals. We obtain the equilibrium in closed form, assuming that each investor has constant absolute risk aversion. Equilibrium prices do not reveal all the private signals, but lead to the same estimate of the state of the economy that one would hypothetically obtain from the knowledge of all private signals. Accurate information leads to low volatility, ostensibly improving market efficiency. But it also reduces each agent's consumption through a decrease in the price of risk. Overall, the equilibrium reaches perfect informational efficiency at the expense of agents' welfare.