On the Informational Efficiency of a Monopolistic Financial Market

This paper introduces a class of signalling games with response intersection to discuss the informational efficiency of a monopolistic financial market. For these games a necessary and sufficient condition for the existence of a fully revealing sequential equilibrium outcomes is derived. Furthermore a complete characterization of the set of Riley outcomes, which correspond to a refinement of the sequential equilibrium concept, is given. These results are then applied to a model of trade in a risky asset to identify conditions under which the market outcome will fully reveal the private information of an insider. The model also yields a simple necessary and sufficient condition for the "no trade"-outcome to be the unique Riley outcome - thus allowing some insight into the circumstances which lead to the collapse of trade due to the presence of inside information.