Spoiled for choice: Variety and efficiency in markets with incomplete information

Abstract

When the qualities of securities are uncertain, investors have an incentive to acquire information before they trade. Too much choice may lead to inefficiency, because it forces investors to engage in excessive search for the information they need. Similarly, if they rely on the information revealed by other investors, the existence of too much choice may again lead to inefficiency, because investors ignore the external effects of their search behaviour. In both cases, restricting the set of securities available may be Pareto- or welfare-improving. These ideas are applied to the regulation of financial markets. © 1997 Academic Press Limited.