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Overcoming Adverse Selection: How Public Intervention Can Restore Market Functioning

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  • Jean Tirole

Abstract

The paper provides a first analysis of market jump starting and its two-way interaction between mechanism design and participation constraints. The government optimally overpays for the legacy assets and cleans up the market of its weakest assets, through a mixture of buybacks and equity injections, and leaves the firms with the strongest legacy assets to the market. The government reduces adverse selection enough to let the market rebound, but not too much, so as to limit the cost of intervention. The existence of a market imposes no welfare cost. (JEL D82, D83, G01, G31, H81)

Suggested Citation

  • Jean Tirole, 2012. "Overcoming Adverse Selection: How Public Intervention Can Restore Market Functioning," American Economic Review, American Economic Association, vol. 102(1), pages 29-59, February.
    • Handle: RePEc:aea:aecrev:v:102:y:2012:i:1:p:29-59
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    References listed on IDEAS

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    More about this item

    JEL classification:

    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • D83 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Search; Learning; Information and Knowledge; Communication; Belief; Unawareness
    • G01 - Financial Economics - - General - - - Financial Crises
    • G31 - Financial Economics - - Corporate Finance and Governance - - - Capital Budgeting; Fixed Investment and Inventory Studies
    • H81 - Public Economics - - Miscellaneous Issues - - - Governmental Loans; Loan Guarantees; Credits; Grants; Bailouts

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