Efficiency with Endogenous Information Choice

We study the efficiency of equilibrium in a business cycle model where monopolistically competitive firms acquire costly information about aggregate fundamentals before making pricing and input decisions. We show that market power reduces the private value of information relative to its social value, causing too little investment in learning and inefficient cyclical fluctuations. Importantly, this is true even in an environment where the ex-post response to information is socially optimal. A leading example of this dichotomy between ex-post and ex-ante efficiency is an environment where firms choose labor input under uncertainty about aggregate productivity. When firms set nominal prices, on the other hand, their actions exhibit a inefficiently high sensitivity to private signals. The combination of this inefficiency in information use and market power makes the overall direction of the inefficiency in information acquisition ambiguous. Finally, we show that the standard full information policy response to market power-related distortions can reduce welfare under endogenous uncertainty. These results hold for different types of shocks (real and nominal) and for a general class of information acquisition technologies.