Using Market Prices as a Guide for Government Intervention∗ (Preliminary and Incomplete)

Many policy proposals call for government intervention to be based on the information in market prices of firm securities. Most of these proposals ignore the fact that market prices are endogenous to government intervention. In particular, when the government takes a corrective action based on price, the price might become less informative. We review a few channels by which this may occur, and develop a model that focuses on one such mechanism. We show that the fact that the government learns from the price when taking a corrective action might reduce the incentives of speculators to trade on their information, and hence reduce price informativeness.