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Regulating insider trading when investment matters

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The authors analyze the effects of insider trading on real investment and welfare and the consequences of different regulatory policies in a model in which all traders are rational expected-utility maximizers and aware of their position in the market. They find that with costly information acquisition an abstain-or-disclose rule tends to be optimal while with free information acquisition laissez faire is better. This suggests enforcing an abstain-or-disclose rule with a high standard of proof for inside information. This approach uncovers also the pitfalls of welfare analysis in the noise trader model.

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