Economic variables move asymmetrically over the business cycle: quickly during crises but slowly during recoveries. I show that this asymmetry is stronger in countries with less developed financial systems and greater financial frictions. Then I explain this fact using a learning model with endogenous information about economic conditions. Financial frictions, which I capture by higher bankruptcy costs, magnify the reaction of lending rates and economic activity to negative shocks and then delay their recovery by restricting information after the crisis. Empirical evidence and a quantitative exploration of the model show that this explanation is consistent with the data.

Stock markets play a dual role: they provide information about firms’ fundamentals, which improves resource allocations, and they provide liquidity. We propose a setting in which these two roles interact: if stocks are used more intensively for liquidity, then prices reveal less information about fundamentals. We structurally estimate stock price informativeness for several countries and show that it declines when alternative liquidity sources, such as banks, are in distress. To study the real effects of this mechanism, we devise a strategy to integrate our stock-trading module into a dynamic general equilibrium model with heterogeneous firms. We calibrate the model to the United States and simulate recessions with and without banking distress. In a standalone recession, prices become more informative and allocation improves, mitigating output losses by 4.4%. If the recession coincides with banking distress, agents rely more on stock markets to obtain liquidity, prices become less informative, and allocation deteriorates, magnifying output losses by 22%.

In all markets, firms go through a process of creative destruction: entry, random growth, and exit. In many of these markets there are also regulations that restrict entry, possibly distorting this process. We study the public interest rationale for entry taxes in a general equilibrium model with free entry and exit of firms in which firm dynamics are driven by reputation concerns. In our model firms can produce high-quality output by making a costly but efficient initial unobservable investment. If buyers never learn about this investment, an extreme “lemons problem” develops, no firm invests, and the market shuts down. Learning introduces reputation incentives such that a fraction of entrants do invest. We show that if the market operates with spot prices, entry taxes always enhance the role of reputation to induce investment, improving welfare despite the impact of these taxes on equilibrium prices and total production.

Political booms, measured by the rise in governments’ popularity, predict financial crises above and beyond better known early warning indicators, such as credit booms. This predictive power, however, only holds in emerging economies. We argue that governments in developing countries have stronger incentives to “ride” unsound credit booms in order to boost their popularity, rather than implementing corrective policies that could prevent crises but are politically costly. We provide evidence of the relevance of this mechanism, partly by constructing a new cross-country data set on government popularity based on opinion polls.

We model firms’ allocation of resources across surplus-creating (ie, productive) and surplus-appropriating (ie, rent-seeking) activities. Our model predicts that industry-wide technological advancements, such as recent progress in data collection and processing, induce a disproportionate and socially inefficient reallocation of resources toward surplus-appropriating activities. As technology improves, firms rely more on appropriation to obtain their profits, thereby endogenously reducing the impact of technological progress on economic progress and inflating the price of the resources used for both types of activities. Our theoretical insights shed light on the rise of high-frequency trading.

Short-term collateralized debt, private money, is efficient if agents are willing to lend without producing costly information about the collateral backing the debt. When the economy relies on such informationally insensitive debt, firms with low quality collateral can borrow, generating a credit boom and an increase in output. Financial fragility is endogenous; it builds up over time as information about counterparties decays. A crisis occurs when a ( possibly small) shock causes agents to suddenly have incentives to produce information, leading to a decline in output. A social planner would produce more information than private agents but would not always want to eliminate fragility.

We develop a theory of information spillovers in sovereign bond markets in which investors can learn about default risk before trading in primary and secondary markets. If primary markets are structured as multi-unit discriminatory-price auctions, an endogenous winner’s curse leads to strategic complementarities in information acquisition. Shocks to default risk in one country may trigger crisis episodes with widespread information acquisition, sharp increases in the level and volatility of yields in risky countries, low and stable yields in safe countries, market segmentation, and arbitrage profits between primary and secondary markets. These predictions are consistent with the dynamics of auction informativeness during the Eurozone Sovereign Debt Crisis, which we measure using the reaction of secondary market yields to primary market yields.

Using bid-level data from discriminatory auctions for Mexican government bonds, we demonstrate that asymmetric information about default risk is a key friction in sovereign bond markets. We document that large bidders achieve higher bid-acceptance rates than other bidders despite paying no more for executed bids. We then propose a new model of primary markets in which investors may differ in wealth, risk aversion, market power, and information. Only asymmetric information can qualitatively account for our empirical finding, and asymmetric information about rare disasters can quantitatively match bidding and yield moments. Counterfactuals reveal substantial effects of asymmetric information on yields.

Banks produce short-term debt for transactions and storing value. The value of this debt must not vary over time so agents can easily trade it at par like money. To produce money-like safe liquidity, banks keep detailed information about their loans secret, reducing liquidity if needed to prevent agents from producing costly private information about the banks' loans. Capital markets involve information revelation, so they produce risky liquidity. The trade-off between less safe liquidity and more risky liquidity determines which firms choose to fund projects through banks and which ones through capital markets.