Financial Innovation and Risk, the Role of Information

32 Pages Posted: 1 Feb 2011

See all articles by Roberto Piazza

Roberto Piazza

International Monetary Fund (IMF)

Date Written: November 2010


Financial innovation has increased diversification opportunities and lowered investment costs, but has not reduced the relative cost of active (informed) investment strategies relative to passive (less informed) strategies. What are the consequences? I study an economy with linear production technologies, some more risky than others. Investors can use low quality public information or collect high quality, but costly, private information. Information helps avoiding excessively risky investments. Financial innovation lowers the incentives for private information collection and deteriorates public information: the economy invests more often in excessively risky technologies. This changes the business cycle properties and can reduce welfare by increasing the likelihood of "liquidation crises."

Keywords: Business cycles, Data collection, Economic models, Financial risk, Information technology, Investment, Risk management, Securities markets, United States

Suggested Citation

Piazza, Roberto, Financial Innovation and Risk, the Role of Information (November 2010). IMF Working Paper No. 10/266, Available at SSRN:

Roberto Piazza (Contact Author)

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

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