Wall Street and Silicon Valley: A Delicate Interaction

Entrepreneurs and venture capitalists are concerned about investors’ beliefs in asset markets because these beliefs shape the value of a potential IPO and the possibility to expand. Investors’ beliefs, on the other hand, can be influenced by startup activity insofar as the latter contains valuable information about eventual profitability. This two-way feedback is shown to generate excessive, non-fundamental, waves in startup activity, IPOs, and asset prices. Policies that “lean against the wind” can improve welfare, without requiring an informational advantage by the government.

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