DSpace Collection: Economics Working Papers

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Youth, Adolescence, and Maturity of Banks: Credit Availability to Small Business in an Era of Banking Consolidation

Title: Youth, Adolescence, and Maturity of Banks: Credit Availability to SmallBusiness in an Era of Banking Consolidation

DeYoung, Robert; Goldberg, Lawrence G.; White, Lawrence J.

Abstract: This paper address the relationship between the aging process at new andrelatively young banks and the tendency of banks to make loans to smallbusinesses. Defining small business loans as C&I loans that areunder $1 million in size, we analyze a sample of banks that had assetsof less than %500 million in assets for the years 1993-1996 and thatwere 25 years of age or younger.

Why Do firms Merge and Then Divest: A Theory of Financial Synergy

Title: Why Do firms Merge and Then Divest: A Theory of Financial Synergy

Fluck, Zsuzsanna; Lynch, Anthony

Abstract: This paper develops a theory of mergers and divestitures wherein themotivation for mergers stems from the inability to finance marginallyprofitable, possibly short-horizon projects as stand-alone entities dueto agency problems between managers and potential claimholders. Aconglomerate merger can be viewed as a technology that allows amarginally profitable project, which could not obtain financing as astand-alone, to obtain financing and survive a period of distress. Ifprofitability improves, the financing synergy ends and the acquirerdivests assets to avoid coordination costs. Since it is the project'sability to survive as a stand-alone that causes the divestiture,divestiture decisions are interpreted as good news by the market in ourmodel. Further, our theory is able to reconcile two important butseemingly contradictory empirical findings: 1) mergers increase thecombined value of the acquirer and target (Jensen and Ruback (1983),Bradley et al. (1988) and Kaplan Weisbach (1992)): and, 2) diversifiedfirms are less valuable than more focused stand-alone entities (Bergerand Ofek (1995), Lang and Stulz (1994), and Servaes (1996)).Diversification adds value in our model by facilitating the financing ofpositive net present value projects that cannot be financed asstand-alones. At the same time, because these same projects are onlymarginally profitable, diversified firms are less valuable than stand-alones.

Why Do CEO's Reciprocally Sit On Each Other's Boards?

Title: Why Do CEO's Reciprocally Sit On Each Other's Boards?

Fitch, Eliezer M.; White, Lawrence J.

Abstract: The reciprocal interlocking of chief executive officers (CEOs) is anon-trivial phenomenon of the composition of boards of directors and ofcorporate governance: among large companies in 1991, about one companyin seven is part of a relationship whereby the CEO of one company sitson a second company's board and the second company's CEO sits on thefirst company's board. We are aware of no previous efforts to explainthese reciprocal relationships. We hypothesize that reciprocal CEOinterlocks are (a) more likely when a board has more outsidedirectorships, (b) less likely when a CEO has more of his total annualcompensation paid in the form of stock options, (c) less likely when acompany's board is more active and holds more meetings, (d) less likelywhen a CEO has a larger ownership share of his company, and (e) morelikely when there are more CEOs from other companies as outsidedirectors on a CEO's board. Using a sizable sample of large companies in1991, we employ simple probit and step probit models to test thesehypotheses, with the use of control variables that encompass othercompany, board, and CEO characteristics. These multivariate analysessupport our first three conjectures but do not support the remainingtwo. Since there is considerable academic and policy debate concerningboard composition and the effectiveness of interlocking directorships ingeneral, investigations focusing on reciprocal CEO interlocks, whichlink the highest ranked executives of two different firms, represent asignificant contribution to the knowledge base in this field.

Where Does the Money Come From? The Financing of Small Entrepreneurial Enterprises

Title: Where Does the Money Come From? The Financing of Small Entrepreneurial Enterprises

Fluck, Zsuzsanna; Holtz-Eakin, Douglas; Rosen, Harvey S.

Abstract: Using data from the Wisconsin Entrepreneurial Climate Study, we studythe sources of firms' finance during the very early stages of theirlives. Our focus is the evolution of the mix of financial capital from'insiders' and 'outsiders' as firms age. We find that at the beginningof firms' life cycles, the proportion of funds form internal sourcesincreases with age, while the proportion from banks, venturecapitalists, and private investors declines. There is also evidence thatthese patterns eventually reverse themselves, with the proportion ofinsider finance ultimately declining and the proportion of outsiderfinance increasing with age. We argue that these findings are consistentwith elements of both reputation-based and monopoly-lender theories offirm finance.

What’s In It For Me? CEOs Whose Firms Are Acquired

Title: What’s In It For Me? CEOs Whose Firms Are Acquired

Hartzell, Jay; Ofek, Eli; Yermack, David

Abstract: We study benefits received by target company CEOs in completed mergersand acquisitions. These executives obtain wealth increases with a medianof $4 to $5 million and a mean of $8 to $11 million, roughly in linewith the permanent income streams that they sacrifice. CEOs receivelower financial gains from those transactions in which they becomeexecutives of the buyer, suggesting that tradeoffs exist between thefinancial and career-related benefits they extract. We find very highrates of turnover both at the time of the merger and, for thoseexecutives who stay, for several years post-merger. Regression estimatessuggest that target shareholders receive lower acquisition premia intransactions that involve extraordinary personal treatment of the CEO.

What's Been Happening To Aggregate Concentration in the United States? (And Should We Care?),

Title: What's Been Happening To Aggregate Concentration in the United States?(And Should We Care?),

White, Lawrence J.

Abstract: In this paper I assemble and array two rarely used data sets to measurethe extent of aggregate concentration the share of national economicactivity accounted for by the largest X companies in the U.S. in the1980s and 1990s. The data show clearly that, despite the substantialmerger wave of the 1980s and the far larger wave of the 1990s, aggregateconcentration declined in the 1980s and the early 1990s. Aggregateconcentration increased after the mid 1990s, but the levels at the endof the decade were still at or below the levels of the late 1980s orearly 1990s. The average size of firm did increase, however, and therelative importance of the larger size classes of firms increasedgenerally. Gini coefficients computed for employment shares and payrollshares of companies showed moderate but steady increases from 1988through 1998. In the conclusion of the paper I offer some tentativehypotheses for explaining these patterns.

What to Put on the Table

Title: What to Put on the Table

Skreta, Vasiliki; Figueroa, Nicolas

Abstract: This paper investigates under which circumstances negotiatingsimultaneously over multiple issues or assets helps reduce ine¢ciencies due to the presence of asymmetric information. We Önd thata simultaneous negotiation over multiple assets that are substitutesreduces ine¢ ciencies. The e§ect is stronger if goods areheterogeneous, and in this case the ine¢ ciency can be eliminatedaltogether. When assets are not substitutes ine¢ ciencies alwaysprevail. We also study cases where co-ownership is possible(partnerships), allowing for asymmetric distributions, general valuationfunctions and for multiple assets. We show that e¢ cientdissolution is possible if all agents valuations at their types wheregains of trade are minimal are equal: For this to hold, the agent thatmost likely has the highest valuation for a given asset should initiallyown a bigger share of that asset. We discuss implications of theseÖndings for the design of partnerships and joint ventures.

What is happening to the impact of financial deepening on economic growth?

Title: What is happening to the impact of financial deepening on economic growth?

Wachtel, Paul; Rousseau, Peter L.

Abstract: Although the finance-growth relationship is now firmly entrenched in theempirical literature, we show that it is not as strong in more recentdata as it was in the original studies with data for the period from1960 to 1989. We consider two related explanations. First, excessivefinancial deepening or too rapid growth of credit may have led to bothinflation and weakened banking systems which in turn gave rise togrowthinhibiting financial crises. Second, excessive financial deepeningmay be a result of widespread financial liberalizations in the late1980s and early 1990s in countries that lacked the legal or regulatoryinfrastructure to exploit financial development successfully. We findthat the increased incidence of financial crises since the 1990s isprimarily responsible for the recent weakening of the finance-growthlink, but find no direct evidence that liberalizations played animportant supporting role.

What Constitutes Appropriate Disclosure for a Financial Conglomerate?

Title: What Constitutes Appropriate Disclosure for a Financial Conglomerate?

White, Lawrence J.

Abstract: This paper addresses the disclosure issues for financial conglomeratesprincipally from the same perspective as that of the Basel Committee onBanking Supervision: that disclosure is important for the safety andsoundness of banks. However, we reach substantially differentconclusions with respect to three important disclosure issues: the roleof market value accounting; the frequency of disclosures; and the roleof subordinated debt. We start by asking why any special disclosuremight be required for financial conglomerates. This question immediatelyleads to a discussion of what is special about financial conglomerates.We also address the question of, "Disclosure to whom?" Thereare at least two potential audiences for information disclosures:financial regulators; and the public investors/creditors/customers of afinancial conglomerate. Issues of the appropriate structure for afinancial conglomerate, and the information revelation that shouldaccompany that structure, are also raised. Finally, we return to thetitle topic: What constitutes appropriate disclosure for a financialconglomerate. Unfortunately, by turning its back on the three mostimportant steps that could be taken to improve information disclosuremandating market value accounting (MVA) for banks' reports toregulators, aiming toward daily submission of these reports, andrequiring the issuance of subordinated debt the Basel Committee hasfundamentally undermined its efforts to enhance banks' safety and soundness.

Wanted: A Market Definition Paradigm for Monopolization Cases

Title: Wanted: A Market Definition Paradigm for Monopolization Cases

White, Lawrence J.

Abstract: For the wide range of antitrust cases involving allegations of monopolyor monopolization (or variations on that theme), the presence of marketpower is a necessary prerequisite for finding liability. In turn, thedefinition or delineation of a relevant market is essential formeasuring a defendant's market share -- a key determinant of thepresence or absence of market power. Unfortunately, there are few or nointellectual underpinnings for the market definition process inmonopolization cases. This void contrasts sharply with the substantialconceptual developments of the past two decades with respect to themarket definition process in antitrust merger analysis, as embodied inthe Merger Guidelines of the U.S. Department of Justice. This articlecontrasts the achievements in the merger analysis area with thecontinuing dilemmas and conundrums in the monopolization area withrespect to market definition. In the latter area the "cellophanefallacy" (which is explained), combined with the frequently cloudystate of firm level profit data, continues to create confusion as towhen the presence of competitors is an indication of the absence ofmarket power and when their presence is the consequence of the exerciseof market power. Underlying this confusion is the absence of a clearmarket definition paradigm for these monopolization cases. Until such aparadigm is developed, the confusion will persist, as will a pattern oferratic and inconsistent outcomes in alleged monopolization cases.

Voucher Privatization : A Detour on the Road to Transition?

Title: Voucher Privatization : A Detour on the Road to Transition?

Katz, Barbara G.; Owen, Joel

Vertical Practices Facilitating Exclusion

Title: Vertical Practices Facilitating Exclusion

Asker, John; Bar-Isaac, Heski

Abstract: Resale price maintenance (RPM), slotting fees, loyalty rebates and otherrelated vertical practices can allow an incumbent manufacturer totransfer profits to retailers. If these retailers were to accommodateentry, upstream competition could lead to lower industry profits and thebreakdown of these profit transfers. Thus, in equilibrium, retailers caninternalize the effect of accommodating entry on the incumbent’sprofits. Consequently, if entry requires downstream accommodation, entrycan be deterred. We discuss policy implications of this aspect ofvertical contracting practices.

Vertical Leverage and the Sacrifice Principle: Why the Supreme Court Got Trinko Wrong

Title: Vertical Leverage and the Sacrifice Principle: Why the Supreme Court GotTrinko Wrong

Economides, Nicholas

Abstract: Trinko, a local telecommunications services customer of AT&T, suedVerizon for anti-competitively raising the costs of AT&T, Verizon'srival in the market for local telecommunications services. Pursuant tothe rules of the Telecommunications Act of 1996, AT&T was leasingparts of the local telecommunications network (unbundled networkelements, 'UNEs') from Verizon at 'cost plus reasonable profit' prices.The Supreme Court held that Trinko's complaint failed to state a claimunder § 2 of the Sherman Act, and dismissed the complaint. I arguethat the Court drew incorrect inferences from its AsPen Skiing decision.The Court also missed a key vertical leveraging issue in Trinko. Theopening of competition mandated by the Telecommunications Act of 1996challenged Verizon's traditional monopoly in the localtelecommunications services market. By raising the cost and/ordecreasing the quality of the service of rivals in the retailingservices market, Verizon aimed to preserve that monopoly. As a result ofthese efforts, rivals suffered a disadvantage. Yet Verizon also causedretailing rivals to lease a lower number of unbundled network elementsand thus incurred a revenue sacrifice. Therefore the actions of Verizonin raising the costs of retailing telecommunications services rivals arean indication of. liability according to the 'sacrifice principle'proposed in the Government's brief in Trinko, according to which adefendant is liable if its conduct "involves a sacrifice ofshort-term profits or goodwill that makes sense only insofar as it helpsthe defendant maintain or obtain monopoly power," even though thesacrifice principle defines a stringent condition for a finding of liability.

University-Industry Research and Development Relationships: The University Perspective

Title: University-Industry Research and Development Relationships: TheUniversity Perspective

White, Lawrence J.

Understanding the Old and New Bretton Woods

Title: Understanding the Old and New Bretton Woods

Wachtel, Paul

Abstract: There are two interrelated usages of the term Bretton Woods ininternational macroeconomics. First it refers to the institutionalstructure put in place to govern international financial relationshipsin the post World War II era. Second it refers to the way in which thefinancial interactions relationships among countries operate. In bothinstances there are important differences between the Bretton Woods ofthe early post war period and the contemporary experience. Inparticular, the most important Bretton Woods institution, the IMF, playsa different role today than it did in the original fixed exchange ratesystem of the post war period. With regard to operations, large UScurrent account deficits in recent years provide some resemblance to therole of the dollar earlier. This paper explains and contrasts the oldand new Bretton Woods institutional and operating systems.

U.S. Telecommunications Today, April 1999

Title: U.S. Telecommunications Today, April 1999

Economides, Nicholas

Abstract: This short essay examines the current conditions in the UStelecommunications sector (April 1999). We examine the impact oftechnological and regulatory change on market structure and businessstrategy. Among others, we examine the impact on pricing of digitizationand the emergence of internet telephony. We briefly examine the impactof the 1996 Telecommunications Act on market structure and strategy inconjunction with the history of regulation and antitrust intervention inthe telecommunications sector. After discussing the impact of wirelesstechnologies, we conclude by venturing into some short term predictions.We express concern about the derailment of the implementation of the1996 Act by the aggressive legal tactics of the entrenched monopolists(the local exchange carriers), and we point to the real danger that theintent of Congress in passing the 1996 Act to promote competition intelecommunications will not be realized. We also discuss the wave ofmergers in the Telecommunications and cable industries.

U.S. Telecommunications Today

Title: U.S. Telecommunications Today

Economides, Nicholas

Two-sided competition of proprietary vs. open source technology platforms and the implications for the software industry

Title: Two-sided competition of proprietary vs. open source technologyplatforms and the implications for the software industry

Economides, Nicholas; Katsamakas, Evangelos

Torts, Expertise, and Authority: Liability of Physicians and Managed Care Organizations

Title: Torts, Expertise, and Authority: Liability of Physicians and ManagedCare Organizations

Arlen, Jennifer; Macleod, W.Bentley

The Valuation of Caps, Floors and Swaptions in a Multi-Factor Spot-Rate Model

Title: The Valuation of Caps, Floors and Swaptions in a Multi-Factor Spot-Rate Model

Peterson, Sandra; Stapleton, Richard C.; Subrahmanyam, Marti G

Abstract: We build a multi-factor model of the term structure of spot interestrates. The stochastic factors are the short-term interest rate and thepremia of the future rates over the short-term interest rate. In thethree-factor version of the model, for example, the first-factor is thethree month LIBOR the second factor is the premium of the first futuresLIBOR over spot lIBOR, and the third factor is the incremental premiumof the second futures aver the first, The model provides and extensionof the longnormal interest rate model of Black and Karasinuski (1991) tomultiple factors. each of which can exhibit mean-reversion.

The Tragic Inefficiency Of the M-ECPR

Title: The Tragic Inefficiency Of the M-ECPR

Economides, Nicholas

The Term Structure of Interest-Rate Futures Prices

Title: The Term Structure of Interest-Rate Futures Prices

Stapleton, Richard C.; Subrahmanyam, Marti G.

Abstract: We derive general properties of two-factor models of the term structureof interest rates and, in particular, the process for futures prices andrates. Then, as a special case, we derive a no-arbitrage model of theterm structure in which any two futures rates act as factors. In thismodel, the term structure shifts and tilts as the factor rates vary. Thecross-sectional properties of the model derive from the solution of atwo-dimensional, autoregressive process for the short-term rate, whichexhibits both mean-reversion and a lagged persistence parameter. We showthat the correlation of the futures rates is restricted by theno-arbitrage conditions of the model. In addition, we investigate thedeterminants of the volatilities and the correlations of the futuresrates of various maturities. These are shown to be related to thevolatility of the short rate, the volatility of the second factor, thedegree of mean-reversion and the persistence of the second factor shock.We also discuss the extension of our model to three or more factors. Weobtain specific results for futures rates in the case where thelogarithm of the short-term rate [e.g., the London Inter-Bank Offer Rate(LIBOR)] follows a two-dimensional process. We calibrate the model usingdata from Eurocurrency interest rate futures contracts, usingalternative optimization criteria. We then derive the term structures ofvolatilities and correlations implied by the model.

The Telecommunication Act of 1996 and its Impact

Title: The Telecommunication Act of 1996 and its Impact

Economides, Nicholas

Abstract: This paper analyzes the effects on the implementation of theTelecommunications Act of 1996 (“Act”) on UStelecommunications markets and is based on my forthcoming book with thesame title. The Act is a milestone in the history of telecommunicationsin the United States. Coming 12 years after the breakup of AT&T, theAct attempts to move all telecommunications markets toward competition.The Act envisions competition in all telecommunications markets, both inthe markets for the various elements that comprise thetelecommunications network, as well as for the final services thenetwork creates. Building on the experience of the long distance market,which was transformed from a monopoly to an effectively competitivemarket over the last 12 years, the Act attempts to promote competitionin the hitherto monopolized local exchange markets. The Act recognizesthe telecommunications network as a network of interconnected networks.Telecommunications providers are required to interconnect with entrantsat any feasible point the entrant wishes. Most importantly, the Actrequires that incumbent local exchange carriers (“ILECs”)(i) lease parts of their network (unbundled network elements) tocompetitors “at cost”; (ii) provide at a wholesale discountto competitors any service the ILEC provides; and (iii) chargereciprocal rates in termination of calls to their network and tonetworks of local competitors. Moreover, the Act requires that ILECsthat came out of the Bell System meet a number of requirements,including a public interest test, before they may enter into the longdistance market. Thus, the Act provides some safeguards against theexport of ILEC monopoly power to other parts of the network. Numerouslegal challenges to the Act and its implementation have been raised bythe ILECs resulting in very slow implementation of the Act, and, in manycases, in no substantial implementation of the provisions of the Act.Thus, more than two years after the passage of the Act, there is verylittle entry and competition in local exchange markets. In response tothe apparent failure of the implementation Act, there has been a wave ofmergers in the US telecommunications industry.

The Savings and Loan Debacle: A Perspective from the Early Twenty-First Century

Title: The Savings and Loan Debacle: A Perspective from the Early Twenty-First Century

White, Lawrence J.

The Role of Outside Options in Auction Design

Title: The Role of Outside Options in Auction Design

Skreta, Vasiliki; Figueroa, Nicolas

Abstract: This paper studies revenue maximizing auctions whenbuyersíoutside options depend on their private information. Theset-up is very general and encompasses a large number of potentialapplications. The main novel message of our analysis is that withtype-dependent non-participation payo§s, the revenue maximizingassignment of objects can crucially depend on the outside options thatbuyers face. Outside options can therefore a§ect the degree ofe¢ ciency of revenue maximizing auctions. We show that depending onthe shape of outside options, sometimes an optimal mechanism willallocate the objects in an ex-post e¢ cient way, and other times,buyers will obtain objects more often than it is e¢ cient. Ourcharacterization rings a bell of caution. Modelingbuyersíoutside options as being independent of their privateinformation, is with loss of generality and can lead to quite misleadingintuitions. Our solution procedure can be useful also in other modelswhere type-dependent outside options arise endogenously, because, forinstance, buyers can collude or because there are competing sellers.

The Role of Fiscal Policy in Japan: A Quantitative Study,

Title: The Role of Fiscal Policy in Japan: A Quantitative Study,

Perri, Fabrizio

Abstract: We analyze the role of fiscal policy in the recent showdown in Japan. Adynamic general equilibrium model is developed in which fiscal policycan have both expansionary effects (through increasing returns) andcontarctionary effects ( through the increase of public debt and debtand tax burden. A version of the model is calibrated to Japanese and isused to measure the importance of both these effects. We find that underwide range of parameters net expansionary effects quantitatively smallthus suggesting a limited role for fiscal stabilization.

The Role of Competition Policy in the Promotion of Economic Growth

Title: The Role of Competition Policy in the Promotion of Economic Growth

White, Lawrence J.

Abstract: This essay discusses the role that competition policy can play inpromoting economic growth. The essay begins by outlining the maincomponents of modern antitrust policy. The essay then discusses themajor aspects of an economy that contribute to economic growth and showsthe ways that competition policy can favorably influence economicgrowth. Next the essay discusses "industrial policy", as a setof policies that are in contradiction to competition policy anddescribes the tensions between them. Finally, the paper discusses therole of economics and economists in the development of competitionpolicy in the U.S. and highlights some major advances in U.S.competition policy (to which economics and economists havecontributed), which have made competition policy more consonant witheconomic efficiency (and economic growth); in addition, some potentialimprovements that could promote the effectiveness of competition policyeven further are proposed.

The Role of Bank Advisors in Mergers and Acquisitions

Title: The Role of Bank Advisors in Mergers and Acquisitions

Allen, Linda; Jagtiani, Julapa; Peristiani, Stavros; Saunders, Anthony

Abstract: This paper looks at the role of commercial banks and investment banks asfinancial advisor's. Unlike some areas of investment banking, commercialbanks have always been allowed to compete directly with traditionalinvestment banks in this area. In their role as lenders and advisor's,banks can be viewed as serving a certification function. However, banksacting as both lenders and advisor's face a potential conflict ofinterest that may mitigate or offset any certification effect. Overall,we find evidence of the certification effect for target firms, butconflicts of interest for acquirers. In particular, the target earnshigher abnormal returns when the target’s own bank certifies the(more information ally opaque) target’s value to the acquirer. Incontrast, we find no certification role for acquirers. This may be dueto two reasons. First, certification plays less of a role for acquirersbecause it is the target firm that must be priced in a merger. Second,acquirers predominantly utilize commercial bank advisor's in order toobtain access to bank loans that may be used to finance the post-mergertransition period. Thus, we find that acquirers tend to choose their ownbanks (those with prior lending relationships to the acquirer) asadvisors in mergers. However, this choice weakens any certificationeffect and creates a potential conflict of interest because theacquirer’s advisor negotiates the terms of both the mergertransaction and future loan commitments. Moreover, the advisor’smerger advice may be distorted by considerations related to thebank’s credit exposure resulting from both past and future lendingactivity. The market prices these conflicts of interest; we findsignificantly negative abnormal returns for bank advisor's when theyadvise their own loan customers in acquiring other firms.

The Residential Real Estate Brokerage Industry: What Would More Vigorous Competition Look Like?

Title: The Residential Real Estate Brokerage Industry: What Would More VigorousCompetition Look Like?

White, Lawrence J.

Abstract: The residential real estate brokerage industry represents a troublinginstance of false appearances. Though the numbers of sales agents andbrokerage firms, plus easy entry, would appear to offer the promise ofvigorous competition, actual practices in the industry have causedreality to fall substantially short of the potential. After recountingthe history of the transition of the securities industry from fixed andnon-competitive stock brokerage commissions to far more vigorouscompetition, I draw on that experience to describe what vigorouscompetition in the residential real estate brokerage industry would looklike. I also suggest public policy measures that would help bring aboutmore vigorous competition.

The Quality of Complex Systems and Industry Structure

Title: The Quality of Complex Systems and Industry Structure

Economides, Nicholas; Lehr, William

Abstract: The structure of the telecommunications industry has changedsubstantially in the last decade,raising public concern that the qualityof our information infrastructure may be adversely affected. This paperextends the standard vertical differentiation model of imperfectcompetition to address the case of the choice of quality in complexsystems. In these systems each demanded good consists of twocomplementary components whose quality may be set by competing firms.The extended framework is used to examine how changes in the verticaland horizontal structure of the industry affect the choice ofcompatibility, the overall system quality, the equilibrium marketprices, and the allocation of surplus. The results from this analysisare interpreted in light of changes in the structure of thetelecommunications industry.

The New Industrial Organization and Small Business

Title: The New Industrial Organization and Small Business

Kwoka Jr., John E.; White, Lawrence J.

Abstract: The small business sector is an important part of the American economiclandscape, in both absolute and relative terms. Despite its absolutegrowth, however, the sector accounts for a diminishing share of privatesector activity. But its importance, and changes in importance, varyacross industrial sectors of the economy. Drawing on the theoretical andempirical insights developed in recent books by John Sutton, we suggestthat the presence or absence of endogenous strategic behaviors of thelarger firms with respect to advertising, promotion, research anddevelopment, and other sunk cost expenditures may well play an importantrole in explaining the differing levels of small business importance,both cross-sectionally and over time. We conclude the paper withsuggestions for research directions that could shed further light onthese ideas.

The New Economy and Banks and Financial Institutions

Title: The New Economy and Banks and Financial Institutions

White, Lawrence J.

The Microsoft Antitrust Case Rejoinder

Title: The Microsoft Antitrust Case Rejoinder

Economides, Nicholas

The Microsoft Antitrust Case

Title: The Microsoft Antitrust Case

Economides, Nicholas

Abstract: This paper analyzes the law and economics of United States v. Microsoft,a landmark case of antitrust intervention in network industries. TheUnited States Department of Justice and 19 States sued Microsoftalleging (i) that it monopolized the market for operating systems ofpersonal computers and took anti-competitive actions to illegallymaintain its monopoly; (ii) that it attempted to monopolize the marketfor Internet browsers because such browsers would create competition foroperating systems; (iii) that it bundled its browser (Internet Explorer)with Windows; and that it engaged in a number of other anti-competitiveexclusionary arrangements with computer manufacturers, Internet serviceproviders, and content providers attempting to thwart the distributionof Netscape’s browser. The District Court Judge found in mostpoints for the plaintiffs and ordered the breakup of Microsoft into twocompanies, one with all the operating systems software, and one with allother products of the company. The District Court also imposed a numberof severe restrictions on the business conduct of Microsoft. We analyzethe economic issues related to liability. We also analyze theapplicability and effectiveness of the remedies imposed by the DistrictCourt and contrast them with other potential remedies.

The Max-Min-Min Principle of Product Differentiation

Title: The Max-Min-Min Principle of Product Differentiation

Economides, Nicholas; Ansari, Asim; Steckel, Joel

Abstract: We analyze two and three-dimensional variants of Hotelling’s modelof differentiated products. In our setup, consumers can place differentimportance on each product attribute; this is measured by a weight inthe disutility of distance in each dimension. Two firms play a two-stagegame; they choose locations in stage 1 and prices in stage 2. We seeksubgame-perfect equilibria. We find that all such equilibria havemaximal differentiation in one dimension only; in all other dimensions,they have minimum differentiation. An equilibrium with maximaldifferentiation in a certain dimension occurs when consumers placesufficient importance (weight) on that attribute. Thus, depending on theimportance consumers place on each attribute, in two dimensions there isa max-min equilibrium, a min-max equilibrium, or both. In threedimensions, depending on the weights, there can be a max-min-minequilibrium, a min-max-min equilibrium, a min-min-max equilibrium, anytwo of them, or all three.

The Making of America's Imbalances

Title: The Making of America's Imbalances

Schularick, Moritz; Wachtel, Paul

Abstract: This paper tracks the development of sectoral saving and borrowing inthe US economy over the past 50 years. We show that the financialimbalances that erupted in the financial crisis of 2008 were long in themaking and preceded the emergence of global imbalances in the 2000s. Therecord low household savings rate in the past decade was the product oftwo separate trends: a sharp fall in the asset acquisition of Americanhouseholds in the 1990s, and an explosion of mortgage borrowing in the2000s. We present novel disaggregated estimates of the wealth effect onsavings. We show that households reduce active savings in response togains in financial wealth and increase borrowing with rising housingwealth. Finally, we argue that the American credit boom of the 2000s hadfew direct links to reserve accumulation in emerging markets. Themortgage boom was financed by the US financial sector whichintermediated foreign funds from private sources.

The Japanese Open-End Fund Puzzle

Title: The Japanese Open-End Fund Puzzle

Brown, Stephen J.; Goetzmann, William N.; Hiraki, Takato; Otsuki, Toshiyuki; Shiraishi, Noriyoshi

Abstract: Recent empirical evidence has suggested that the Japanese mutual fundindustry has under-performed dramatically over the past two decades.Conjectured reasons for underperformance range from tax-dilution effectsto high fees, high turnover and poor asset management. In this paper, weshow that this underperformance is largely due to tax-dilution effects,and not necessarily to poor management. Using a broad database of fundswhich includes investment trusts closed to new investment, we show thatonce an instrument for the time-varying tax dilution exposure isincluded in a factor model, there is little evidence of poorrisk-adjusted performance. A style analysis of the industry demonstratesthat managers appear to pursue tax-driven dynamic strategies.

The Inefficiency of the ECPR Yet Again: A Reply to Larson

Title: The Inefficiency of the ECPR Yet Again: A Reply to Larson

Economides, Nicholas; White, Lawrence J.

Abstract: We extend the results of our article, "Access and InterconnectionPricing? How Efficient Is the "Efficient Component PricingRule?," Antitrust Bulletin (1995). In the presence of a monopolizedessential input, we show that application of the Efficient ComponentPricing Rule ("ECPR") in pricing this input to downstreamcompetitors perpetuates monopoly distortions and high prices of finalgoods services. We show these results for various demand conditions,including conditions that are accepted to hold in the telecommunicationssector. We also respond to various criticisms raised by A. Larson in"The Efficiency of the Efficient-Component-Pricing Rule: AComment," Antitrust Bulletin, (this issue) (1998).

The Incentive of a Monopolist to Provide All Goods

Title: The Incentive of a Monopolist to Provide All Goods

Economides, Nicholas

Abstract: This note shows that a monopolist facing any linear demand system for ngoods and no fixed costs will produce positive quantities of all goodsas long as demand is positive for all goods when all are sold atmarginal cost. This is in contrast with the traditional view that, ingeneral, a multiproduct monopolist does not produce positive quantitiesof all goods even though there is positive demand for each of them whenprices are equal to marginal cost.

The Incentive for Vertical Integration

Title: The Incentive for Vertical Integration

Economides, Nicholas

Abstract: This paper evaluates the incentive of firms to vertically integrate in asimple 2X2 Bertrand model of two substitutes that are each comprised oftwo complementary components. It confirms that all prices fall as aresult of a vertical merger. Further, we find that, when the compositegoods are poor substitutes, producers of complementary components arebetter off after integration. Thus, at equilibrium, each pair ofcomplementary goods is produced by a single firm (parallel verticalintegration). In contrast, when the composite goods are closesubstitutes, vertical integration reduces profits of the merging firmsand is therefore undesirable. Thus, at equilibrium, all four productsare produced by independent firms (independent ownership). The reasonfor the change in the direction of the incentive to merge is that, asthe composite goods become closer substitutes, competition between themreduces prices (in comparison to full monopoly) thereby eliminating theusefulness of a vertical merger in accomplishing the same price effect.We also find that, for intermediate levels of substitution, firmsproducing complementary components prefer to merge only if thesubstitute good is produced by an integrated firm. Thus, forintermediate levels of substitution, both parallel vertical integrationand independent ownership are equilibria. When the demand system issymmetric, total surplus is higher in parallel vertical integration, forall degrees of substitution among the products, even for the case whenthe goods are close substitutes and parallel vertical integration is notthe equilibrium outcome. Thus, the market provides less verticalintegration than is optimal from a social surplus maximizing point of view.

The Growing Influence of Economics and Economists on Antitrust: An Extended Discussion

Title: The Growing Influence of Economics and Economists on Antitrust: AnExtended Discussion

White, Lawrence J

Abstract: Over the past two to three decades economics has played an increasinglyimportant role in the development of U.S. antitrust enforcement andpolicy. This essay first reviews the major facets of U.S. antitrustenforcement and next reviews the ways in which economics -- startingfrom a low base -- has grown in importance in antitrust. The essay thenhighlights three antitrust areas in which the influence of economics hashad the greatest influence: merger analysis, vertical relationships, andpredatory pricing. The essay concludes with the identification of fourantitrust areas where further economics analysis could have high returns.

The Fishery as a Watery Commons: Lessons from the Experiences of Other Public Policy Areas for US Fisheries Policy

Title: The Fishery as a Watery Commons: Lessons from the Experiences of OtherPublic Policy Areas for US Fisheries Policy

White, Lawrence J.

Abstract: Open access, combined with modern technologies of fishing, has createdserious problems of overfishing and threatens the sustainability of manyU.S. fisheries. The common pool problem the ocean version of "thetragedy of the commons" is the root cause of the overfishing. Themajor regulatory policies of the past few decades that have tried toaddress overfishing restrictions on fishing methods and inputs (inessence, “command and control” regulation) have largely beenfailures. Indeed, they have often perversely exacerbatedfisheries’ overfishing problems by encouraging “fishingderbies” or “races for the fish”. Fisheries are notalone in facing a common pool problem. Other areas of the U.S. economyhave confronted similar problems, and public policies have developed todeal with them. This paper discusses seven of these other areas: the useof the electromagnetic spectrum, the control of sulfur dioxide emissionsby electric utilities, grazing on public lands, forest logging on publiclands, oilgas-coal extraction from public lands and offshore waters,hard rock mineral (metal) mining, and surface water usage. Importantlessons can be gleaned from the policies that have been developed inthese other areas, and this paper applies those lessons to the design ofU.S. fisheries policy.

The Farm, the City, and the Emergence of Social Security

Title: The Farm, the City, and the Emergence of Social Security

Cooley, Thomas F.; Caucutt, Elizabeth M.; Guner, Nezih

Abstract: During the period from 1880 to 1950 publicly managed retirement securityprograms became an important part of the social fabric in most advancedeconomies. In this paper we study the social, demographic and economicorigins of social security. We describe a model economy in whichdemographics, technology, and social security are linked together. Westudy an economy with two locations (sectors), the farm (agricultural)and the city (industrial). The decision to migrate from rural to urbanlocations is endogenous and linked to productivity differences betweenthe two locations and survival probabilities. Furthermore, the level ofsocial security is determined by majority voting. We show that acalibrated version of this economy is consistent with the historicaltransformation in the United States. Initially a majority of voters liveon the farm and do not want to implement social security. Once amajority of the voters move to the city, the median voter prefers apositive social security tax, and social security emerges.

The Exercise and Valuation of Executive Stock Options

Title: The Exercise and Valuation of Executive Stock Options

Carpenter, Jennifer N.

Abstract: In theory, hedging restrictions faced by managers make executive stockoptions more difficult to value than ordinary options, because theyimply that exercise policies of managers depend on their preferences andendowments. Using data on option exercises from 40 firms, this papershows that a simple extension of the ordinary American option modelwhich introduces random, exogenous exercise and forfeiture predictsactual exercise times and payoffs just as well as an elaborateutility-maximizing model that explicitly accounts for thenontransferability of options. The simpler model could therefore be moreuseful than the preference-based model for valuing executive options in practice.

The Evolving Role of the Federal Reserve

Title: The Evolving Role of the Federal Reserve

Wachtel, Paul

Abstract: In the years prior to the financial crisis of 2008-09, the FederalReserve and other central banks emphasized their macroeconomic policyrole almost to the exclusion of other concerns. The crisis experiencehas led to profound changes in the way we view central banking. Centralbanking in the 21st century will give much greater emphasis to theoriginal lending role and, as a consequence, the regulatory andsupervisory functions of the lender of last resort. In addition, centralbanks will be much more concerned with systemic risk and a new role,macroprudential regulation, is emerging. This paper describes thesedevelopments with reference to the American central bank.

The Empire Effect: The Determinants of Country Risk in the First Age of Globalization, 1880-1913

Title: The Empire Effect: The Determinants of Country Risk in the First Age ofGlobalization, 1880-1913

Ferguson, Niall; Schularick, Moritz

Abstract: This paper reassesses the importance of colonial status to investorsbefore 1914 by means of multivariable regression analysis of the dataavailable to contemporaries. We show that British colonies were able toborrow in London at significantly lower rates of interest thannon-colonies precisely because of their colonial status, which matteredmore than either gold convertibility or a balanced budget. Allowing fordifferences not only in monetary and fiscal policy but also in economicdevelopment and location, the “Empire effect” was a discountof around 100 basis points. We conclude that investors saw colonialstatus as a no-default guarantee.

The Emergence of Concentrated Ownership and the Rebalancing of Portfolios due to Shareholder Activism in a Financial Market Equilibrium

Title: The Emergence of Concentrated Ownership and the Rebalancing ofPortfolios due to Shareholder Activism in a Financial Market Equilibrium

Katz, Barbara G.; Owen, Joel

The Elusive Antitrust Standard on Bundling in Europe and in the United States at the Aftermath of the Microsoft Cases

Title: The Elusive Antitrust Standard on Bundling in Europe and in the UnitedStates at the Aftermath of the Microsoft Cases

Economides, Nicholas; Lianos, Ioannis

Abstract: We analyze and contrast the US and EU antitrust standards on mixedbundling and tying. We apply our analysis to the US and EU cases againstMicrosoft on the issue of tying new products (Internet Explorer in theUS, and Windows Media Player in the EU) with Windows as well as to casesbrought in Europe and in the United States on bundling discounts. Weconclude that there are differences between the EC and US antitrust lawon the choice of the relevant analogy for bundled rebates (predatoryprice standard or foreclosure standard) and the implementation of thedistinct product and coercion test for tying practices. The secondimportant difference between the two jurisdictions concerns theinterpretation of the requirement of anticompetitive foreclosure. Itseems to us that in Europe, consumer detriment is found easily and it isnot always a requirement for the application of Article 82, or at leastthat the standard of proof of a consumer detriment for tying cases islower than in the US.

The Effects of Focus and Diversification on Bank Risk and Return: Evidence from Individual Bank Loan Portfolios

Title: The Effects of Focus and Diversification on Bank Risk and Return:Evidence from Individual Bank Loan Portfolios

Acharya, Viral V.; Hasan, Iftekhar; Saunders, Anthony

Abstract: We study empirically the effect of focus (specialization) vs.diversification on the return and the risk of banks using data from 105Italian banks over the period 1993–1999. Specifically, we analyzethe tradeoffs between (loan portfolio) focus and diversification using aunique data set that is able to identify individual bank loan exposuresto different industries, to different sectors, and to differentgeographical regions. Our results are consistent with a theory thatpredicts a deterioration in bank monitoring quality at high levels ofrisk and a deterioration in bank monitoring quality upon lendingexpansion into newer or competitive industries. We find that industrialloan diversification reduces bank return while endogenously producingriskier loans for all banks in our sample, this effect being mostpowerful for high risk banks. Sectoral loan diversification onlyproduces an inefficient risk–return tradeoff for banks with veryhigh levels of risk. Geographical diversification on the other hand doesresult in an improvement in the risk–return tradeoff for bankswith low levels of risk. Overall, our results suggest thatdiversification of bank assets is not guaranteed to produce moreperformance efficient and/or safer banks.

The Effects of Dynamic Changes in Bank Competition on the Supply of Small Business Credit

Title: The Effects of Dynamic Changes in Bank Competition on the Supply ofSmall Business Credit

Berger, Allen N.; Goldberg, Lawrence G.; White, Lawrence J.

Abstract: We study the effects of structural changes in banking markets on thesupply of credit to small businesses. Specifically, we examine whetherbank mergers and acquisitions (M&As) and entry have"external" effects on small business loans by other banks inthe same local markets. The results suggest modest positive externaleffects from these dynamic changes in competition, except that largebanks may reduce small business lending in reaction to entry. We confirmbank size and age as important determinants of this lending, and showthat the measured age effect does not appear to be driven by localmarket M&A activity.

The Effects of Competition from Large, Multimarket Firms on the Performance of Small, Single-Market Firms: Evidence from the Banking Industry

Title: The Effects of Competition from Large, Multimarket Firms on thePerformance of Small, Single-Market Firms: Evidence from the Banking Industry

Berger, Allen N .; Dick, Astrid A.; Goldberg, Lawrence G.; White, Lawrence J.

Abstract: We offer and test two competing hypotheses for the consolidation trendin banking using U.S. banking industry data over the period 1982-2000.Under the efficiency hypothesis, technological progress improved theperformance of large, multimarket firms relative to small, single-marketfirms, whereas under the hubris hypothesis, consolidation was largelydriven by corporate hubris. Our results are consistent with an empiricaldominance of the efficiency hypothesis over the hubris hypothesis onnet, technological progress allowed large, multimarket banks to competemore effectively against small, single-market banks in the 1990s than inthe 1980s. We also isolate the extent to which technological progressoccurred through scale versus geographic effects and how they affectedthe performance of small, single-market banks through revenues versuscosts. The results may shed light as well on some of the research andpolicy issues related to community banking, and on the question of howcommunity banks should be defined.

The Effects of Bank Mergers and Acquisitions on Small Business Lending

Title: The Effects of Bank Mergers and Acquisitions on Small Business Lending

Berger, Allen N.; Saunders, Anthony; Scalise, Joseph M.; Udell, Gregory F.

Abstract: We examine the effects of bank M&As on small business lending usingdata on over 6,000 recent U.S. bank M&As. We are the first todecompose the impact of M&As into static effects from simply meldingthe antecedent institutions, and dynamic effects associated withpost-M&A refocusing of the consolidated institution. We are also thefirst to estimate the dynamic reactions of other local banks. We findthat the static effects of consolidation reduce small business lending,but are mostly offset by the reactions of other banks, and in some casesalso by refocusing efforts of the consolidating institutions themselves.

The Effect of Leverage on Bidding Behavior: Theory and Evidence from the FCC Auctions

Title: The Effect of Leverage on Bidding Behavior: Theory and Evidence from theFCC Auctions

Clayton, Matthew J.; Ravid, S. Abraham

Abstract: This paper investigates how firm bidding behavior in various auctions isaffected by capital structure. A theoretical model is developed wherethe first price sealed bid and second price sealed bid auctions areexamined in situations where the firms are competing for an asset witheither a common value or a private value. Findings include that in thepresence of exogenous and symmetric debt, the revenue equivalencetheorem no longer holds, and hence, there may be an optimal auction orset of auctions that yield the maximum expected revenue to the seller.In addition, as debt level increase, firms will tend to decrease theirbids. The lower bid function gives the competition incentives todecrease their bid as well. Thus, we would expect a firm's bid to be afunction of both its own debt level and the debt level of thecompetition, and an increase in either should result in a decrease inthe firm's bid. The empirical part of the paper applies these ideas torecent FCC auctions. The evidence is consistent with the theoreticalmodel. Debt levels of the bidding firm and the competition are found tobe determinants of the highest bid a firm is willing to submit in theauction, and higher debt levels (by the firm or its competition) lead tolower bids.

The Economics of the Internet Backbone

Title: The Economics of the Internet Backbone

Economides, Nicholas

The Economics of the Internet

Title: The Economics of the Internet

Economides, Nicholas

Abstract: We discuss salient economic aspects of the Internet, including thepossible abolition of net neutrality by local broadband access networksas well as potential incompatibilities and degradation of connectivityin the Internet backbone.

The Economics of Networks

Title: The Economics of Networks

Economides, Nicholas

Abstract: We analyze the salient features of networks and point out thesimilarities between the economic structure of networks and thestructure of vertically related industries. The analysis focuses onpositive consumption and production externalities, commonly callednetwork externalities. We discuss their sources and their effects onpricing and market structure. We distinguish between results that do notdepend on the underlying industry microstructure (the "macro"approach) and those that do (the "micro" approach). We analyzethe issues of compatibility, coordination to technical standards,interconnection and interoperability, and their effects on pricing andquality of services and on the value of network links in variousownership structures. We also briefly discuss the issue ofinterconnection fees for bottleneck facilities.

The Dynamics of the Management-Shareholder Conflict

Title: The Dynamics of the Management-Shareholder Conflict

Fluck, Zsuzsanna

Abstract: This paper investigates the distribution of equity ownership betweenentrenched corporate insiders and dispersed outsiders when managementhas the ability to divert or manipulate the cash flows and when it iscostly for equity holders to verify or prove any managerial wrongdoingfor a third party such as a court. Management chooses the distributionof equity ownership so as to maximize private benefits against the riskof potential control challenges. When shareholders are long termoriented, then outside shares trade at a premium over their value tomanagement, and management is inclined to sell of its equity stake todispersed outsiders. When shareholders are short-term oriented, thenoutside share trade at a discount below their value to management, anddisciplinary pressure can be substantially reduced via strategic share purchases.

The Dynamics of Seller Reputation: Evidence from eBay

Title: The Dynamics of Seller Reputation: Evidence from eBay

Cabral, Luis; Hortacsu, Ali

Abstract: We construct a panel of eBay seller histories and examine the importanceof eBay’s reputation mechanism. We find that, when a seller firstreceives negative feedback, his weekly sales rate drops from a positive7% to a negative 7%; subsequent negative feedback ratings arrive 25%more rapidly than the first one and don’t have nearly as muchimpact as the first one. We also find that a seller is more likely toexit the lower his reputation is; and that, just before exiting, sellersreceive more negative feedback than their lifetime average. We considera series of theoretical models and measure them against these empiricalresults. Regardless of which theoretical model best explains the data,an important conclusion of our paper is that eBay’s reputationsystem gives way to noticeable strategic responses from both buyers and sellers.

The Dynamics of Discrete Bid and Ask Quotes

Title: The Dynamics of Discrete Bid and Ask Quotes

Hasbrouck, Joel

Abstract: This paper describes a general approach to the estimation of securityprice dynamics when the phenomena of interest are of the same scale orsmaller than the tick size. The model views discrete bid and ask quotesas arising form the three continuous random variables: the efficientprice of the security, a cost of quote exposure (information andprocessing costs) on the bid side and a similar cost of quote exposureon the ask side. The bid quote is the efficient price less the bid costrounded down to the next tick; the ask quote is the efficient price plusthe ask cost rounded up to the next tick. To deal with situations inwhich the cost of quote exposure possesses both stochastic anddeterministic components and the efficient price follows an EGARCHprocess, the paper employs a nonlinear state-space estimation method.The method is applied to intraday quotes at fifteen-minute intervals forAlcoa (a randomly chosen Dow stock). The results confirm the existenceof persistent intraday volatility. More importantly they establish theexistence of a persistent stochastic component of quote exposure coststhat is large relative to the deterministic intraday 'U' component.

The Dymanics of Market Entry: The Effects of Mergers and Acquisitions on De Novo Entry and Small Business Lending in the Banking Industry,

Title: The Dymanics of Market Entry: The Effects of Mergers and Acquisitions onDe Novo Entry and Small Business Lending in the Banking Industry,

Berger, Allen N.; Bonime, Seth D.; Goldberg, Lawrence G.; White, Lawrence J.

Abstract: We study the dynamics of market entry following mergers and acquisitions(M&As), and the behavior of recent entrants in supplying output thatmight be withdrawn by the consolidating firms. The data, drawn from thebanking industry, suggests that M&As are associated with subsequentincreases in the probability of entry. The estimates suggest thatM&As explain more than 20% of entry in metropolitan markets, andmore than 10% of entry in rural markets. Additional results suggest thatbank age has a strong negative effect on the small business lending ofsmall banks, but that M&As have little influence on this lending.

The Dow Theory: William Peter Hamilton's Track Record Re-Considered

Title: The Dow Theory: William Peter Hamilton's Track Record Re-Considered

Brown, Stephen J.; Goetzmann, William N.; Kumar, Alok

Abstract: Alfred Cowles' (1934) test of the Dow Theory apparently provided strongevidence against the ability of Wall Street's most famous chartist toforecast the stock market. In this paper we review Cowles' evidence andfind that it supports the contrary conclusion - that the Dow Theory, asapplied by its major practitioner, William Peter Hamilton over theperiod 1902 to 1929, yielded positive risk-adjusted returns. Are-analysis of the Hamilton editorials suggests that his timingstrategies yield high Sharpe ratios and positive alphas. Neural netmodeling to replicate Hamilton's market calls provides interestinginsight into the nature and content of the Dow Theory. This allows us toexamine the properties of the Dow Theory itself out-of-sample.

The Diffusion of Financial Innovations: An Examination of the Adoption of Small Business Credit Scoring By Large Banking Organizations

Title: The Diffusion of Financial Innovations: An Examination of the Adoptionof Small Business Credit Scoring By Large Banking Organizations

Akhavein, Jalal; Frame, W. Scott; White, Lawrence J.

Abstract: Financial innovation has been described as the "life blood ofefficient and responsive capital markets." Yet, there have been fewquantitative investigations of financial innovation and the diffusion ofthese new technologies. Of the latter, there have been only three priorquantitative studies, and all three used the same data set on ATMs! Thispaper makes a significant contribution to the financial innovationliterature by examining the diffusion of a recent important innovationof the 1990s: banks' use of credit scoring for small business lending.We examine the responses of 95 large banking organizations to a surveythat asked whether they had adopted credit scoring for small businesslending as of June 1997 (56 had done so) and, if they had adopted it,when they had done so. We estimate hazard and tobit models to explainthe diffusion pattern of small business credit scoring models.Explanatory variables include several market, firm, and managerialfactors of the banking organizations' under study. The hazard modelindicates that larger banking organizations innovated earlier, as didthose located in the New York Federal Reserve district; both results areconsistent with our expectations. The tobit model confirms these resultsand also finds that organizations with fewer separately chartered banksbut more branches innovated earlier, which is consistent with theoriesstressing the importance of bank organizational form on lending style.Though the managerial variables' signs are consistent with ourexpectations, none yields significant results.

The Devil's in the Tail: Residential Mortgage Finance and the U.S. Treasury

Title: The Devil's in the Tail: Residential Mortgage Finance and the U.S. Treasury

Frame, W. Scott; Wall, Larry D.; White, Lawrence J.

Abstract: This paper seeks to contribute to the U.S. housing finance reformconversation by providing a critical assessment of the various types ofpolicy proposals that have been offered. There appears to be a broadconsensus to maintain explicit government guarantees for certainnarrowly defined borrower populations, such as FHA insurance guaranteesfor low- and moderate-income and first-time homebuyers. However, theexpected role of the federal government in the broader housing financesystem is in dispute: ranging from no role; to insuring against onlyextreme or tail events; to insuring against all losses. However, mostproposals agree that any public insurance be priced and available onlyfor loans meeting pre-specified criteria in an effort to limit taxpayer exposure.

The Credit Rating Industry: An Industrial Organization Analysis

Title: The Credit Rating Industry: An Industrial Organization Analysis

White, Lawrence J.

Abstract: The June 1999 and January 2001 proposals by the Bank for InternationalSettlements (BIS) Basel Committee on Banking Supervision to includeborrowers' credit ratings in assessments of the adequacy of banks'capital have heightened general interest in the credit rating industry:Who the industry's firms are; what they do; how they do it; and what theconsequences of their actions are. This paper uses thestructure-behavior-performance paradigm of "industrialorganization" to shed light on the credit rating industry and toprovide a framework for arranging initial observations and developingquestions for further analysis. A striking fact about the structure ofthe industry in the U.S. is its persistent fewness of incumbents. Therehave never been more than five general-purpose bond rating firms;currently there are only three. Network effects users' desires forconsistency of rating categories across issuers are surely part of theexplanation. But, for the past 25 years, regulatory restrictions (by theSecurities and Exchange Commission) on who can be a "nationallyrecognized securities rating organization" (NRSRO) have surely alsoplayed a role. A curious part of the behavior of the rating firms istheir coverage and their pricing. Hypotheses to explain this behaviorare explored. Although only limited information on profitability isavailable, it appears that bond rating is quite profitable. A growingregulatory demand for ratings (for safety-and-soundness regulation bybank regulators, insurance regulators, pension fund regulators, andsecurities regulators) and a regulatory limitation on supply surely arecontributory factors. The BIS proposals, if adopted, will accentuatethese trends for the U.S. and other industrial countries. There is analternative to these growing regulatory pressures. It would involve thesafety and soundness regulators' becoming more directly involved inregulatory judgments, rather than abdicating these judgments to privatesector bond rating firms. The SEC, and its counterparts abroad, couldthen vacate their roles as the certifier of credit rating firms. Thesesuggestions do not mean that the credit rating firms should be preventedfrom playing a continuing role in helping issuers and investors piercethe fog of asymmetric information in financial markets. But that roleshould be determined by the market participants themselves, not byadditional regulation that artificially increases demand and restrictssupply. The latter is a recipe for shortages, rents, and distortions.This is not a welcome prospect.

The Benefits of Franchising and Vertical Disintergration in Monopolistic Competition for Locationally Differentiated Products

Title: The Benefits of Franchising and Vertical Disintergration in MonopolisticCompetition for Locationally Differentiated Products

Economides, Nicholas

Abstract: A model of franchising competition in locationally differentiatedproducts is constructed. A franchisor (upstream firm) collects amarginal transfer fee per unit of output sold by a franchisee(downstream firm). For example, the marginal transfer fee can berealized as a markup on variable inputs supplied by the franchisor. Afranchisor also collects a lump-sum rent (commonly called"franchising fee") from each franchisee. Acting in the firststage, a franchisor can manipulate the degree of competition in thedownstream market through his choice of the marginal fee while keepingthe franchisee’s profits at zero through the lump sum rent.Franchisees choose prices for the final goods in the second stage. It isshown that, at the unique subgame-perfect equilibrium, the marginal feeis above marginal cost. Compared to a regime of vertically integratedfirms, prices are higher, there are more numerous outlets whencontractual costs are small, and social surplus is lower in thefranchising regime.

The Behavior of the Fixed Effects Estimator in Nonlinear Models,

Title: The Behavior of the Fixed Effects Estimator in Nonlinear Models,

Greene, William

Abstract: The nonlinear fixed effects models in econometrics has often beenavoided for two reasons one practical, one methodological. The practicalobstacle relates to the difficulty of estimating nonlinear models withpossibly thousands of coefficients. In fact, in a large number of modelsof interest to practitioners, estimation of the fixed effects model isfeasible even in panels with very large numbers of groups. The moredifficult, methodological question centers on the incidental parametersproblem that raises questions about the statistical properties of theestimator. There is very little empirical evidence on the behavior ofthe fixed effects estimator. In this note, we use Monte Carlo methods toexamine the small sample bias in the binary probit and logit models, theordered probit model, the tobit model, the Poisson regression model forcount data and the exponential regression model for a nonnegative randomvariable. We find three results of note: A widely accepted result thatsuggests that the probit estimator is actually relatively well behavedappears to be incorrect. Perhaps to some surprise, the tobit model,unlike the others, appears largely to be unaffected by the incidentalparameters problem, save for a surprising result related to thedisturbance variance estimator. Third, as apparently unexaminedpreviously, the estimated asymptotic estimators for fixed effectsestimators appear uniformly to be downward biased.

The Asset Management Industry in Asia: Dynamics of Growth, Structure, and Performance

Title: The Asset Management Industry in Asia: Dynamics of Growth, Structure,and Performance

Walter, Ingo; Sisli, Elif

Abstract: We examine the industrial organization and institutional development ofthe asset management industry in Asian developing economies specificallyin China, Indonesia, Korea, Malaysia, Singapore, Philippines andThailand. We focus on the size and growth of the buy-side of therespective financial markets, asset allocation, the regulatoryenvironment, and the state of internationalization of the fundmanagement industry in its key components mutual funds, pension fundsand asset management for high net worth individuals. We link these theevolution of professional asset management in these environments to thedevelopment of the respective capital markets and to the evolution ofcorporate governance. We find that the fund management industry occupiesa very small niche in domestic financial systems that are dominated bybanks. At the same time, we find that its growth has been very rapid inthe early 2000s and we suggest that this is likely to persist as thedemand for professional management of financial wealth in the regiondevelops and as the pension fund sectors of the respective economies areliberalized to allow larger portions of assets to be invested incollective investment schemes.

The 'Efficient Component Pricing Rule' (ECPR): A Generally Inefficient Solution to the Access Problem

Title: The 'Efficient Component Pricing Rule' (ECPR): A Generally InefficientSolution to the Access Problem

White, Lawrence J.

Testing the volatility term structure using option hedging criteria

Title: Testing the volatility term structure using option hedging criteria

Engle, Robert F.; Rosenberg, Joshua V.

Abstract: The volatility term structure (VTS) reflects market expectations ofasset volatility over different horizons. These expectations change overtime, giving dynamic structure to the VTS. This paper evaluatesvolatility models on the basis of their performance in hedging optionprice changes due to shifts in the VTS. An innovative feature of thehedging approach is its increased sensitivity to several important formsof model misspecification relative to previous testing methods.Volatility hedge parameters are derived for several volatility modelsincorporating different predicted VTS dynamics and informationvariables. Hedging tests using S&P500 index options indicate thatthe GARCH components with leverage VTS estimate is most accurate.Evidence is obtained for meanreversion in volatility and correlationbetween VTS shifts and S&P500 returns. While a convexity hedgedominates the volatility hedges for the observed sample, this resultappears to be due to sample selection bias.

Testing the Duo-factor-model of Return and Volume

Title: Testing the Duo-factor-model of Return and Volume

Cremers, K.J. Martijn; Mei, Jianping

Abstract: Recent theoretical work by Lo and Wang (2000) shows that a multi-factorassetpricing model not only imposes factor restrictions on stock returnsbut on trading volume as well. We explicitly test their theoreticalresult using individual stock return and turnover data from NYSE andAMEX from 1962 to 1996. We introduce a recently developed consistentstatistic by Bai and Ng (2001a) to determine the number of factors in aduo approximate multi factor model for return and turnover. While wefind that the duo-factor model captures a great deal of common variationof trading volume, the data rejects a model restriction that excessreturn and turnover should have the same number of systematic factors.Using the duo-factor-model, we decompose excess return and turnover intosystematic and idiosyncratic components. Our empirical work discovers asignificant increase in the variation of idiosyncratic turnover throughtime, analogous to the discovery of a noticeable increase in firm levelvolatility by Campbell, Lettau, Malkiel and Xu (2001). We also findsignificant co-movement between volatility and turnover at thesystematic levels. Our findings support the view that trading volume isnot purely random but driven by trading activities associated withmacroeconomic and firm news.

Telecommunications Regulation: An Introduction

Title: Telecommunications Regulation: An Introduction

Economides, Nicholas

Abstract: This paper examines the justifications, history, and practice ofregulation in the US telecommunications sector. We examine the impact oftechnological and regulatory change on market structure and businessstrategy. Among others, we discuss the emergence and decline of thetelecom bubble, the impact on pricing of digitization and the emergenceof Internet telephony (VOIP). We also examine the impact of the 1996Telecommunications Act on market structure and strategy in conjunctionwith the history of regulation and antitrust intervention in thetelecommunications sector. After discussing the impact of wirelesstechnologies, we conclude by venturing into some short term predictions.We express concern about the derailment of the implementation of the1996 Act by the aggressive legal tactics of the entrenched monopolists(the local exchange carriers), and we point to the real danger that theintent of Congress in passing the 1996 Act to promote competition intelecommunications will never be realized in local telecommunications inthe fashion that the 1996 prescribed. The decision of AT&T to stopmarketing both long distance and local services to residential customersis a direct result of the derailing of the 1996 Act that has allowed thelocal service monopolists (i) to enter long distance while the localmarket was still monopolized; and (ii) to leverage their monopoly powerin the local market to the long distance market. We also discuss thewave of mergers in the Telecommunications and cable industries, thetelecom meltdown of 2000-2003, and issues that arose from the triennialreview by the FCC of implementation of the 1996 Act.

Telecommunications Regulation: An Introduction

Title: Telecommunications Regulation: An Introduction

Economides, Nicholas

Abstract: This paper examines the justifications, history, and practice ofregulation in the US telecommunications sector. We examine the impact oftechnological and regulatory change on market structure and businessstrategy. Among others, we discuss the emergence and decline of thetelecom bubble, the impact on pricing of digitization and the emergenceof Internet telephony. We briefly examine the impact of the 1996Telecommunications Act on market structure and strategy in conjunctionwith the history of regulation and antitrust intervention in thetelecommunications sector. After discussing the impact of wirelesstechnologies, we conclude by venturing into some short term predictions.We express concern about the derailment of the implementation of the1996 Act by the aggressive legal tactics of the entrenched monopolists(the local exchange carriers), and we point to the real danger that theintent of Congress in passing the 1996 Act to promote competition intelecommunications will not be realized. We also discuss the wave ofmergers in the Telecommunications and cable industries, the telecommeltdown of 2000-2003, and issues that arose from the triennial reviewby the FCC of implementation of the 1996 Act.

Technology Adoption with Multiple Alternative Designs and the Option to Wait

Title: Technology Adoption with Multiple Alternative Designs and the Option to Wait

Cabral, Luis

Abstract: Frequently, new technologies arise under two or more alternativedesigns. Moreover, the state of each design evolves over time as aresult of various cumulative improvements. In this paper, we study thestrategic interaction between \incumbent" firms (those who alreadyown a design) and \entrants" (those who do not but would like toadopt the new technology). We focus on two important decisions by anentrant: when to choose a design and which design to choose. We showthat, in equilibrium, an entrant chooses the leading design and does notwait. While the former decision is efficient, the latter is generallynot: the incumbent firms' inability to commit to future prices leads toinefficiently early technology adoption.

Taxes and the Global Allocation of Capital

Title: Taxes and the Global Allocation of Capital

Backus, David; Henriksen, Espen; Storeletten, Kjetil

Abstract: Despite enormous growth in international capital °ows,capital-output ratios continue to exhibit substantial heterogeneityacross countries. We explore the possibility that taxes, particularlycorporate taxes, are a signi¯cant source of this heterogeneity. Theevidence is mixed. Tax rates computed from tax revenue are inverselycorrelated with capital-output ratios, as we might expect. However,effective tax rates constructed from official tax rates show littlerelation to capital -- or to revenue-based tax measures. The starkdifference between these two tax measures remains an open issue.

Tax and Liquidity Effects in Pricing Government Bonds

Title: Tax and Liquidity Effects in Pricing Government Bonds

Elton, Edwin J.; Green, Clifton T.

Abstract: Daily data from intra-dealer government bond brokers is examined for taxand liquidity effects. Utilizing actual trade prices rather than dealerestimated quotes gives us a more accurate measure of market clearingprices. Daily trading volume is also available, which provides us with arobust measure of liquidity. We use two approaches, one of which is new,to create cash flow matching portfolios of similar securities and lookfor pricing discrepancies associated with liquidity or tax effects. Wealso look for evidence of tax and liquidity effects by including aliquidity term when fitting a cubic spine to the after-tax yield curve.We find evidence of tax timing options and liquidity effects. However,the effects are much smaller than previously reported and the effects ofliquidity are primarily due to high volume bond with long maturities.

Switching Costs and Equilibrium Prices

Title: Switching Costs and Equilibrium Prices

Cabral, Luis

Abstract: In a competitive environment, switching costs have two eects. First,they increase the market power of a seller with locked-in customers.Second, they increase competition for new customers. I provideconditions under which switching costs decrease or increase equilibriumprices. Taken together, the suggest that, if markets are verycompetitive to begin with, then switching costs make them even morecompetitive; whereas if markets are not very competitive to begin with,then switching costs make them even less competitive. In the abovestatements, by "competitive" I mean a market that is close toa symmetric duopoly or one where the sellers' discount factor is very high.

Stretching Firm and Brand Reputation

Title: Stretching Firm and Brand Reputation

Cabral, Luis M.B.

Abstract: I consider an adverse selection model of ¯rm reputation. Each firmis characterized by an exogenously given quality level, which is thefirm's private information and applies to any product it sells.Consumers observe the performance of the firm's products, which ispositively related to the firm's quality level. The firm's reputation isgiven by the consumers' posterior on the firm's quality level given thefirm's performance history. I address the following question: if a firmis to launch a new product, should it use the same name as its baseproduct (reputation stretching), or should it create a new name (andstart a new reputation history)? I show that, for a given level ofreputation, firms stretch if and only if quality is sufficiently high.As a consequence, stretching signals high quality. If the new product isrelatively profitable compared to the base product, then, for a givenlevel of quality, firms stretch if and only if reputation is high (i.e.,firms exploit good reputations). Conversely, if the new product isrelatively unprofitable compared to the base product, then, for a givenlevel of quality, firms stretch if and only if reputation is low (i.e.,firms protect good reputations).

Strategic Commitments and the Principle of Reciprocity in Interconnection Pricing

Title: Strategic Commitments and the Principle of Reciprocity inInterconnection Pricing

Economides, Nicholas; Lopomo, Giuseppe; Woroch, Glenn

Abstract: We examine the effects of strategic commitments and network size onequilibrium interconnection fees set by competing localtelecommunications networks. Our goal is to analyze how the regulatoryrules of symmetric reciprocity and parity applied to interconnectioncharges affect the outcome of network competition. Symmetric reciprocitymeans that both networks charge the same price for termination, whereasparity holds when a network charges its customers as much as it chargescustomers of the other network for the same service. Assuming that eachconsumer does not subscribe to more than one network and givensubscription decisions, we begin by analyzing a game of strategicsymmetry where the two networks choose prices simultaneously. Second, weallow a dominant network to set its interconnection fees before therival network can set its prices. This results in a price-squeeze on therival network. Third, we show that the imposition of a rule of symmetricreciprocity on termination fees eliminates the strategic power of thefirst mover. When this rule is imposed, at equilibrium one networkchooses to set the common interconnection fee at cost, and prices forfinal services are lower than in the two previously-analyzed gameswithout symmetric reciprocity. Moreover, prices under symmetricreciprocity obey the parity principle. In the long run, consumerssubscribe to one of the two networks. Typically, there is a multiplicityof equilibria in the subscription game, including corner equilibria,where all consumers subscribe to the same network, resulting inmonopoly. However, when the rule of symmetric reciprocity is imposed,corner equilibria are eliminated. Thus, the rule symmetric reciprocityreduces the strategic asymmetry in local telecommunications networks andincreases welfare.

Strategic Analysis of Petty Corruption: Entrepreneurs and Bureaucrats

Title: Strategic Analysis of Petty Corruption: Entrepreneurs and Bureaucrats

Radner, Roy; Lambert-Mogiliansky, Ariane; Majumdar, Makul

Abstract: This paper develops a game-theoretic model of petty corruption bygovernment officials. Such corruption is widespread, especially (but notonly) in developing and transition economies. The model goes beyond thepreviously published studies in the way it describes the structure ofbureaucratic tracks, and the information among the participants.Entrepreneurs apply, in sequence, to a track of two or morebureaucrats in a prescribed order for approval of their projects. Ourfirst result establishes that in a one-shot situation no project evergets approved. This result leads us to consider a repeated interactionsetting. In that context we characterize in more detail thetrigger-strategy equilibria that minimize the social loss due to thesystem of bribes, and those that maximize the expected total bribeincome of the bureaucrats. The results are used to shed some light ontwo much advocated anti-corruption policies: the single window policyand rotation of bureaucrats. Corruption is found to be one of the mostdamaging consequences of poor governance characterized by lack of bothtransparency and accountability. Corruption lowers investment andhinders economic growth and human development, by limiting access tobasic social services as well as increasing the cost of their delivery.It also increases poverty, subverts the financial system, and underminesthe legitimacy of the state. Thus, corruption is anti-poor,anti-development, anti-growth, anti-investment, and inequitable. Thecost of corruption to a nation is very high .

Stock Grants as a Committment Device

Title: Stock Grants as a Committment Device

Clementi, Gian Luca; Cooley, Thomas; Wang, Chen

Abstract: A large and increasing fraction of the value of executives’compensation is accounted for by security grants. It is often arguedthat the optimal compensation contracts characterized in the theoreticalliterature can be implemented by means of stock or option grants.However, in most cases the optimal allocation can be implemented simplyby a contingent sequence of cash payments. Security awards areredundant. In this paper we develop a dynamic model of managerialcompensation where neither the firm nor the manager can commit tolong-term contracts. We show that, in this environment, if stock grantsare not used, then the optimal contract collapses to a series of shortterm contracts. When stock grants are used, however, nonlinearintertemporal schemes can be implemented to achieve better risk-sharingand greater firm value.

Staples-Office Depot and UP-SP: An Antitrust Tale of Two Proposed Mergers

Title: Staples-Office Depot and UP-SP: An Antitrust Tale of Two Proposed Mergers

White, Lawrence

Abstract: This paper examines two proposed mergers of the 1990s: the Staplesproposal to merge with Office Depot, and the Union Pacific railroad'sproposal to merge with the Southern Pacific. Though the two mergersappeared to be quite different on the surface, closer analysis indicatesthat they were surprisingly similar: both involved a merger of two ofthe three firms in their respective markets; and both involvedsignificant issues of market delineation. However, the two proposalsreceived quite disparate treatment by different antitrust regimes: Theformer was blocked by the FTC, while the latter was approved by the STB.The former was a sensible decision; the latter had disastrousconsequences for freight shipments in the American southwest in the late 1990s.

Standing on the Shoulders of Babies: Dominant Firms and Incentives to Innovate

Title: Standing on the Shoulders of Babies: Dominant Firms and Incentives to Innovate

Cabral, Luis; Polak, Ben

Abstract: Critics of Microsoft and Google's dominance claim these companies arenothing but "giants standing on the shoulders of babies,"whose dominance destroys the incentives for entrants to innovate. Bycontrast, pro-Microsoft and pro-Google analysts stress the benefits oflarge, innovative firms. We analyze the validity of these competingclaims in a model of R&D and product market competition between adominant firm and a small rival. An increase in firm dominance, which wemeasure by a premium in consumer valuation, increases the dominantfirm's incentives but decreases the rival firm's incentives for R&D.We provide sufficient conditions such that the positive effect on thedominant firm is mostly infra-marginal, whereas the negative effect onthe rival firm is mostly marginal. As a result, the R&Dencouragement effect is lower than the R&D discouragement effect;and if innovation is sufficiently important then firm dominance alsodecreases consumer and social surplus. We also provide conditions suchthat an increase in firm dominance increases the probability ofinnovation, essentially because the transfer of innovation incentivesform the rival firm to the dominant firm reduces the probability ofduplicative R&D efforts.

Standards Coalitions Formation and Market Structure in Network Securities

Title: Standards Coalitions Formation and Market Structure in Network Securities

Economides, Nicholas; Skrzypacz, Andrzej

Abstract: We discuss the formation of technical standards platforms in industrieswith network externalities where firms are free to choose their degreeof technical compatibility with competitors. In our model, firms chooseaffiliation to a technical standards coalition in the first stage of agame, and play an oligopoly game in the second stage. In adding itselfto a technical standards coalition, a firm benefits from the networkeffects of the whole coalition, but also faces increased competition inthe output market from other firms in the coalition. Also, the increaseof the size of the coalition changes the competitive position of membersof that coalition relative to other firms. We find that the extent andsize of coalitions at equilibrium depends crucially on the degree of theintensity of network effects. When network effects are very strong, fullcompatibility prevails. When externalities are slightly weaker, twostandards coalitions are formed, a singleton, and one with all remainingfirms. On the other extreme, for very weak network effects, theequilibrium is total incompatibility, and for slightly more intensenetwork effects, coalitions are of small size. We characterize a numberof other equilibria for intermediate strengths of network externalities.

Standard Risk Aversion and the Demand for Risky Assets in the Presence of Background Risk

Title: Standard Risk Aversion and the Demand for Risky Assets in the Presenceof Background Risk

Franke, G.; Stapleton, Richard C.; Subrahmnyam, Marti G

Abstract: We consider the demand for state contingent claims in the presence of azero-mean, non-hedgeable background risk. An agent is defined to begeneralized risk averse if he/she reacts to an increase in backgroundrisk by choosing a demand function for contingent claims with a smallerslope. We show that the conditions for standard risk aversion: positive,declining absolute risk aversion and prudence are necessary andsufficient for generalized risk aversion. We also derive a necessary andsufficient condition for the agent's derived risk aversion to increasewith a simple increase in background risk.

Spiders: Where are the Bugs?

Title: Spiders: Where are the Bugs?

Elton, Edwin J.; Gruber, Martin J.; Comer, George; Li, Kai

Sovereign Credit Default Swap Premia

Title: Sovereign Credit Default Swap Premia

Augustin, Patrick

Abstract: This paper provides a comprehensive overview of the young, but rapipdlygrowing literature on sovereign credit default swap premia, describeskey statistical and stylized facts about prices, the market, its playersand related trading activities and attempts to raise somethought-provoking questions. We thereby hope to serve as a usefulstarting point for anyone interested in the topic.

Sources of Entropy in Representative Agent Models

Title: Sources of Entropy in Representative Agent Models

Backus, David; Chernov, Mikhail; Zin, Stanley

Abstract: We propose two metrics for asset pricing models and apply them torepresentative agent models with recursive preferences, habits, andjumps. The metrics describe the pricing kernel’s dispersion (theentropy of the title) and dynamics (time dependence, a measure of howentropy varies over different time horizons). We show how each modelgenerates entropy and time dependence and compare their magnitudes toestimates derived from asset returns. This exercise — andtransparent loglinear approximations — clarifies the mechanismsunderlying these models. It also reveals, in some cases, tension betweenentropy, which should be large enough to account for observed excessreturns, and time dependence, which should be small enough to accountfor mean yield spreads.

Something to Prove: Reputation in teams and hiring to introduce uncertainty

Title: Something to Prove: Reputation in teams and hiring to introduce uncertainty

Bar-Isaac, Heski

Abstract: Agents work for their own reputations when young but for their firmswhen old. An individual with an established reputation cannot crediblycommit to exerting effort when working alone. However, by hiring andworking with juniors of uncertain rep- utation, seniors will haveincentives to exert effort. Incentives for young agents arise from aconcern for their own reputation (and the opportunity to take over thefirm) but older agents work for the reputation of their firms (and theopportunity to sell out to juniors). An important theoreticalcontribution is an example of a mechanism that endogenously introducestype uncertainty.

Social Networks, Personalized Advertising, and Privacy Controls

Title: Social Networks, Personalized Advertising, and Privacy Controls

Tucker, Catherine - Sloan School of Business, MIT

Abstract: This paper investigates how internet users' perception of control overtheir personal information affects how likely they are to click ononline advertising. The paper uses data from a randomized fieldexperiment that examined the relative effectiveness of personalizing adcopy to mesh with existing personal information on a social networkingwebsite. The website gave users more control over their personallyidentifiable information in the middle of the field test. The websitedid not change how advertisers used anonymous data to target ads. Afterthis policy change, users were twice as likely to click on personalizedads. There was no comparable change in the effectiveness of ads that didnot signal that they used private information when targeting. Theincrease in effectiveness was larger for ads that used less commonlyavailable private information to personalize their message. Thissuggests that giving users the perception of more control over theirprivate information can be an effective strategy foradvertising-supported websites.

Simultaneous Ascending Bid Auctions with Budget Constraints

Title: Simultaneous Ascending Bid Auctions with Budget Constraints

Brusco, Sandro; Lopomo, Giuseppe

Abstract: We identify and analyze three distinct effects arising from potentiallybinding budget constraints in multi-unit ascending auctions. First,binding budgets clearly reduce the level of competition among bidders.Second, budget constraints may at the same time make it difficult tosustain collusive equilibria when bidders lack sufficient resources to‘punish’ defectors. Third, the mere possibility, even ifarbitrarily small, of binding budget constraints can reduce competitionsubstantially because bidders can ‘pretend’ to beconstrained, even if they are not. In this cases, measures restrictingthe participation of low-budget bidders, e.g. reserve prices, canincrease social welfare.

Simulated Likelihood Estimation of the Normal-Gamma Stochastic Frontier Function

Title: Simulated Likelihood Estimation of the Normal-Gamma Stochastic Frontier Function

Greene, William H.

Abstract: The normal-gamma stochastic frontier model was proposed in Greene (1990)and Beckers and Hammond (1987) as an extension of the normalexponentialproposed in the original derivations of the stochastic frontier byAigner, Lovell, and Schmidt (1977). The normal-gamma model has thevirtue of providing a richer and more flexible parameterization of theinefficiency distribution in the stochastic frontier model than eitherof the canonical forms, normal-half normal and normal-exponential.However, several attempts to operationalize the normal-gamma model havemet with very limited success, as the log likelihood is possesed of asignificant degree of complexity. This note will propose an alternativeapproach to estimation of this model based on the method of simulatedmaximum likelihood estimation as opposed to the received attempts whichhave approached the problem by direct maximization.

Should We Regulate Financial Information?

Title: Should We Regulate Financial Information?

Kurlat, Pablo; Veldkamp, Laura

Abstract: Regulations that require asset issuers to disclose payoﬀ-relevantinformation to potential buyers sound like obvious measures to increaseinvestor welfare. But in many cases, such regulations harm investors. Inan equilibrium model, asset returns compensate investors for risk. Bymaking payoﬀs less uncertain, disclosure reduces risk and thereforereduces return. As high-risk, high-return investments disappear,investor welfare falls. Of course, information is still valuable to eachindividual investor. But acquiring information is like aprisoners’ dilemma. Each investor is better oﬀ with theinformation, but collectively investors are better oﬀ if they remainuninformed. The only cases in which providing information improvesinvestors’ welfare are ones where there would otherwise be severeasymmetric information. Using a model of information markets, the paperexplores when such outcomes are likely to arise. When we extend themodel so that ﬁnancial markets with information allocate the realcapital stock more eﬃciently, these conclusions do not change.Disclosure improves eﬃciency, but more eﬃcient ﬁrms do not have morerisk and therefore do not oﬀer investors higher return. Instead, theysimply command a higher price, which only beneﬁts the asset issuer.Since the eﬃciency gains are fully internalized by asset issuers, whocan choose to disclose without disclosure being mandatory, the eﬃciencyargument is not a logical rationale for regulation.

Should Wal-Mart, Real Estate Brokers, and Banks Be in Bed Together? A Principles-Based Approach to the Issues of the Separation of Banking and Commerce

Title: Should Wal-Mart, Real Estate Brokers, and Banks Be in Bed Together? APrinciples-Based Approach to the Issues of the Separation of Banking and Commerce

White, Lawrence J.

Abstract: The application in July 2005 by Wal-Mart to obtain a specialized bankcharter from the state of Utah and to obtain federal deposit insurancere-opened a national debate concerning the separation of banking andcommerce. Simultaneously, bank regulators were considering thepossibility of allowing banks to enter the area of residential realestate brokerage, which is another facet of the same set of issues.Though Wal-Mart withdrew its application in March 2007, the issues andthe debate continue. This paper offers a principles-based approach tothese issues that begins with the recognition that banks are special andthat safety-and-soundness regulation of banks is therefore warranted.Building on that recognition, the paper lays out the principle that the“examinability and supervisability” of an activity shoulddetermine if it should be undertaken by a bank or by a bank’sowners. Even if an otherwise legitimate activity is not suitable for abank, it should be allowed for a bank’s owners (whether the ownersare individuals or a holding company), so long as the financialtransactions between the bank and its owners are closely monitored bybank regulators. The implications of this set of ideas for the Wal-Martcase, for real estate brokerage, and for banking and commerce generallyare then discussed.

Should Governments Compete for Foreign Direct Investment?

Title: Should Governments Compete for Foreign Direct Investment?

Katz, Barbara G.; Owen, Joel

Abstract: We study two governments, each considering whether or not to compete toattract a foreign monopoly firm into its own domestic market. Thecompetition, should it occur, would involve offering incentives to thefirm. The incentives, which are costly for the governments to provide,lower the firm s marginal cost of production. Faced with the offers fromeach country, the firm must choose one of four options: to enter eitherof the markets, produce there and export to the other, to enter bothmarkets simultaneously with only local production, or to reject alloffers. We find conditions under which it would be optimal for one ofthe two countries not to compete with the other, preferring instead toimport the commodity from the country that attracted the firm, ratherthan incurring the additional costs that would have been necessary tomake its own economy more attractive to the foreign firm. We show thatwhen importing the good is a possibility, there are conditions underwhich, knowing that it will lose (win) the competition for the firm, thecountry nonetheless finds it optimal to (not) compete. Also, we derivethe market structure by establishing the relationship between the optionchosen by the firm and the characteristics of the two governments tryingto attract the firm.

Sharing Investment Bankers

Title: Sharing Investment Bankers

Asker, John

Abstract: We document that firms appear disinclined to share underwriters withother firms in the same industry. We show that this disinclination isevident only when firms engage in product-market competition. This leadsus to suggest that concerns about information leakage may motivate thepatterns we see in the data. We discuss how these effects help usunderstand how the investment banking industry is structured, how bankscompete, and how prices are set. At each step we exploit sources ofexogenous variation that correspond to specific margins on which theeffects of interest directly influence incentives and choices.

Selling Through Referrals

Title: Selling Through Referrals

Condorelli, Daniele; Galeotti, Andrea; Skreta, Vasiliki

Abstract: A seller has an object for sale and can reach buyers only throughintermediaries, who also have privileged information about buyers’valuations. Intermediaries can either mediate the transaction by buyingthe object and reselling it–the merchant model–or referbuyers to the seller and release information for a fee–the agencymodel. The merchant model suﬀers from double marginalization. The agencymodel suﬀers from adverse selection: Intermediaries would like to referlow-value buyers, but retain high-value ones and make proﬁts fromresale. We show that, in equilibrium, intermediaries specialize inagency. Seller’s and intermediaries’ joint proﬁts equal theseller’s proﬁts when he has access to all buyers and allintermediaries’ information. Proﬁts’ division depends onseller’s and intermediaries’ relative bargaining power. Ourresults rationalize the prevalence of the agency model in online markets.

Security Bid/Ask Dynamics with Discreteness and Clustering: Simple Strategies for Modeling and Estimation

Title: Security Bid/Ask Dynamics with Discreteness and Clustering: SimpleStrategies for Modeling and Estimation

Hasbrouck, Joel

Abstract: This paper proposes a dynamic model of bid and ask quotes thatincorporates a stochastic cost of market-making, discreteness(restriction of quotes to a fixed grid) and clustering (the tendency ofquotes to lie on “natural” multiples of the tick size). TheGibbs sampler provides a convenient vehicle for estimation. The model isestimated for daily and intradaily US Dollar/Deutschemark Reuters quotes.

Sample Selection in the Poisson Regression Model

Title: Sample Selection in the Poisson Regression Model

Greene, William H.

Abstract: We present a correction for sample selectively in the poisson regressionmodel for count data. The model is similar to that devised by Heckmanfor the linear regression model. Estimation by a two step method issuggested using nonlinear least squares at the second step. The modeldescribed here was presented in Greene(1994). Terza(1995) describes analternative approach that has more orthodox specification of theregression function. We show in this note that Terza's approach isessentially the same as Greene's.

Risk Taking by Banks in the Transition Countries

Title: Risk Taking by Banks in the Transition Countries

Wachtel, Paul; Haselmann, Rainer

Abstract: Although the performance and privatization of transition banks have beenwidely studied already, little is known about their risk taking and riskmanagement activities. We use a new EBRD survey data set of banks toexamine risk taking by banks in the transition countries. We find noindication of excessive risk taking by specific ownership or sizecategories of banks. Also, we find no connections between risk takingand the quality of the institutional environment although an unsoundenvironment is associated with higher levels of capital.