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on Contract Theory and Applications |
| By: | Kawai, Keiichi |
| Abstract: | We analyze a dynamic market for lemons in which the quality of the good is endogenously determined by the seller. Potential buyers sequentially submit offers to one seller. The seller can make an investment that determines the quality of the item at the beginning of the game, which is unobservable to buyers. At the interim stage of the game, the information and payoff structures are the same as in the market for lemons. Our main result is that the possibility of trade does not create any efficiency gain if (i)the common discounting is low, and (ii)the static incentive constraints preclude the mutually agreeable ex-ante contract under which the trade happens with probability one. Our result does not depend on whether the offers by buyers are private or public. |
| Keywords: | Bargaining; delay; impasse; observability; lemons problem. |
| JEL: | D82 |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:29688&r=cta |
| By: | Piero Gottardi; Rohit Rahi |
| Abstract: | We study the value of information in a competitive economy in which agents trade in asset markets to reallocate risk. We characterize the kinds of information that allow a welfare improvement when portfolios can be freely reallocated. We then compare competitive equilibria before and after a change in information. We show that generically, if markets are sufficiently incomplete, the welfare effects are completely arbitrary: there typically exist changes in information that make all agents better off, or all agents worse off. |
| Keywords: | Equilibrium, Incomplete Markets, Value of Information |
| JEL: | D52 D60 D80 |
| Date: | 2010 |
| URL: | http://d.repec.org/n?u=RePEc:eui:euiwps:eco2010/34&r=cta |
| By: | Mikhail Drugov |
| Abstract: | This paper introduces an agency relationship into a dynamic game with informational externalities. Two principals bargain with their respective agents about the production cost which is the private information of the agents and is correlated between them. We find that the agency relationship creates an incentive for simultaneous production, even if this involves an inefficient delay. As the commitment power of the principals decreases, this incentive becomes stronger. When principals compete, the effect of competition is decomposed into two parts. Inter-period competition (from past and future actions) pushes principals towards simultaneous actions, while intra-period competition (from concurrent actions) does the opposite. |
| Keywords: | Bargaining, Adverse selection, Learning, Information, Externalities, Delay |
| JEL: | C78 D82 D83 L10 |
| Date: | 2011–03 |
| URL: | http://d.repec.org/n?u=RePEc:cte:werepe:we1102&r=cta |
| By: | Svetlana Andrianova; Badi H. Baltagi; Panicos O. Demetriades; David Fielding |
| Abstract: | We put forward a plausible explanation of African financial under-development in the form of a bad credit market equilibrium. Utilising an appropriately modified IO model of banking, we show that the root of the problem could be unchecked moral hazard (strategic loan defaults) or adverse selection (a lack of good projects). Applying a dynamic panel estimator to a large sample of African banks, we show that loan defaults are a major factor inhibiting bank lending when the quality of regulation is poor. We also find that once a threshold level of regulatory quality has been reached, improvements in the default rate or regulatory quality do not matter, providing support for our theoretical predictions. |
| Keywords: | Dynamic panel data; African financial under-development; African credit markets |
| JEL: | G21 O16 |
| Date: | 2011–03 |
| URL: | http://d.repec.org/n?u=RePEc:lec:leecon:11/19&r=cta |
| By: | Ugo Albertazzi (Bank of Italy); Ginette Eramo (Bank of Italy); Leonardo Gambacorta (Bank for International Settlements); Carmelo Salleo (European Systemic Risk Board Secretariat) |
| Abstract: | A growing number of studies on the US subprime market indicate that, due to asymmetric information, credit risk transfer activities have perverse effects on banks’ lending standards. We investigate a large part of the market for securitized assets (“prime mortgages”) in Italy, a country with a regulatory framework analogous to the one prevalent in Europe. Information on over a million mortgages consists of loan-level variables, characteristics of the originating bank and, most importantly, contractual features of the securitization deal, including the seniority structure of the ABSs issued by the Special Purpose Vehicle and the amount retained by the originator. We borrow a robust way to test for the effects of asymmetric information from the empirical contract theory literature (Chiappori and Salanié, 2000). Overall, our evidence suggests that banks can effectively counter the negative effects of asymmetric information in the securitization market by selling less opaque loans, using signaling devices (i.e. retaining a share of the equity tranche of the ABSs issued by the SPV) and building up a reputation for not undermining their own lending standards. |
| Keywords: | securitization, asymmetric information, signaling, reputation |
| JEL: | D82 G21 |
| Date: | 2011–02 |
| URL: | http://d.repec.org/n?u=RePEc:bdi:wptemi:td_796_11&r=cta |
| By: | Antonis Adam (Department of Economics, University of Ioannina); Petros G. Sekeris (Center for Research in the Economics of Development, University of Namur) |
| Abstract: | In anarchic settings, the potential rivals are dragged in an arms race that can degenerate in an open war out of mutual suspicion. We propose a novel commitment device for contestants to avoid both arming and fighting. We allow the players to decentralize the two core decisions that determine whether peace or war ensues. While in centralized countries the decision makers are unable to credibly communicate to their foe their willingness not to arm and not to attack, where the two decisions are dissociated there exists scope for not arming with certainty, and hence overcoming the commitment problem that makes war otherwise inevitable. This mechanism complements existing theories on the Democratic Peace. |
| Keywords: | Conflict; Private Information; Democratic Peace |
| JEL: | D74 D82 F5 H56 |
| Date: | 2010–12 |
| URL: | http://d.repec.org/n?u=RePEc:nam:wpaper:1014&r=cta |
| By: | Enrico Perotti (University of Amsterdam, Duisenberg school of finance, and CEPR); Lev Ratnovski (International Monetary Fund); Razvan Vlahu (Dutch Central Bank) |
| Abstract: | The paper studies risk mitigation associated with capital regulation, in a context when banks may choose tail risk assets. We show that this undermines the traditional result that higher capital reduces excess risk-taking driven by limited liability. When capital raising is costly, poorly capitalized banks may limit risk to avoid breaching the minimal capital ratio. A bank with higher capital has less |
| Keywords: | Bank Regulation; Risk Shifting; Capital Requirements; Tail Risk; Systemic Risk |
| JEL: | E6 F3 F4 G2 G3 O16 |
| Date: | 2011–02–17 |
| URL: | http://d.repec.org/n?u=RePEc:dgr:uvatin:20110039&r=cta |
| By: | Luke Lindsay |
| Abstract: | Many studies have found a gap between willingness-to-pay and willingness-to-accept that is inconsistent with standard theory. There is also evidence that the gap is eroded by experience gained in the laboratory and naturally occurring markets. This paper argues that the gap and the effects of experience are explained by a caution heuristic. This conjecture is tested in a repeated market experiment with symmetric and asymmetric information. The results support the conjecture: people do seem to use heuristics rather than reacting optimally and their behavior adjusts slowly when the environment changes. |
| Keywords: | WTA/WTP disparity, endowment effect, market experience, bounded rationality, asymmetric information |
| JEL: | D4 D81 D82 |
| Date: | 2011–02 |
| URL: | http://d.repec.org/n?u=RePEc:zur:econwp:005&r=cta |
| By: | Matthias Kräkel; Frauke Lammers; Nora Szech |
| Abstract: | According to the previous literature on hiring, ?rms face a trade-off when deciding on external recruiting: From an incentive perspective, external recruiting is harmful since admission of external candidates reduces internal workers’ career incentives. However, if external workers have high abilities hiring from outside is bene?cial to improve job assignment. In our model, external workers do not have superior abilities. We show that external hiring can be pro?table from a pure incentive perspective. By opening its career system, a ?rm decreases the incentives of its low-ability workers. The incentives of high-ability workers can increase from a homogenization of the pool of applicants. Whenever this effect dominates, a ?rm prefers to admit external applicants. If vacancies arise simultaneously, ?rms face a coordination problem when setting wages. If ?rms serve the same product market, weaker ?rms use external recruiting and their wage policy to offset their competitive disadvantage. |
| Keywords: | contest, externalities, recruiting, wagepolicy |
| JEL: | C72 J2 J3 |
| Date: | 2011–03 |
| URL: | http://d.repec.org/n?u=RePEc:bon:bonedp:bgse02_2011&r=cta |
| By: | Didier, Tatiana |
| Abstract: | The preference among foreign institutional investors for large firms is widely documented. This paper deepens our understanding of international investments by providing evidence that foreign institutional investors with broader investment scopes prefer to invest in firms where they are less prone to information disadvantages than more specialized ones. In other words, there is heterogeneity in how information asymmetries affect investors'portfolio choices. Theoretically, a model with costly information and short-selling constraints shows that the broader the investor's mandate, the smaller the incentives to gather and process costly information. Empirically, an analysis of the mutual fund industry in the United States supports this hypothesis. |
| Keywords: | Mutual Funds,Debt Markets,Emerging Markets,Investment and Investment Climate,Microfinance |
| Date: | 2011–03–01 |
| URL: | http://d.repec.org/n?u=RePEc:wbk:wbrwps:5586&r=cta |
| By: | Panetti, Ettore |
| Abstract: | In the present paper, I analyze how unobservable savings affect risk sharing and bankruptcy decisions in the financial system. I extend the Diamond and Dybvig (1983) model of financial intermediation to an environment with heterogeneous intermediaries, aggregate uncertainty and agents' hidden borrowing and lending. I demonstrate three results. First, unobservability imposes a burden on financial intermediaries, that in equilibrium are not able to offer a banking contract that balances insurance and incentive motivations. Second, unobservable markets do induce default, but only as long as insurance markets are incomplete. Therefore, their presence is not a rationale for government intervention on bankruptcy via "resolution regimes". Third, even in case of complete markets the competitive equilibrium is inefficient, and a simple tier-1 capital ratio similar to the one proposed in the Basel III Accord implements the efficient allocation. |
| Keywords: | financial intermediation; hidden savings; bankruptcy; insurance; optimal regulation |
| JEL: | E44 G28 G21 |
| Date: | 2011–02–10 |
| URL: | http://d.repec.org/n?u=RePEc:pra:mprapa:29542&r=cta |
| By: | Menno Middeldorp; Stephanie Rosenkranz |
| Abstract: | Central banks have become increasingly communicative. An important reason is that democratic societies expect more transparency from public institutions. Central bankers, based on empirical research, also believe that sharing information has economic benefits. Communication is seen as a way to improve the predictability of monetary policy, thereby lowering financial market volatility and contributing to a more stable economy. However, a potential side-effect of providing costless public information is that market participants may be less inclined to invest in private information. Theoretical results suggest that this can hamper the ability of markets to predict future monetary policy. We test this in a laboratory asset market. Crowding out of information acquisition does indeed take place, but only where it is most pronounced does the predictive ability of the market deteriorate. Notable features of the experiment include a complex setup based directly on the theoretical model and the calibration of experimental parameters using empirical measurements. |
| Keywords: | Banks and banking, Central ; Monetary policy ; Disclosure of information |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:fip:fednsr:487&r=cta |
| By: | Timothée Demont (Center for Research in the Economics of Development, University of Namur) |
| Abstract: | This paper looks at ‘the other side’ of the much-celebrated microfinance revolution, namely its potential impact on the conditions of access to credit for nonmembers (the residual market). It uses a standard adverse selection framework to show the advantage of group lending as a single innovative lending technology, and then to assess how the apparition of this new type of lenders might change the equilibria on rural credit markets, taking into account the reaction of other lenders. We find that two antagonist effects coexist: a standard competition effect and a selection effect. While the former tends to lower the residual market rate, the latter raises the cost of borrowing outside microfinance institutions (MFIs) due to a worsening of the pool of borrowers. The relative weights of the two effects depend on the market structure, the heterogeneity of the population and the actual distance between lending technologies. If the individuallending market is competitive, then the only possible effect is the increase of the interest rate charged by moneylenders, which will happen as soon as the pool of borrowers of the two types of lenders are overlapping. If traditional moneylenders have market power, then the two effects are at work. Even then, whenever a group-lending institution is present in the market, a monopolistic moneylender has to give up supplying credit to relatively safe borrowers, which can allow it to raise its interest rate (though making a lower profit). This arguably less intuitive impact of microfinance, which has been overlooked until now, is important given the nearly-universal coexistence of MFIs and traditional lenders in developing countries. Moreover, it is not only theoretically likely, but seems to match some empirical evidence presented in the paper. Our paper is thus a contribution in the understanding of the redistributive impact of the microfinance revolution that has been occurring in the last years. |
| Keywords: | Microfinance, Rural credit market, Adverse selection, Group lending, Competition. |
| JEL: | D82 G21 L1 O12 O16 |
| Date: | 2010–03 |
| URL: | http://d.repec.org/n?u=RePEc:nam:wpaper:1005&r=cta |