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on Contract Theory and Applications |
| By: | Vives, Xavier |
| Abstract: | This paper presents a market with asymmetric information where a privately revealing equilibrium obtains in a competitive framework and where incentives to acquire information are preserved. The equilibrium is efficient, and the paradoxes associated with fully revealing rational expectations equilibria are precluded without resorting to noise traders. The rate at which equilibria in finite replica markets with n traders approach the equilibrium in the continuum economy is 1/[square root]n, slower than the rate of convergence to price-taking behavior (1/n); and the per capita welfare loss is dissipated at the rate 1/n, slower than the rate at which inefficiency due to market power vanishes (1/n[squared]). The model admits a reinterpretation in which behavioral traders coexist with rational traders, and it allows us to characterize the amount of induced mispricing. |
| Keywords: | Adverse selection; Behavioral traders; Complementarities; Double auction; Information acquisition; Multi-unit auctions; Rate of convergence |
| JEL: | D82 D84 G14 |
| Date: | 2011–06 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:8426&r=cta |
| By: | Maria Demertzis |
| Abstract: | Using the model by Morris and Shin (2002), we distinguish between how people perceive a state and how they act upon it. We show than even for perceptions, where the coordination motive plays no role, improving the quality of public information does not always reduce the forecasting error. The reason why this happens is because better information is always more relevant information. But if improvements in information attract more attention than they deserve, the overall effect may be detrimental to the accuracy of perceptions. Increases in private information quality, on the other hand, are always beneficial to the decisions. Moreover, the assumption of no private information error on average implies that agents would do better collectively if there was no public information signal. |
| Keywords: | Signal extraction; Public and Private information; Actions vs Perceptions |
| JEL: | D82 E52 E58 |
| Date: | 2011–04 |
| URL: | http://d.repec.org/n?u=RePEc:dnb:dnbwpp:290&r=cta |
| By: | Dietrich, Franz |
| Abstract: | If a group is modelled as a single Bayesian agent, what should its beliefs be? I propose an axiomatic model that connects group beliefs to beliefs of the group members. The group members may have different information, different prior beliefs and even different domains (algebras) within which they hold beliefs, accounting for differences in awareness and conceptualisation. As is shown, group beliefs can incorporate all information spread across individuals without individuals having to explicitly communicate their information (that may be too complex or personal to describe, or not describable in principle in the language). The group beliefs derived here take a simple multiplicative form if people's information is independent (and a more complex form if information overlaps arbitrarily). This form contrasts with familiar linear or geometric opinion pooling and the (Pareto) requirement of respecting unanimous beliefs. |
| Date: | 2010–10 |
| URL: | http://d.repec.org/n?u=RePEc:ner:lselon:http://eprints.lse.ac.uk/29573/&r=cta |
| By: | Bonfiglioli, Alessandra; Gancia, Gino A |
| Abstract: | This paper formalizes in a fully-rational model the popular idea that politicians perceive an electoral cost in adopting costly reforms with future benefits and reconciles it with the evidence that reformist governments are not punished by voters. To do so, it proposes a model of elections where political ability is ex-ante unknown and investment in reforms is unobservable. On the one hand, elections improve accountability and allow to keep well-performing incumbents. On the other, politicians make too little reforms in an attempt to signal high ability and increase their reappointment probability. Although in a rational expectation equilibrium voters cannot be fooled and hence reelection does not depend on reforms, the strategy of underinvesting in reforms is nonetheless sustained by out-of-equilibrium beliefs. Contrary to the conventional wisdom, uncertainty makes reforms more politically viable and may, under some conditions, increase social welfare. The model is then used to study how political rewards can be set so as to maximize social welfare and the desirability of imposing a one-term limit to governments. The predictions of this theory are consistent with a number of empirical regularities on the determinants of reforms and reelection. They are also consistent with a new stylized fact documented in this paper: economic uncertainty is associated to more reforms in a panel of 20 OECD countries. |
| Keywords: | Asymmetric Information; Elections; Reforms; Uncertainty |
| JEL: | E6 H3 |
| Date: | 2011–06 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:8421&r=cta |
| By: | Biran, Omer; Forges, Françoise |
| Abstract: | We propose a semi-cooperative game theoretic approach to check whether a given coalition is stable in a Bayesian game with independent private values. The ex ante expected utilities of coalitions, at an incentive compatible (noncooperative) coalitional equilibrium, describe a (cooperative) partition form game. A coalition is core-stable if the core of a suitable characteristic function, derived from the partition form game, is not empty. As an application, we study collusion in auctions in which the bidders' final utility possibly depends on the winner's identity. We show that such direct externalities offer a possible explanation for cartels'structures (not) observed in practice. |
| Keywords: | Core; Bayesian game; Auctions; Collusion; partition function game; |
| JEL: | D44 C72 C71 |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:ner:dauphi:urn:hdl:123456789/4100&r=cta |
| By: | SATO Toyohiko; XU Peng |
| Abstract: | In this paper, we examine how and what types of Japanese small and medium-sized enterprises (SMEs) use the private placement market, exploring factors behind their choice between private placement bonds and bank loans as a means of raising capital. Privately placed corporate bonds tend to have a medium- to long-term maturity period and are often guaranteed by banks. The typical profile of an issuer of privately placed bonds is a medium-sized firm that is fairly profitable and has relatively low financial leverage. Meanwhile, poorly performing medium-sized enterprises - i.e., those posing a serious information asymmetry problem - and smaller firms tend to opt for bank loans. As compared to issuers of private placement bonds, firms relying on long-term bank loans generally have a higher fixed-to-total assets ratio. That is, smaller firms and information-problematic medium-sized firms tend to borrow from banks. We argue that issuing private placement bonds offers greater advantages to those firms capable of doing so, namely, profitable and medium sized firms with relatively low financial leverage because it enables them to secure medium- to long-term financing and thus avoid frequent bank interference with their business management. Furthermore, they can build a track record of successful bond issuance. These findings have important policy implications regarding SMEs' choice of financing. Meanwhile, firms show less of a tendency to issue bonds when their main creditor bank is saddled with more bad loans. This suggests that the credit crunch is not a reason for opting for private placement bonds. |
| Date: | 2010–12 |
| URL: | http://d.repec.org/n?u=RePEc:eti:rdpsjp:10056&r=cta |
| By: | Stéphanie Weynants (Earth and Life Institute, Université Catholique de Louvain) |
| Abstract: | We present a theory of endogenous formation of insurance groups which combines heterogeneity on agents? risk aversion under asymmetric information and lack of enforceability of contracts. Income sharing inside the group is decided by majority voting and the size of the group adjusts to this decision through participation constraints. At equilibrium, all group members agree on the same imperfect level of income sharing, which yields a constrained-e¢ cient equilibrium. Comparative statics on the risk faced by the community provide interesting results. A mean preserving spread of income implies more income sharing and a larger group size. New members, and possibly even old members may be better o¤, while non-members are worse-o¤. These results have relevant policy implications. |
| Date: | 2011–05 |
| URL: | http://d.repec.org/n?u=RePEc:nam:wpaper:1107&r=cta |
| By: | Fabrizi, Simona; Lippert, Steffen; Norbäck, Pehr-Johan; Persson, Lars |
| Abstract: | We analyze incentives to develop entrepreneurial ideas for venture capitalists (VCs) and incumbent firms. If VCs are sufficiently better at judging an idea's value and if it is sufficiently more costly to patent low than high value ideas, VCs acquire valuable ideas, develop them beyond the level incumbents would have chosen, and use patents to signal their companies' high value to acquirers prior to exiting. This increases the VC-backed companies' patenting intensity and long-run performance, but also infl ates their acquisition prices, and lowers their acquirers' overall profits. Patent law usefulness clauses would reduce such excessive, signaling-driven investment and patenting intensity. |
| Keywords: | innovation; patent law; patenting intensity; preemptive vs late acquisition strategies; signaling; usefulness requirement; venture capital |
| JEL: | C70 D21 D82 G24 L26 M13 O31 O34 |
| Date: | 2011–05 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:8392&r=cta |
| By: | Christos Bilanakos |
| Abstract: | This paper studies contracts and incentives to invest in general human capital under common agency. Both the worker and the employer have too weak investment incentives in equilibrium. The employer’s underinvestment results from his failure to internalize the positive impact of his investment on other firms’ productivity as well as from the fact that he gives a share of output to the worker in order to induce a higher effort contribution. The worker anticipates that she will not be the full residual claimant of benefits and underinvests in equilibrium, too. A benevolent government will choose a set of subsidies such that the worker’s investment relative to the employer is equal to the first-best relative investment intensity. If the number of employers is small, then the worker’s investment level is relatively low and the government must give a relatively higher subsidy to the worker in order to stimulate her investment incentives. |
| Keywords: | General Human Capital, Common Agency, Contracts. |
| Date: | 2011–05 |
| URL: | http://d.repec.org/n?u=RePEc:ucy:cypeua:08-2011&r=cta |
| By: | Christos Bilanakos |
| Abstract: | This paper studies the provision of firm-sponsored general training in the presence of workers’ career concerns. We use a model building on the argument that the acquisition of general skills increases the worker’s bargaining power vis-a-vis the employer. In this context, we show that the worker’s implicit incentives to provide effort increase with the level of acquired general training. The employer takes this reciprocal effect into account and is thus more willing to invest in general human capital in the first place. When the positive effect of training on worker’s incentives is strong enough, the equilibrium outcome may even involve overinvestment in general training. It is also shown that a sharper increase in worker’s power associated with additional training may strengthen the employer’s investment incentives and have beneficial effects on welfare. |
| Keywords: | General Training, Career Concerns, Power. |
| Date: | 2011–05 |
| URL: | http://d.repec.org/n?u=RePEc:ucy:cypeua:07-2011&r=cta |
| By: | Enrico Perotti; Javier Suarez |
| Abstract: | This paper discusses liquidity regulation when short-term funding enables credit growth but generates negative systemic risk externalities. It focuses on the relative merit of price versus quantity rules, showing how they target different incentives for risk creation. When banks differ in credit opportunities, a Pigovian tax on short-term funding is efficient in containing risk and preserving credit quality, while quantity-based funding ratios are distorsionary. Liquidity buffers are either fully ineffective or similar to a Pigovian tax with deadweight costs. Critically, they may be least binding when excess credit incentives are strongest. When banks differ instead mostly in gambling incentives (due to low charter value or overconfidence), excess credit and liquidity risk are best controlled with net funding ratios. Taxes on short-term funding emerge again as efficient when capital or liquidity ratios keep risk shifting incentives under control. In general, an optimal policy should involve both types of tools. |
| Keywords: | liquidity requirements; liquidity risk; liquidity risk levies; macroprudential regulation; systemic risk |
| JEL: | G21 G28 |
| Date: | 2011–04 |
| URL: | http://d.repec.org/n?u=RePEc:dnb:dnbwpp:291&r=cta |
| By: | Antonelli Cristiano; Crespi Francesco (University of Turin) |
| Abstract: | Public policy plays a key role in supporting R&D activities and a variety of policy tools have been applied to contrast the undersupply of technological knowledge including the provision of subsidies to private firms performing R&D activities. A large literature has identified the sources of ‘government failures’ in discretionary procedures in problems related to asymmetric information and the operation of interest groups. This paper explores the causes and effects of persistence in the discretionary allocation of public subsidies to R&D activities performed by private firms and elaborates a crucial distinction between vicious Matthew-effects and virtuous Matthew-effects. The latter identifies the role of dynamics increasing returns based upon accumulation of competence stemming from learning, learning to learn and knowledge cumulability. On the contrary vicious Matthew-effects lead to substitution of private funds with public ones and represent an additional source of ‘government failure’ which has not been specifically addressed by previous literature. The empirical analysis based upon Transition Probability Matrices, Probit regression and Propensity Score Matching tested the relevance of these arguments on a sample of about 750 Italian firms in the years 1998-2003. Our results show that the persistence in the discretionary allocation of public subsidies is relevant and that virtuous Matthew-effects prevail when a ‘picking the winner strategy’ is adopted by granting authorities. We conclude that while the decision to rely on discretionary incentives based on beauty context selection procedures may imply relevant costs, their benefits can be increased by pursuing a ‘picking the winner strategy |
| Date: | 2011–03 |
| URL: | http://d.repec.org/n?u=RePEc:uto:labeco:201103&r=cta |
| By: | Philippe Bacchetta; Eric van Wincoop |
| Abstract: | Recent research has shown that relaxing the assumptions of complete information and common knowledge in exchange rate models can shed light on a wide range of important exchange rate puzzles. In this chapter, we review a number of models we have developed in previous work that relax the strong assumptions on information. We also review some related literature. |
| Keywords: | information heterogeneity; learning; infrequent decisions |
| JEL: | F31 F37 F47 |
| Date: | 2011–05 |
| URL: | http://d.repec.org/n?u=RePEc:lau:crdeep:11.03&r=cta |
| By: | Shira Fano (Department of Economics, University Of Venice Cà Foscari); Paolo Pellizzari (Department of Economics, University Of Venice Cà Foscari) |
| Abstract: | We model a continuous double auction with heterogenous agents and compute approximate optimal trading strategies using evolution strategies. Agents privately know their values and costs and have a limited time to transact. We focus on equilibrium strategies that are developed taking into account the number of traders that submitted orders previously, as well as the number of who will submit subsequently. We find that it is optimal to place increasingly aggressive orders, according to a roughly linear schedule, and test the resulting equilibrium for robustness and accuracy. |
| Keywords: | Continuous double auction, equilibrium trading strategies, evolution strategies. |
| JEL: | D53 D44 C61 C63 |
| Date: | 2011 |
| URL: | http://d.repec.org/n?u=RePEc:ven:wpaper:2011_03&r=cta |
| By: | Alonso, Ricardo; Brocas, Isabelle; Carrillo, Juan D |
| Abstract: | When an individual performs several tasks simultaneously, resources must be allocated to different brain systems to produce energy for neurons to fire. Following the evidence from neuroscience, we model the brain as an organization in which a coordinator allocates limited resources to the brain systems responsible for the different tasks. Systems are privately informed about the amount of resources necessary to perform their task and compete to obtain the resources. The coordinator arbitrates the demands while satisfying the resource constraint. We show that the optimal mechanism is to impose to each system with privately known needs a cap in resources that depends negatively on the amount of resources requested by the other system. This allocation can be implemented using a physiologically plausible mechanism. Finally, we provide some implications of our theory: (i) performance is inversely related to the difficulty of the task and can be flawless for sufficiently simple tasks, (ii) the dynamic allocation rule exhibits inertia (current allocations are increasing in past needs), and (iii) different cognitive tasks are performed by different systems only if the tasks are sufficiently important. |
| Keywords: | mechanism design; multiple brain systems; neural darwinism; neuroeconomic theory |
| JEL: | D71 D82 D87 |
| Date: | 2011–06 |
| URL: | http://d.repec.org/n?u=RePEc:cpr:ceprdp:8408&r=cta |
| By: | Katarzyna Bien (National Bank of Poland and Warsaw School of Economics) |
| Abstract: | This paper examines an intraday activity of bank trading of the EUR/PLN currency pair via the Reuters Dealing 3000 Spot Matching System in 2007. On the grounds of the sequential trade model of Easley, Engle, O’Hara & Wu (2008), we can differentiate between the time-varying patterns for the strategic behavior of informed and uninformed (liquidity) traders. We present evidence for the particular hour-of-day seasonality pattern that characterizes the arrival of uninformed and informed trades. The conditional arrival rates for both trader categories enable the assessment of their interactions and are used to forecast a time-varying probability of informed trading (PIN). The predictions of PIN are used to test the impact of information heterogeneity on the instantaneous liquidity of the market, which is proxied by the bid-ask spread and the market depth. |
| Keywords: | probability of informed trading, dynamic EKOP model, intraday liquidity modeling |
| JEL: | F31 G15 |
| Date: | 2011–05–30 |
| URL: | http://d.repec.org/n?u=RePEc:wse:wpaper:53&r=cta |