New Economics Papers
on Financial Markets
Issue of 2006‒03‒11
48 papers chosen by
Carolina Valiente

  1. Financial Liberalization, Bank Crises and Growth: Assessing the Links By Alessandra Bonfiglioli; Caterina Mendicino
  2. Stock Market Integration in the MENA Region: An Application of the ARDL Bounds Testing Approach By Marashdeh, Hazem
  3. Are Prudential Supervision and Regulation Pillars of Financial Stability? Evidence from the Great Depression By Kris James Mitchener
  4. Towards a Measure of Financial Fragility By Lea Zicchino; Dimitrios Tsomocos; Charles Goodhart; Oriol Aspachs
  5. Is There Hedge Fund Contagion? By Nicole M. Boyson; Christof W. Stahel; Rene M. Stulz
  7. Prediction Markets in Theory and Practice By Justin Wolfers; Eric Zitzewitz
  8. The long-run relationship between market risk and return By John M Maheu; Thomas H McCurdy
  9. "Micro-aspects of Monetary Policy in Pre-war Japan: Lender of Last Resort and Selection of Banks" By Tetsuji Okazaki
  10. Social and alternative banking: project selection and monitoring after the New Basel Capital Accord By A. Lanzavecchia; L. Poletti
  11. Monetary Policy Transparency and Uncertainty: A Comparison between the Bank of England and the Bundesbank/ECB By Iris Biefang-Frisancho Mariscal; Peter Howells
  12. Equities and Inequality By Alessandra Bonfiglioli
  13. The Determinants of Multinational Banking during the First Globalization, 1870-1914 By Stefano Battilossi
  14. Hot money inflows in China : How the people's bank of China took up the challenge. By Vincent Bouvatier
  15. Relationship banking and the credit market in India: An empirical analysis By Dilip M. Nachane; Prasad P. Ranade
  16. Les modèles HJM et LMM revisités By Francois-Éric Racicot; Raymond Théoret
  18. "Credit Derivatives and Financial Fragility" By Edward Chilcote
  19. Financial Constraints, Asset Tangibility, and Corporate Investment By Heitor Almeida; Murillo Campello
  20. Using Financial Market Information to Enhance Canadian Fiscal Policy By Huw Lloyd-Ellis; Xiaodong Zhu
  21. Investigating Nonlinear Speculation in Cattle, Corn and Hog Futures Markets Using Logistic Smooth Transition Regression Models By Andreas Röthig; Carl Chiarella
  22. The Future of Stock Exchanges in Europe By Jochen Moebert; Harald Deubener
  23. Monetary Policy Transparency:Lessons from Germany and the Eurozone By Iris Biefang-Frisancho Mariscal; Peter Howells
  24. "Effects of a bank consolidation promotion policy: Evaluating Bank Law in 1927 Japan" By Tetsuji Okazaki; Michiru Sawada
  25. Les modèles Q-investement et les modèles d'Euler : relations de banque principale, asymétries informationnelles et modifications des structures financières des firmes de keiretsu financier. By Laurent Soulat
  26. Partisan Impacts on the Economy: Evidence from Prediction Markets and Close Elections By Erik Snowberg; Justin Wolfers; Eric Zitzewitz
  27. Credit Union to Mutual Conversion : Do Rates Diverge? By Jeff Heinrich; Russ Kashian
  28. The residential housing market in Iceland: Analysing the effects of the recent mortgage market restructuring By Lúðvík Elíasson; Þórarinn Gunnar Pétursson
  29. How tight should one's hands be tied? Fear of floating and credibility of exchange regimes. By Jesús Rodríguez López; Hugo Rodríguez Mendizábal
  30. Follow-on financing of venture capital backed companies: The choice between debt, equity, existing and new investors By K. BAEYENS; S. MANIGART
  31. Monetary Policy Regimes: a fragile consensus By Peter Howells; Iris Biefang-Frisancho Mariscal
  32. Agency-Based Asset Pricing By Gary Gorton; Ping He
  33. "Reforming Deposit Insurance: The Case to Replace FDIC Protection with Self-Insurance" By Panos Konstas
  34. Catastrophic Shocks and Capital markets: A Comparative Analysis by Disaster and Sector By Worthington, Andrew; Valadkhani, Abbas
  35. Equity Return and Short-Term Interest Rate Volatility: Level Effects and Asymmetric Dynamics By Sandy Suardi; O.T.Henry; N. Olekalns
  36. Structural Changes in the Middle East Stock Markets: The case of Israel and Arab Countries By Marashdeh, Hazem; Wilson, E.J.
  37. Forecasting interest rates: A Comparative assessment of some second generation non-linear model By Dilip M. Nachane; Jose G. Clavel
  38. Cointegration and the stabilizing role of exchange rates By Alexius, Annika; Post, Erik
  39. "Is the Dollar at Risk?" By Korkut A. Erturk
  40. The London Stock Exchange in the 19th Century: Ownership Structures, Growth and Performance By Larry Neal
  41. Penalties and Optimality in Financial Contracts: Taking Stock By Michel A. Robe; Eva-Maria Steiger; Pierre-Armand Michel
  42. Productivity, Profitability and Financial Fragility: Evidence from Italian Business Firms By Giulio Bottazzi; Angelo Secchi; Federico Tamagni
  43. "Speculation, Liquidity Preference, and Monetary Circulation" By Korkut A. Erturk
  44. Financial Fragility and Growth Dynamics of Italian Business Firms By Giulio Bottazzi; Angelo Secchi; Federico Tamagni
  45. Common Functional Implied Volatility Analysis By Michal Benko; Wolfgang Härdle
  46. Welfare Improvement from Restricting the Liquidity of Nominal Bonds By Shouyong Shi
  48. Venture Capital Industries and Policies: Some Cross-Country Comparisons By Morris Teubal; Terttu Luukkonen

  1. By: Alessandra Bonfiglioli; Caterina Mendicino
    Abstract: This paper studies the e?ects of financial liberalization and banking crises on growth. It shows that financial liberalization spurs on average economic growth. Banking crises are harmful for growth, but to a lesser extent in countries with open financial systems and good institutions. The positive effect of financial liberalization is robust to different definitions. While the removal of capital account restrictions is effective by increasing financial depth, equity market liberalization affects growth directly. The empirical analysis is performed through GMM dynamic panel data estimations on a panel of 90 countries observed in the period 1975-1999.
    Keywords: Capital account liberalization, equity market liberalization, financial development, institutions, dynamic panel data.
    JEL: C23 F02 G15 O11
    Date: 2004–10
  2. By: Marashdeh, Hazem (University of Wollongong)
    Abstract: This study examines financial integration among four emerging stock markets in the Middle East and North African (MENA) region. The study also examines the integration between these markets and developed markets represented by the US, UK and Germany. The study utilizes the newly proposed autoregressive distributed lag (ARDL) approach to cointegration. The results show evidence of the existence of integration among stock markets in the MENA region, but not between the MENA markets and developed markets. This provides opportunities for international investors to obtain long-run gains through portfolio diversification in the MENA region, while for regional investors, these opportunities are limited in the long run.
    Keywords: stock market integration; MENA region; ARDL bounds testing approach
    Date: 2005
  3. By: Kris James Mitchener
    Abstract: Drawing on the variation in financial distress across U.S. states during the Great Depression, this article suggests how bank supervision and regulation affected banking stability during the Great Depression. In response to well-organized interest groups and public concern over the bank failures of the 1920s, many U.S. states adopted supervisory and regulatory standards that undermined the stability of state banking systems in the 1930s. Those states that prohibited branch banking, had higher reserve requirements, granted their supervisors longer term lengths, or restricted the ability of supervisors to liquidate banks quickly experienced higher state bank suspension rates from 1929 to 1933.
    JEL: N2 E44 G21
    Date: 2006–03
  4. By: Lea Zicchino; Dimitrios Tsomocos; Charles Goodhart; Oriol Aspachs
    Abstract: This paper proposes a measure of financial fragility that is based on economic welfare in a general model calibrated against UK data. The model comprises a household sector, three active hetrogeneous banks, a central bank/regulator, incomplete markets and endogenous default. We address the impact of monetary and regulatory policy, credit and capital shocks in the real and financial sectors and how the response of the economy to shocks relates to our measure of financial fragility. Finally we use panel VAR techniques to investigate the relationships between the factors that characterise financial fragility in our model i.e. banks' probabilities of default and banks' profits - to a proxy of welfare
    Date: 2006–03
  5. By: Nicole M. Boyson; Christof W. Stahel; Rene M. Stulz
    Abstract: We examine whether hedge funds experience contagion. First, we consider whether extreme movements in equity, fixed income, and currency markets are contagious to hedge funds. Second, we investigate whether extreme adverse returns in one hedge fund style are contagious to other hedge fund styles. To conduct this examination, we estimate binomial and multinomial logit models of contagion using daily returns on hedge fund style indices as well as monthly returns on indices with a longer history. Our main finding is that there is no evidence of contagion from equity, fixed income, and foreign exchange markets to hedge funds, except for weak evidence of contagion for one single daily hedge fund style index. By contrast, we find strong evidence of contagion across hedge fund styles, so that hedge fund styles tend to have poor coincident returns.
    JEL: G11 G12 G18
    Date: 2006–03
  6. By: Juan A. Lafuente (Universitat Jaume I); Manuel Illueca Muñoz (Universitat Jaume I)
    Abstract: In this paper we provide additional evidence on expiration effects in the Ibex 35 stock index futures market using realized volatility as proposed in Andersen et al. (2003, Econometrica 71, 529-626). Our findings reveal not only a significant increase in spot trading activity, but also the existence of a significant jump in spot volatility at index futures expiration. Moreover, we analyze the importance of the data frequency considered, revealing that the use of GARCH methodology from daily data does not have the ability to statistically assess such expiration-day effect. Additional empirical evidence is provided for the S&P 500 stock index futures market. Neither unconditional nor conditional realized volatility has a significant increase at expiration for the US market, suggesting that this effect is specific for the Spanish market, at least for the period analyzed. Este artículo proporciona nueva evidencia empírica sobre el efecto del vencimiento de los contratos de futuros sobre el índice IBEX 35, utilizando la medida de volatilidad realizada propuesta en Andersen et al. (2003, Econometrica 71, 529-626). Nuestros resultados ponen de manifiesto que al vencimiento de los contratos de futuros se produce no sólo un incremento en el volumen negociado en el mercado de contado, sino también un incremento significativo de la volatilidad del activo subyacente. Además, el trabajo pone de manifiesto la importancia de contar con información intradía para llevar a cabo el análisis empírico. De hecho, el uso de la metodología GARCH a partir de datos diarios no permite apreciar las anomalías que se producen en el mercado de contado cuando vencen los contratos de futuros. También se proporciona evidencia empírica relativa al mercado de futuros sobre el índice S&P 500. En este caso, ni la volatilidad condicionada ni la volatilidad no condicionada aumentan significativamente en los días de vencimiento de los contratos de futuros, sugiriendo que la evidencia reportada en este trabajo constituye una característica específica del mercado español, al menos durante el periodo analizado.
    Keywords: Mercados de futuros, Volatilidad realizada, Desestabilización del mercado de contado Futures Markets, Realized volatility, spot market destabilization
    JEL: G14 G19 G12
    Date: 2006–02
  7. By: Justin Wolfers (Wharton, University of Pennsylvania, CEPR, NBER and IZA Bonn); Eric Zitzewitz (Stanford GSB)
    Abstract: Prediction Markets, sometimes referred to as "information markets", "idea futures" or "event futures", are markets where participants trade contracts whose payoffs are tied to a future event, thereby yielding prices that can be interpreted as market-aggregated forecasts. This article summarizes the recent literature on prediction markets, highlighting both theoretical contributions that emphasize the possibility that these markets efficiently aggregate disperse information, and the lessons from empirical applications which show that market-generated forecasts typically outperform most moderately sophisticated benchmarks. Along the way, we highlight areas ripe for future research.
    Keywords: prediction markets, information markets, information aggregation
    JEL: C53 D8 G14
    Date: 2006–03
  8. By: John M Maheu; Thomas H McCurdy
    Abstract: Many finance applications require an annual measure of the market premium for equity. Using a long sample combined with a very parsimonious conditional variance function, we find a positive relationship between market risk and expected excess returns. Unlike traditional exponential-smoothing filters, our specification has a well-defined unconditional variance and allows for mean reverting volatility forecasts. Although total volatility is significantly priced, the smooth long-run component in volatility is more important for capturing the dynamics of the premium. This parameterization produces realistic time-varying market equity premium estimates over the entire 1840-2003 period. For example, our results show that the premium was relatively low in the mid-1990s but has recently increased. Results are robust to univariate specifications that condition on either levels or logs of past realized volatility (RV), as well as to a new bivariate risk-return model of returns and RV for which the conditional variance of excess returns is the conditional expectation of the realized volatility process.
    JEL: G12 C50
  9. By: Tetsuji Okazaki (Faculty of Economics, University of Tokyo)
    Abstract: The central bank as the Lender of Last Resort (LLR) is faced with a trade off between the stability of the financial system and the "moral hazard" of banks. In this paper we explore how this trade off was dealt with by the Bank of Japan (BOJ) in the pre-war period, and how LLR lending by the BOJ affected the financial system. In particular, this paper focuses on the following two stylized facts of Japanese financial history. First, the BOJ actively intervened in the market as the LLR under the unstable financial system in the 1920s. Second, in this period, the financial market worked well to sort out inefficient banks through failures. In providing an LLR loan, the BOJ adopted the policy of favoring those banks that had an already established transaction relationship with the BOJ. At the same time, the BOJ was selective about which banks it would enter into a transaction relationship with. That is, the BOJ chose the banks it would conduct transactions with based on criteria that included profitability, liquidity, quality of assets, and the personal assets of directors. Furthermore, the BOJ did not hesitate to suspend transaction relationships with those banks whose performance declined. This policy enabled the BOJ to act as the LLR without impairing the function of the market to sort out inefficient banks. Whereas the transaction relationship with the BOJ affected a bank's survivability, the effect was not across the board. That is, the transaction relationship did not increase the survivability of a bank directly, but it increased the influence of profitability and liquidity on survivability, especially in a period of financial crisis. This implies that the BOJ bailed out only those transaction counterparts that were profitable and prudent when the financial system was especially unstable. It is suggested that through concentrating LLR lending on its transaction counterparts, the BOJ could successfully bail out only those banks which were illiquid but solvent, and thereby avoided the moral hazard that the LLR policy might otherwise have incurred.
    Date: 2006–01
  10. By: A. Lanzavecchia; L. Poletti
    Abstract: Any economic activity calls for the exercise of moral judgement. There are some economic activities that actively promote collective benefit as a primary or secondary aim, and there are others that aim to increase the value of a firm. Investment decisions always have collective impact, but collective returns may be ignored or considered less important in company management if the objective is the maximisation of shareholder wealth. The allocative function exercised by banks in their credit activity may take this into account. Some banks nowadays focus on social profile, while others integrate the traditional approach with this new sensibility. But unfortunately banking regulations governing stability and soundness of the financial system make no mention of the social profile. The New Basel Capital Accord was an opportunity to recognise that bank's objectives may not consist only of the maximisation of shareholder wealth. But it was a missed opportunity, in that it gave advantages to traditional commercial banks and not to banks focussing on collective goals. This paper puts forward proposals for integrating the Basel II framework with profiles of collective bank credit policy. Social credit evaluation methods could help to identify those ethical banks which are more successful in meeting collective objectives. A sustainable credit appraisal methodology could have been examined by the Basel Committee and could have incentivated sustainable banking by giving it specific advantages.
    Keywords: social banking, alternative banking, socially responsible investing, investments appraisal, Basel II, new capital accord
    Date: 2005
  11. By: Iris Biefang-Frisancho Mariscal (School of Economics, University of the West of England); Peter Howells (School of Economics, University of the West of England)
    Abstract: It is widely believed that institutional arrangements influence the quality of monetary policy outcomes. Judged on its ‘transparency’ characteristics, therefore the Bank of England should do better than the Bundesbank/ECB. We show that this is not confirmed by agents’ ability to anticipate central bank decisions. Furthermore, benefits from transparency should also show in a narrowing of the diversity in cross sectional forecasts. We show that the diversity in interest rate forecasts is no greater under the Bundesbank/ECB than the Bank of England. This suggests that other factors than ‘transparency’ may affect interest rate uncertainty. Increasing difficulty in forecasting inflation appears to play a part in the UK while being less of a problem in Germany.
    Keywords: transparency, yield curve, forecasting uncertainty, Bank of England, Bundesbank/ ECB
    JEL: E58
    Date: 2005–10
  12. By: Alessandra Bonfiglioli
    Abstract: Most US credit card holders revolve high-interest debt, often combined with substantial (i) asset accumulation by retirement, and (ii) low-rate liquid assets. Hyperbolic discounting can resolve only the former puzzle (Laibson et al., 2003). Bertaut and Haliassos (2002) proposed an 'accountant-shopper'framework for the latter. The current paper builds, solves, and simulates a fully-specified accountant-shopper model, to show that this framework can actually generate both types of co-existence, as well as target credit card utilization rates consistent with Gross and Souleles (2002). The benchmark model is compared to setups without self-control problems, with alternative mechanisms, and with impatient but fully rational shoppers.
    Keywords: Income inequality, financial development, capital market frictions, investor protection, instrumental variables, dynamic panel data
    JEL: D31 E44 G30 O15 O16
    Date: 2005–09
  13. By: Stefano Battilossi (Department of Economic History and Institutions, Universidad Carlos III Madrid)
    Abstract: What determined the multinational expansion of European banks in the pre-1914 era of globalization? And how were banks’ foreign investments related to other facets of the globalizing world economy such as trade and capital flows? The paper reviews both the contemporary and historical literature, and empirically investigates these issues by using an original panel data based on a sample of more than 50 countries. The dependent variable, aiming at measuring the intensity of cross-border activities operated by banks from foreign locations, is the number of foreign branches and subsidiaries of British, French and German banks. Explanatory variables are mainly selected on the base of the eclectic theory of multinational banking, but also include geographical factors (as suggested by gravity models) and institutional indicators advanced by recent studies inspired by new institutional economics, such as legal families and adherence to the Gold Standard. These regressors captures the impact of economic integration (trade and capital flows), informational development, institutional and economic characteristics of the host-market, as well as exchange rate and country risk factors, on banks’ foreign investment decisions. The results suggest that, due to its prevailing ‘colonial’ features, pre-1914 multinational banking does not fit easily into augmented gravity models. The role of trade as a key determinant of banks expansion overseas is qualified, and both institutional factors as well as competitive interaction emerge as critical determinants of banks’ decisions to invest in foreign countries. Moreover, the systematic comparison of determinants of foreign investiments of banks from major core countries reveals that multinational banking was not a homogenous phenomenon, as banks of different nationality responded differently to economic, geographical and institutional factors.
    Date: 2006–08–02
  14. By: Vincent Bouvatier (CES-TEAM)
    Abstract: This paper investigates hot money inflows in China. The financial liberalization comes into effect and the effectiveness of capital controls tends to diminish over time. As a result, China is fuelled by hot money inflows. The US interest rate cut since 2001 and expectations of exchange rate adjustments are the main factors explaining these capital inflows. This study use the Bernanke and Blinder (1988) model extended to an open economy to examine implications of hot money inflows for the Chinese economy. A Vector Error Correction Model (VECM) on monthly data from March 1995 to March 2005 is estimated to investigate the recent upsurge in foreign reserves and shows that the interaction between domestic credit and foreign reserves was stable and consistent with monetary stability. Granger causality tests are implemented to show how the People's Bank of China (PBC) achieved this result.
    Keywords: Hot money inflows, domestic credit, VECM, Granger causality.
    JEL: C32 E5 F32 F33
    Date: 2006–02
  15. By: Dilip M. Nachane (Indira Gandhi Institute of Development Research); Prasad P. Ranade (Narsee Monjee Institute of Management Research)
    Abstract: Relationship banking based on Okun's "customer credit markets" has important implications for monetary policy via the credit transmission channel. Studies of LDC credit markets from this point of view seem to be scanty and this paper attempts to address this lacuna. Relationship banking implies short-term disequilibrium in credit markets, suggesting the VECM (vector error-correction model) as an appropriate framework for analysis. We develop VECM models in the Indian context (for the period April 1991- December 2004 using monthly data) to analyse salient features of the credit market. An analysis of the ECMs (error-correction mechanisms) reveals that disequilibrium in the Indian credit market is adjusted via demand responses rather than supply responses, which is in accordance with the customer view of credit markets. Further light on the working of the model is obtained through the "generalized" impulse responses and "generalized" error decompositions (both of which are independent of the variable ordering). Our conclusions point towards firms using short-term credit as a liquidity buffer. This fact, together with the gradual adjustment exhibited by the "persistence profiles" provides substantive evidence in favour of "customer credit markets".
    Keywords: customer credit markets, monetary policy, co-integration, impulse response, persistence profiles
    JEL: C32 E51
    Date: 2005
  16. By: Francois-Éric Racicot (Département des sciences administratives, Université du Québec (Outaouais) et LRSP); Raymond Théoret (Département de stratégie des affaires, Université du Québec (Montréal))
    Abstract: In this paper, we study the following models : Heath-Jarrow-Morton (1992) and Libor-Market- Model, also known as Brace-Gatarek-Musiela model (1997). We survey the extensions of these models and their representation in the Black and Scholes world. Our approach is pedagogical and is based on an exhaustive elaboration of the developments of these models. Finally, we discuss the evolution of these models towards the pricing of more complex structured derivatives, like TARN and we also briefly analyse more advanced versions like the SV Cheyette model.
    Keywords: derivatives; financial engineering; asset valuation; computational finance.
    JEL: G12 G13 G33
    Date: 2006–01–03
  17. By: Dirk Baur; Renee Fry
    Abstract: This paper poses a multivariate test for contagion that distinguishes between vulnerability, positive and negative contagion. The model proides a time series of contagion with which the existence, severity and significance of crisis periods can be endogenously determined. Eleven stock markets from the Asian regions are analyzed during the Asian crisis, and contagion is significant in four periods. These episodes are split equally between positive and negative movements. Anecdotal evidence is matched to significant contagion, with events surrounding Hong Kong and the key drivers.
    JEL: C10 C51 F36 G14
    Date: 2006–01
  18. By: Edward Chilcote
    Abstract: On September 15, the Federal Reserve convened 14 large credit derivatives-dealer banks to an unusual meeting (Beales 2005b). The last such meeting occurred on September 16, 1998, in secret. At that time, a major financial institution was melting down and threatening to take some large banks with it. This time they met to discuss the same topic: the clearing of transactions in the credit derivatives market.
    Date: 2006–01
  19. By: Heitor Almeida; Murillo Campello
    Abstract: When firms are able to pledge their assets as collateral, investment and borrowing become endogenous: pledgeable assets support more borrowings that in turn allow for further investment in pledgeable assets. We show that this credit multiplier has an important impact on investment when firms face credit constraints: investment-cash flow sensitivities are increasing in the degree of tangibility of constrained firms' assets. If firms are unconstrained, however, investment-cash flow sensitivities are unaffected by asset tangibility. Crucially, asset tangibility itself may determine whether a firm faces credit constraints - firms with more tangible assets may have greater access to external funds. This implies that the relationship between capital spending and cash flows is non-monotonic in the firm's asset tangibility. Our theory allows us to use a differences-in-differences approach to identify the effect of financing frictions on corporate investment: we compare the differential effect of asset tangibility on the sensitivity of investment to cash flow across different regimes of financial constraints. We implement this testing strategy on a large sample of manufacturing firms drawn from COMPUSTAT between 1985 and 2000. Our tests allow for the endogeneity of the firm's credit status, with asset tangibility influencing whether a firm is classified as credit constrained or unconstrained in a switching regression framework. The data strongly support our hypothesis about the role of asset tangibility on corporate investment under financial constraints.
    JEL: G31
    Date: 2006–03
  20. By: Huw Lloyd-Ellis (Queen's University); Xiaodong Zhu (University of Toronto)
    Abstract: In this article we argue that the evaluation and implementation of Canadian fiscal policy could be significantly improved through the systematic use of information provided by global financial markets. In particular, we show how the information contained in internationally traded asset returns can be used to (1) provide a more meaningful cyclical-adjustment of the budget deficit, (2) assess the sustainability of the public debt, and (3) reduce the risk of the debt becoming unsustainable without having to run excessively large surpluses.
    Keywords: Public debt, cyclically-adjusted deficit, sustainability, hedging
    JEL: G1 H6
    Date: 2004–08
  21. By: Andreas Röthig (Institute of Economics, Darmstadt University of Technology and Center for Empirical Marcroeconomics, University of Bielefeld); Carl Chiarella (School of Finance and Economics, University of Technology, Sydney)
    Abstract: This article explores nonlinearities in the response of speculators? trading activity to price changes in live cattle, corn, and lean hog futures markets. Analyzing weekly data from March 4, 1997 to December 27, 2005, we reject linearity in all of these markets. Using smooth transition regression models, we find a similar structure of nonlinearities with regard to the number of different regimes, the choice of the transition variable, and the value at which the transition occurs.
    Keywords: futures marktes; speculation; nonlinear dynamics; smooth transition regression model
    JEL: G10 G11 C22 C53
    Date: 2006–02–01
  22. By: Jochen Moebert (Darmstadt University of Technology, Department of Economics); Harald Deubener
    Abstract: We survey the future development of stock exchanges in Europe. Experts and non-experts evaluated several scenarios regarding who would survives as an independent as well as alliances, mergers and acquisitions. Nearly all respondents agreed that the landscape will undergo change. However, on average the respondents did not assign high probabilities to one particular future scenario. We also asked for important microeconomic and macroeconomic variables which might have an impact on the success of a stock exchange. The results indicate that while both types of variables have a relatively small influence on the different scenarios, the respondents think macroeconomic variables are less important than microeconomic variables. The uncertainty of a specific future scenario is also expressed in the economical and statistical significance of characteristics exhibited by the interviewees.
    Keywords: stock exchanges, financial integration, alliances, acquisitions
    JEL: F36 G29
    Date: 2006–03
  23. By: Iris Biefang-Frisancho Mariscal (School of Economics, University of the West of England); Peter Howells (School of Economics, University of the West of England)
    Abstract: The conduct of monetary policy emphasises institutional arrangements which make monetary policy decision-making more ‘transparent’. Judged by these institutional features neither the Bundesbank, nor the ECB, score very highly. We test for (i) agents’ average ability to anticipate policy rate changes under the Bundesbank and the ECB and (ii) and agents’ forecasting unanimity of money market rates. Rising forecasting uncertainty may either be due to a lack of ECB transparency or to larger inflation and growth forecasting errors. Our results indicate that inflation forecast spreads widened amongst private agents and that inflation forecasting uncertainty increased the forecasting spread of money market rates
    Keywords: transparency, yield curve, forecasting uncertainty, Bundesbank, ECB
    JEL: E58
    Date: 2004–12
  24. By: Tetsuji Okazaki (Faculty of Economics, University of Tokyo); Michiru Sawada (Faculty of Economics, Nagoyagakuin University)
    Abstract: This paper investigates the impact of bank consolidations promoted by government policy, using data from pre-war Japan when the Ministry of Finance promoted bank consolidations by dint of the Bank Law of 1927. It is found that policy-promoted consolidation had a positive effect on deposit growth, especially in the period when the financial system was unstable. On the other hand, it had a negative effect on profitability, particularly when there was no dominant bank among the participants or when more than two banks participated in the consolidation. Policy-promoted consolidation in such cases was likely to be accompanied by large organizational cost.
    Date: 2006–02
  25. By: Laurent Soulat (CES-TEAM et ESCEM)
    Abstract: This article focuses on the evolution of the financial structures of the industrial Japanese firms listed between 1990 and 1999. It belongs to the category of Q-investment models, by studying the impact of the affiliation to a financial keiretsu on investment relative sensitivity to cash-flows. The main bank relationships with the affilated firms are traditionally assumed to the closer, mitigating therefore the liquidity constraint of these firms compared to the independent firms. The outcomes coming from the Q-investment models are compared with those coming from the Euler-investment models. In contrast with the conventional results commonly found by the literature with former periods, affiliated firms (whatever the regrouping method used) display an investment sensitivity to the cash-flows higher than the independent firms. These results are not due to contradictory evolutions between the keiretsu. Nevertheless, the proximity degree of the firm with the group core (measured by the involvement with a president council) affects its liquidity constraint. These results can imply either that the banking dependence of the large affiliated firms decreased, or that the firms closely linked to the core of group have offset a greater share of their main bank losses.
    Keywords: Corporate finance, financial structure.
    JEL: G30 G32
    Date: 2006–01
  26. By: Erik Snowberg (Stanford GSB); Justin Wolfers (Wharton, University of Pennsylvania, CEPR, NBER and IZA Bonn); Eric Zitzewitz (Stanford GSB)
    Abstract: Political economists interested in discerning the effects of election outcomes on the economy have been hampered by the problem that economic outcomes also influence elections. We sidestep these problems by analyzing movements in economic indicators caused by clearly exogenous changes in expectations about the likely winner during election day. Analyzing high frequency financial fluctuations on November 2 and 3 in 2004, we find that markets anticipated higher equity prices, interest rates and oil prices and a stronger dollar under a Bush presidency than under Kerry. A similar Republican-Democrat differential was also observed for the 2000 Bush-Gore contest. Prediction market based analyses of all Presidential elections since 1880 also reveal a similar pattern of partisan impacts, suggesting that electing a Republican President raises equity valuations by 2-3 percent, and that since Reagan, Republican Presidents have tended to raise bond yields.
    Keywords: elections, prediction markets, political economy, event study, partisan effects
    JEL: D72 E3 E6 G13 G14 H6
    Date: 2006–03
  27. By: Jeff Heinrich (Department of Economics, University of Wisconsin - Whitewater); Russ Kashian (Department of Economics, University of Wisconsin - Whitewater)
    Abstract: This study conducts a cross-sectional analysis of 175 depository institutions, assessing the impact on the interest rates charged on loan products and offered on savings products by the size of the institution, its liquidity, its net worth, its tax and salary payments, and its status as a for-profit institution, a credit union, or a converted credit union. We find that banks and converted credit unions have interest rates significantly less favorable for consumers than credit unions, suggesting that a credit union converting will result in adverse interest rate movements for its customers.
    JEL: G2
    Date: 2006–02
  28. By: Lúðvík Elíasson; Þórarinn Gunnar Pétursson
    Abstract: In June 2004 the government-backed Housing Financing Fund eased its loan regulations in an attempt to consolidate its position in the domestic credit market. This led to a strong response from the domestic commercial banks which actively entered the mortgage market for the ?rst time. These changes led to a substantial decline in long-term real mortgage rates, increased the access to credit, and allowed homeowners to withdraw equity from their homes without actual transactions. This paper sets up a simple model of housing demand and supply to analyse these e¤ects. The results suggest that the structural change has led to a substantial rise in housing demand, with house prices rising by just under 20% one year after the change. This triggered a similar rise in housing investment roughly two years after the reform. The model predicts that the e¤ects on house prices gradually die out as house prices return to the level that is consistent with normal pro?t margins in the construction sector. The housing stock, however, remains about 5% larger than in the baseline scenario. The e¤ects are even larger when taking account of the second-round e¤ects on the housing market through the e¤ects of increased wealth and easier access to credit on general consumption and overall demand in the economy.
    Date: 2006–02
  29. By: Jesús Rodríguez López (Department of Economics, Universidad Pablo de Olavide); Hugo Rodríguez Mendizábal (Department of Economics, Universidad Autónoma de Barcelona)
    Abstract: The literature on exchange regimes has recently observed that officially self-declared free floaters strongly intervene their nominal exchange rates to maintain them within some unannounced bands. In this paper, we provide an explanation for this behavior, labeled by Calvo and Reinhart (2002) as fear of floating. First, we analyze the linkages between the credibility of the exchange regime, the volatility of the exchange rate and the band width of fluctuation. Second, the model is used to understand the reduction in volatility experienced by most ERM countries after their target zones were widened on August 1993. Finally, solving the model for a subgame perfect equilibrium, fear of floating can be viewed as the credible choice of a finite non-zero band
    Keywords: Fear of floating, target zones, exchange rate arrangements, credibility
    JEL: E52 E58 F31 F33
    Date: 2006–03
    Abstract: We study the financing strategies of 191 start-ups after they have received venture capital (VC) and thereby contribute to the staging literature. The VC backed start-ups have raised financing on 345 occasions over a five-year period after the initial VC investment. Surprisingly, bank debt is the most important source of funding for these young and growthoriented companies, supporting the view that VC investors have a certifying role in their portfolio companies. Bank debt is available to firms with a lower demand for money, lower levels of risk and of information asymmetries, implying that staging of equity funding is less important for these firms. A firm only raises equity when it’s debt capacity is exhausted, hinting that equity investors are investors of last resort. New equity is provided by the existing shareholders in 70% of the equity issues, supporting earlier findings that staged financing is important in venture capital financing. New shareholders invest when large amounts of funding are required and when risk and information asymmetries are high. We interpret these findings as support for the extended pecking order theory. In line with syndication arguments, new investors thus provide risk sharing opportunities and skills to screen and monitor and thereby reduce information asymmetries. New equity investors face adverse selection problems, however, in that only the most risky investments are syndicated.
    Keywords: financing strategy, venture capital, bank debt, external shareholders
    JEL: G32
    Date: 2006–01
  31. By: Peter Howells (School of Economics, University of the West of England); Iris Biefang-Frisancho Mariscal (School of Economics, University of the West of England)
    Abstract: The last fifteen years have seen the emergence of widespread consensus that optimum monetary policy is designed on the basis of three pillars: a short-term official rate of interest as the sole policy instrument and the placing of that instrument in the hands of a central bank which is (a) independent of government and (b) transparent in its decision-making. We take a critical look at each of these. In the first case, we focus attention on the failure of mainstream economics to recognise the choice of instrument and the implications of its adoption. In the case of independence we argue that he theoretical case for independence has been misunderstood and that it is not an essential requirement for successful policy. We also show that ‘independence’ is not best measured against a checklist of statutory characteristics. As regards ‘transparency’ our argument is slightly different, though we come to a similar conclusion. Unlike independence, ‘transparency’ does address a real problem for central banks. However, the evidence suggests that transparency is not the only, or even the best, solution. A variety of evidence tells us that agents can understand and anticipate the actions of the most secretive institutions.
    Keywords: Monetary policy; central banks; independence; transparency
    JEL: E31 E42
    Date: 2005–12
  32. By: Gary Gorton; Ping He
    Abstract: We analyze the interaction between managerial decisions and firm value/asset prices by embedding the standard agency model of the firm into an otherwise standard asset pricing model. When the manager-agent's compensation depends on the firm's stock price performance, stock prices are set to induce the creation of future cash flows, instead of representing the discounted value of exogenous cash flows, as in the standard model. In our case, stock prices are formed via trading in the market to induce the managers to hold the number of shares consistent with the optimal effort level desired by the outside investors. We compare two price formation mechanisms, corresponding to two firm ownership structures. In the first, stock prices are formed competitively among a continuum of dispersed investors. In the second, stock prices are set by a single block shareholder, as a bargaining solution. Under both mechanisms there are persistent, dynamic, patterns of asst prices, The level of the equity premium and the return volatility depend on the risk aversion of the agents in the economy and the ownership structure of firms.
    JEL: G1
    Date: 2006–03
  33. By: Panos Konstas
    Abstract: The Federal Deposit Insurance Corporation (FDIC) currently insures bank deposit balances up to $100,000. According to some observers, statutory protection creates moral hazard problems for insurers because it allows banks to engage in risky activities. As an example, moral hazard was a key contributor to huge losses suffered when thrift institutions failed during the 1980s. This brief by Konstas outlines a plan to reduce the risk of government losses by replacing insured deposits with uninsured deposits and eliminating some of the costs of deposit insurance. His plan proposes a self-insured (SI) depositor system that places an intermediary between the lender (saver) and borrower (bank) in the credit-flow chain. The FDIC would guarantee saver loans and allow the intermediary to borrow at the risk-free interest rate if the intermediaryÕs bank deposit is statutorily defined outside the realm of FDIC insurance. The risk is therefore transferred to depositors (intermediaries); thus creating incentives for depositors to earn a rate of return at least equal to the cost of borrowing plus a risk premium based on the risk profile of banks.
    Date: 2004–08
  34. By: Worthington, Andrew (University of Wollongong); Valadkhani, Abbas (University of Wollongong)
    Abstract: This paper provides an analysis of the impact of natural, industrial and terrorist disasters on the Australian capital market using the Box and Tiao intervention analysis and the data on daily returns in the following ten market sectors: consumer discretionary, consumer staples, energy, financial, health care, industrial, information technology, materials, telecommunication services and utilities. Inter alia, we have found that the shocks provided by natural disasters have an influence on market sector returns, depending upon the sector in question. The sectors most sensitive to disasters of any type are the consumer discretionary, financial services and materials sectors while the most significant single event during the past eight years would appear to be the September 11 terrorist attack, at least in terms of its impact upon the capital market.
    Keywords: Intervention Analysis, Capital Markets, Natural Disasters
    Date: 2005
  35. By: Sandy Suardi (MRG - School of Economics, The University of Queensland); O.T.Henry; N. Olekalns
    Abstract: Evidence suggests that short-term interest rate volatility peaks with the level of short rates, while equity volatility responds asymmetrically to positive and negative shocks. We present an LM based test that distinguishes between level effects and asymmetry in volatility which is robust to the presence of unidentified nuisance parameters under the null. There is strong evidence of a level effect and asymmetric response in the relationship between S&P 500 Index returns and 3-month US Treasury Bills. The conditional covariance depends on the level of the short rate which has implications for hedging equity returns against short term interest rate movements.
  36. By: Marashdeh, Hazem (University of Wollongong); Wilson, E.J. (University of Wollongong)
    Abstract: This paper tests for structural changes in the price indices of four stock markets in the Middle East region, namely, Egypt, Turkey Jordan, Morocco and Israel. The Innovational Outlier (IO) model and Additive Outlier (AO) model indicate that all variables show evidence of non-stationarity, I(1), even with structural change. Moreover, the coefficients for all dummy variables such as intercept, slope and time of the break are found to be significant and all have the right signs. The endogenously determined times of the breaks for all variables coincides with observed real events for each country, like Asian crises, fluctuation in oil prices and the political conflict in the Middle East.
    Keywords: Structural changes, Middle East stock markets, Israel, Arab countries
    Date: 2005
  37. By: Dilip M. Nachane (Indira Gandhi Institute of Development Research); Jose G. Clavel (Universidad de Murcia)
    Abstract: Modelling and forecasting of interest rates has traditionally proceeded in the framework of linear stationary models such as ARMA and VAR, but only with moderate success. We examine here four models which account for several specific features of real world asset prices such as non-stationarity and non-linearity. Our four candidate models are based respectively on wavelet analysis, mixed spectrum analysis, non-linear ARMA models with Fourier coefficients, and the Kalman filter. These models are applied to weekly data on interest rates in India, and their forecasting performance is evaluated vis-vis three GARCH models (GARCH (1,1), GARCH-M (1,1) and EGARCH (1,1)) as well as the random walk model. The Kalman filter model emerges at the top, with wavelet and mixed spectrum models also showing considerable promise.
    Keywords: Interest rates, wavelets, mixed spectra, non-linear ARMA, Kalman filter, GARCH, Forecast encompassing
    Date: 2005
  38. By: Alexius, Annika (Department of Economics); Post, Erik (Department of Economics)
    Abstract: We show that empirical results concerning the behavior of floating exchange rates differ between otherwise identical cointegrated and non-cointegrated VAR models. In particular, virtually all ten-year movements in nominal exchange rates are due to fundamental supply and demand shocks when long run equilibrium relationships between the levels of the variables are included in the empirical specification. Another major difference between the models with the opposite implication for the shock creation versus shock absorption debate is that non-fundamental exchange rate shocks have much larger effects on output and inflation in the cointegrated models. Finally, impulse response functions in the first difference specification die out within a year whereas adjustment to long run equilibrium continues for up to ten years in the cointegrated models. Hence a correct specification of the long-run equilibrium dynamics of exchange rates is essential for capturing also short-run behavior of exchange rates.
    Keywords: Exchange rates; asymmetric shocks; structural VAR; cointegration
    JEL: C32 F31
    Date: 2006–02
  39. By: Korkut A. Erturk
    Abstract: A massive fiscal stimulus and, until recently, aggressive monetary easing have been successful in raising bond and real estate prices to unprecedented levels, inducing a credit boom that has prevented private consumption from falling. While it might still be too early to say that it worked, the strategy has indeed, for the time being, prevented the U.S. economy from slipping into a severe depression after the collapse of the stock market at the turn of the millennium.
    Date: 2005–04
  40. By: Larry Neal (University of Illinois at Urbana-Champaign; Research Associate, NBER)
    Abstract: Over the course of the nineteenth century the London Stock Exchange evolved from a market dealing primarily in new issues of British government debt to become the preeminent exchange of the first global capital market. By 1914, one-third of the public capital available to investors anywhere in the world was listed and traded on the London Stock Exchange. In contrast to these examples of spectacular growth of the business conducted within the exchange, however, the microstructure of the London Stock Exchange remained remarkably constant over the entire century. The remarkable expansion in scale and diversification of activity in the London Stock Exchange was sustained over the century with such minimal organizational change due to three factors. First, the evolution of the London Stock Exchange's microstructure was path dependent – the initial conditions for membership set the incentives for the owners and operators of the exchange, and these determined how they responded to successive shocks over time. Second, the continued success of the exchange was due to the peculiar structure of property rights in the exchange. Ownership of the exchange by the Proprietors was separated from governance of the operation of the exchange by the Members. Innovations were spurred by the owners of the exchange, who sought constantly to expand the membership. Newer members were then induced to take risky searches for new sources of revenue. This is how foreign securities were added permanently to the listings of the exchange in the 1820s. The third factor, the exchange’s insistence on separating members in to two classes – brokers and jobbers (dealers) – with different incentives led to the increasing ineffectiveness of the exchange over time. By the turn of the 20th century, brokers increasingly outweighed jobbers within the membership and exercised their political power to restrict membership, enforce minimum commissions, and confine arbitrage to a limited class of members. In short, the adverse consequences of a self-regulating club of self-interested members began to appear, but only after a century of remarkable growth, innovation, and effectiveness in mobilizing the savings of the world to realize the material benefits of the first industrial revolution.
    Date: 2006–02–13
  41. By: Michel A. Robe; Eva-Maria Steiger; Pierre-Armand Michel
    Abstract: A popular view of limited liability in financial contracting is that it is the result of societal preferences against excessive penalties. The view of most financial economists is instead that limited liability emerged as an optimal institution when, in the absence of a clear limit on economic agents' liability, the development of some economic activities might have been thwarted. Viewing the institution from the perspective of optimal legal system design allows us to better understand the current debate on it. We present a broad history of penalties in financial contracts to highlight the interactions between technology, legal environments, purpose of the financial relationship, and contractual provisions. We show that harsh monetary and non-pecuniary penalties are not mere relics from a bygone era and, at the same time, that limited liability is far from a recent institution. We then discuss trade-offs associated with legal mandates of either unlimited or limited liability, both for the contracting parties and for the rest of Society. We identify two broad patterns. First, the toughness of liability rules and bankruptcy laws decreases as exogenous sources of uncertainty become relatively more important, and increases with the opportunity for moral hazard (related to diligence, risk taking, or deception). Second, bankruptcy laws become more lenient as the scope for labor specialization and the returns to human capital or entrepreneurship increase.
    Keywords: Limited Liability, Bankruptcy, Debt Bondage, Debtors' Prison, History
    JEL: G32 D82
    Date: 2006–02
  42. By: Giulio Bottazzi; Angelo Secchi; Federico Tamagni
    Abstract: Exploiting a rich panel reporting balance sheets data from a large sample of Italian firms for the period 1996-2002, we attempt to shed light on two crucial dimensions of firms' structure and dynamics: profitability and productivity performances. We start by exploring the statistical properties of a set of measures of profit margins and profitability, some standard as ROI and others that we built from the data, applying a set of parametric and non parametric techniques to the analysis of both their empirical distributions and their persistence over time. Then, looking for the possible linkages existing between the structural characteristics of the firms and their productivity performance, we study the empirical distributions and the dynamics of productive structures and productivity. We also exploit an additional information present in the data which allows to group firms according to an index of financial rating. Besides checking the robustness of results with respect to this level of disaggregation, we also provide an initial understanding about how the economic performances of a firm affect (or are affected by) its financial conditions and, relatedly, the availability of external credit.
    Keywords: Firm performance, Profitability, Productivity, Financial constraints
    Date: 2006–03–03
  43. By: Korkut A. Erturk
    Abstract: The sharp exchanges that Keynes had with some of his critics on the loanable funds theory made it harder to appreciate the degree to which his thought was continuous with the tradition of monetary analysis that emanates from Wicksell, of which KeynesÕs A Treatise on Money was a part. In the aftermath of the General Theory (GT), many of KeynesÕs insights in the Treatise were lost or abandoned because they no longer fit easily in the truncated theoretical structure he adopted in his latter work. A part of KeynesÕs analysis in the Treatise which emphasized the importance of financial conditions and asset prices in determining firmsÕ investment decisions was later revived by Minsky, but another part, about the way self-sustained biases in asset price expectations in financial markets exerted their influence over the business cycle, was mainly forgotten. This paper highlights KeynesÕs early insights on asset price speculation and its link to monetary circulation, at the risk perhaps, of downplaying the importance of the GT.
    Date: 2006–01
  44. By: Giulio Bottazzi; Angelo Secchi; Federico Tamagni
    Abstract: In this work we explore the relationship between the overall financial condition of a firm and the properties of its size and growth dynamics. We use the financial rating index provided by Centrale dei Bilanci, the Italian rating agency, as a general indicator of firms' financial health and access to external financing and, conditioning upon it, we analyse the statistical properties of three different measures of firm size, namely Total Sales, Value Added and Tangible Assets. We first focus on size, exploring the properties of the yearly distributions and the inter-temporal dynamics in terms of autoregressive structure. Then, we move to the study of size-growth dependences, trying to identify possible scaling relationships between average size and average growth, on the one hand, and average size and the variance of growth, on the other. Finally, we turn to firms' growth, characterizing the stochastic properties of growth rates distributions and discussing the autoregressive structure of the growth process. All the exercises are conducted at both aggregate and disaggregate level, distinguishing manufacturing from services firms.
    Keywords: Firm size, Firm growth, Financial constraints
    Date: 2006–03–02
  45. By: Michal Benko; Wolfgang Härdle
    Abstract: Trading, hedging and risk analysis of complex option portfolios depend on accurate pricing models. The modelling of implied volatilities (IV) plays an important role, since volatility is the crucial parameter in the Black-Scholes (BS) pricing formula. It is well known from empirical studies that the volatilities implied by observed market prices exhibit patterns known as volatility smiles or smirks that contradict the assumption of constant volatility in the BS pricing model. On the other hand, the IV is a function of two parameters: the strike price and the time to maturity and it is desirable in practice to reduce the dimension of this object and characterize the IV surface through a small number of factors. Clearly, a dimension reduced pricing-model that should reflect the dynamics of the IV surface needs to contain factors and factor loadings that characterize the IV surface itself and their movements across time.
    Keywords: implied volatility, Black-Scholes, option portfolio, pricing
    JEL: C13 G19
    Date: 2005–03
  46. By: Shouyong Shi
    Abstract: In this paper I examine whether a society can improve welfare by imposing a legal restriction to forbid the use of nominal bonds as a means of payments for goods. To do so, I integrate a microfounded model of money with the framework of limited participation. While the asset market is Walrasian, the goods market is decentralized and the legal restriction is imposed only in a fraction of the trades. I show that the legal restriction can improve the society's welfare. In contrast to the literature, this essential role of the legal restriction persists even in the steady state and it does not rely on households' ability to trade unmatured bonds for money after observing the taste (or endowment) shocks.
    JEL: E40
  47. By: Veronika Grimm (Universidad de Alicante); Gregor Zoettl (CORE, Université catholique de Louvain)
    Abstract: In this paper we analyze incentives to invest in capacity prior to asequence of Cournot spot markets with varying demand. We compareequilibrium investment in the absence and in presence of the possibility to tradeon forward markets. We find that the possibility to trade forwards reducesequilibrium investments.
    Keywords: Investment incentives, demand fluctuations, forward markets
    JEL: D43 L13
    Date: 2006–02
  48. By: Morris Teubal; Terttu Luukkonen
    Abstract: The paper summarizes the findings obtained during the first year of the Venture Fun project, carried out in an EU Network of Excellence PRIME and funded from the Sixth Framework Programme. The paper defines the central concepts of the project, identifies questions for further elaboration and study, and finally provides a rough idea of the different profiles that the studied countries (Finland, Israel, France, Italy, and the UK) evidence in the organization of their VC industries. One of the conclusions of the paper is that Israel, and to a lesser extent, Finland, has succeeded in developing a specialized, independent VC industry oriented to the early phase finance and support of ICT start-ups. By contrast, though the UK has a strong Private Equity industry, it is, however, not focusing on early-stage or high tech areas. Italy and France showed a significant presence of Venture Capital and Private Equity industries (public/private organisations), but in Italy an early phase VC industry has almost disappeared after 2001. The paper further summarises factors that have influenced the development of VC industries in the studied countries.
    Keywords: venture capital, industry emergence, start-ups, venture capital -directed policy, innovation policy
    JEL: O16 O38
    Date: 2006–03–01

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