Mark Kritzman, Simon Myrgren, and Sebastien Page
A technique called dynamic programming can be used to identify an optimal rebalancing schedule, which significantly reduces rebalancing and sub-optimality costs. Dynamic programming provides solutions to multi-stage decision processes in which the decisions made in prior periods affect the choices available in later periods. Dynamic programming provides the optimal year-by-year decision policy by working backwards from year 10. The results of the test of the relative efficacy of dynamic programming and the MvD heuristic with data on domestic equities, domestic fixed income, non-US equities, non-US fixed income, and emerging market equities, show that the MvD heuristic performs quite well compared to the dynamic programming solution for the two-asset case and substantially better than other heuristics. The increase in the number of assets reduces the advantage of dynamic programming over the MvD heuristic and is reversed at the level of five assets. Dynamic programming cannot be applied beyond five assets, but the MvD heuristic can be extended up to 100 assets. The MvD heuristic reduces total costs relative to all of the other heuristics by substantial amounts. The performance of the MvD heuristic improves relative to the dynamic programming solution as more assets are added but this improvement reflects a growing reliance on an approximation for the dynamic programming approach.
This chapter examines the potential discrepancies in the regulation applied to overseas issuers, as opposed to domestic issuers, of four leading financial centers. They are New York, London, Hong Kong, and Singapore. It consists of three substantive sections. The first section will reviews existing literature and empirical evidence concerning the motivations and current state of cross-listing. The second section examines the listing route for an overseas issuer and inquires how it might differ from a domestic listing in the host country. This chapter particularly concerns the potential discrepancies of rules between a foreign listing and a domestic listing and asks if those discrepancies would lead to better or inferior investor protection. The third section examines the continuing regulation of foreign-listed companies, reviewing some regulatory concerns involving cross-listed companies and discussing what can be done to curb the problems, for instance, through regulatory cooperation between home and host regulators.
C.A. Knox Lovell and Emili Grifell-Tatjé
We study various analytical frameworks relating productivity change to change in the cost structure and cost efficiency of the firm. We begin by motivating a focus on the cost side, and not the revenue side, of the profit objective of the firm. We continue by relating the cost accounting tool of standard cost variance analysis to the economics tool of cost efficiency analysis. We focus on managerially controllable drivers of cost efficiency, including productivity change and its components. We conclude by noting some significant empirical applications of the analysis, by recommending cost efficiency analysis as a valuable tool for benchmarking against the best, and by suggesting some new directions for research.
Marina Della Giusta, Maria Laura di Tommaso, and Sarah L. Jewell
In this chapter, we analyze the demand for paid sex of British men utilizing the British National Survey of Sexual Attitudes and Lifestyles based on interviews in the period 2010–2012. The paper tests a theoretical model of demand for paid sex (Della Giusta et al. 2009a) where demand for paid sex depends on income, the amount of free sex, stigma, and reputation. A novelty of this chapter consists of analyzing the roles of income and religion. We find that the probability that men pay for sex is 6 percentage points higher for men with an income between £40,000 and £50,000, controlling for education and professional status. The probability of paying for sex increases between 2 and 5 percentage points if the man is religious, after controlling for conservative opinions.
Randall Morck and Bernard Yeung
This article discusses agency problems and capitalism. It suggests that real social costs of agency problems lie deeper, in the inner workings of the economy. Inefficient resource allocation by firms costs money, as do the monitoring and control mechanisms that might limit those problems. Some level of agency costs is thus unavoidable. But both firms and economies can seek ways to reduce unavoidable agency costs.
Petter N. Kolm and Lee Maclin
This article discusses the portfolio optimization with market impact costs, combining execution and portfolio risk, and dynamic portfolio analysis. A multi-period portfolio optimization model is proposed that incorporates permanent and temporary market impact costs, and alpha decay. There are five popular algorithmic trading strategies that include arrival price, market-on-close, participation, time-weighted average price (TWAP), and volume-weighted average price (VWAP). For a VWAP benchmark, the lowest risk execution is obtained by trading one's own shares in the same fractional volume pattern as the market. VWAP execution is expected to result in the lowest temporary market impact costs. The temporary market impact in a rate of trading model is a function of one's own rate of trading expressed as a fraction of the absolute trading activity of the market. One popular interpretation of the model is that the markets are relatively efficient with respect to the relationship between trading volume and volatility, which are typical inputs of the model. Any reduction in impact that results from more trading volume would be offset by an increase in impact due to increased volatility. The lowest absolute rate of trading can be realized by distributing one's orders evenly over time. This is called a time-weighted average price (TWAP) execution.
All Ties Are Not Created Equal: Institutional Equity Ties, IPO Performance, and Market Growth of New Ventures
Yong Li and Beiqing Yao
This chapter examines whether and how different types of institutional ties affect new venture performance at different organizational stages. The authors propose that equity ties to government agencies will enhance the speed and returns of initial public offerings (IPOs) but hinder post-IPO market growth. By contrast, equity ties to research institutes will contribute positively to both IPO performance and post-IPO market growth. The authors build their arguments on how the two types of institutional ties meet new ventures’ need to be legitimate and competitive pre- and post-IPO. They test their hypotheses with new ventures in the pharmaceutical and chemical industries that went public in China and find supportive evidence.
Armin Schwienbacher and Benjamin Larralde
This article discusses crowdfunding as an alternative way of financing projects, with a focus on small, entrepreneurial ventures. It first provides a description of crowdfunding and discusses existing research on the topic. The next section looks at crowdfunding in the context of entrepreneurial finance and thereby describes factors affecting entrepreneurial preferences for crowdfunding as a source of finance. Thereafter it elaborates different business models used to raise money from the crowd, in particular with respect to the structure of the crowdfunding process. Building on this discussion, the article presents and discusses extensively a case study, Media No Mad (a French start-up). It concludes with recommendations for entrepreneurs seeking to make use of crowdfunding and with suggestions for researchers about yet-unexplored avenues of research.
Antony Davies, Kajal Lahiri, and Xuguang Sheng
This article illustrates how frameworks built around multidimensional panel data of forecasts can be used not only to test the rational expectations hypothesis correctly, but also to study alternative expectations-formation mechanisms, to distinguish anticipated from unanticipated shocks, and to distinguish forecast uncertainty from disagreement.
Francis Breedon and Robert Kosowski
The article aims to discuss the optimal asset allocation for sovereign wealth funds (SWF). The main purpose of a commodity based sovereign wealth fund is to create a permanent income stream out of a temporary one and so allow consumption smoothing over time. The asset allocation framework typically consists of an objective function that implies a preference for the highest return for a given level of risk. The ultimate objective of a SWF is to smooth consumption and achieve intergenerational transfers. The accumulation of financial assets presupposes functioning markets for consumption goods such as food products. Another consideration that may guide the investment behavior of sovereign wealth funds and that highlights the role of liabilities is food security. Future food imports are a key component of the balance of payments identity. A rigorous analysis of the commodity fund's optimal asset allocation policy must take into account the role of liabilities and therefore requires an analysis of the country's balance of payments. The ALM takes into account the role of liabilities and the resulting additional hedging demands. The asset liability management (ALM) examines both assets and financial liabilities and models the return on assets and the return on liabilities.
Liang Han and Song Zhang
This article reviews literature on the important role played by asymmetric information in entrepreneurial finance from two perspectives: asymmetric information and relationship lending, and the theoretical modeling of asymmetric information. Then it examines the relationship between capital market conditions and entrepreneurial finance and attempts to answer two questions: Why is the capital market condition important for entrepreneurial finance? and What are the effects of capital market conditions on entrepreneurial financial behavior in terms of discouraged borrowers, cash holding, and the availability and costs of finance?
This chapter focuses on the selection of an audit firm by UK initial public offering (IPO) firms. It documents that many IPO firms switch to an audit firm in a different segment (big, midsize, or small), which suggests that IPO firms carefully select an audit firm of a particular quality level before they go public. It examines whether the selection of an auditor by IPO firms is driven by the demand for certification or insurance. The authors find that IPO firms are more likely to choose a high-quality auditor when the uncertainty of the firm’s future prospects is higher and they want to signal quality (certification driven by signaling). In addition, they find that firms with riskier IPO offerings select higher-quality auditors, in line with the insurance hypothesis. They find mixed results for the certification hypotheses when testing for the effect of auditor reputation on initial returns.
Austrian school economists have long been interested in monetary and financial operations that characterize modern capitalism. With a few exceptions, this interest was confined, at least until the late twentieth century, primarily to the aggregate effects of these operations on the workings of the economy at large, focusing on the overall outcomes of human action rather than specifics of how the decision to engage in those actions comes about. In other words, Austrian theorists emphasized the role of business enterprise but not the conduct of business. The last thirty years of development in the Austrian school have seen a profound change in this regard, with notable contributions emerging in all areas of business education. This chapter demonstrates the development of Austrian theory with respect to finance and makes the case that this development is sufficient in scope to qualify as a distinctive Austrian theory of finance.
Availability of Credit to Small Firms Young and Old: Evidence from the Surveys of Small Business Finances
The availability of credit is one of the most important issues facing small businesses, and is especially vexing for young and fast-growing firms that need new capital to finance growth. In the United States, small businesses produce about half of the total GDP in the U.S., employ about half of all private-sector U.S. workers, and have accounted for almost two-thirds of all job growth between 1993 and 2008. Therefore, it is critically important to understand the issue of credit availability to small firms. This article analyzes data from a series of four nationally representative samples of small U.S. firms conducted by the Federal Reserve Board over two decades. It explores differences in younger and older firms, using ten years as the demarcation point between young and old businesses. Younger firms seeking to grow have different credit needs than older, more mature firms. Many distinguish entrepreneurial firms from other small firms by their age. The article briefly describes the Surveys for Small Business Finances (SSBFs); summarizes two sets of studies that use the SSBFs to analyze the use of credit by small firms; and presents new evidence from the SSBFs on differences between young and old small firms, with a focus on the availability of credit.
Raluca A. Roman
During the global financial crisis, governments bailed out banks when their failures threatened to undermine economic and financial stability. After the crisis, governments tried to end bailouts by raising capital requirements, increasing supervisory rules and oversight, and introducing bail-in provisions that require creditors and/or equity holders to assume losses and help recapitalize distressed banks. Some important policy questions are whether bailouts have been effective in meeting their primary goals and whether bail-ins as alternatives can be effective in reducing the need for bailouts and resolving financial institutions facing distress and failure going forward. This chapter surveys the recent literature and other evidence from the US and EU on bailouts and bail-ins to better understand their economic and social costs and benefits. We also discuss briefly other methods to deal with the resolution of distressed large financial institutions.
Mark E. Van Der Weide and Jeffrey Y. Zhang
Regulators responded with an array of strategies to shore up weaknesses exposed by the 2008 financial crisis. This chapter focuses on reforms to bank capital regulation. We first discuss the ways in which the post-crisis Basel III reforms recalibrated the existing framework by improving the quality of capital, increasing the quantity of capital, and improving the calculation of risk weights. We then shift to the major structural changes in the regulatory capital framework—capital buffers on top of the minimum requirements; a leverage ratio that explicitly accounts for off-balance-sheet exposures; risk-based and leverage capital surcharges on the largest banks; bail-in debt to facilitate orderly resolution; and forward-looking stress tests. We conclude with a quantitative assessment of the evolution of capital in the global banking system and in the US banking sector.
Charles W. Calomiris
Deposit withdrawal pressures on banks, which sometimes take the form of sudden runs, have figured prominently in the discussion of public policy toward banks and the construction of safety nets such as deposit insurance and the lender of last resort. This chapter examines historical evidence from the Great Depression, and other episodes, on the factors that prompted withdrawals, the discussion of contagious runs, and the public policy implications. The historical evidence is presented in detail and is connected to the debate over the proper roles of deposit market discipline via the threat of withdrawals, the insurance of deposits, and lender-of-last-resort support for banks facing withdrawal pressures.
Deniz Anginer and Asli Demirgüç-Kunt
Deposit insurance is a widely adopted policy to promote financial stability in the banking sector. Deposit insurance helps ensure depositor confidence in the financial system and prevents contagious bank runs, but it also comes with an unintended consequence of encouraging banks to take on excessive risk. In this chapter, we begin with a review of the economic costs and benefits associated with deposit insurance. Drawing on the recent literature, we then review and discuss optimal deposit insurance design and risk-based pricing of insurance premiums. Finally, we discuss the impact of the larger institutional environment on how well deposit insurance schemes work in practice.
Allen N. Berger, Philip Molyneux, and John O. S. Wilson
A lot has happened in the ten years since the global financial crisis. This chapter starts with a summary of key regulatory and operational issues that have impacted banks in Europe, the US and elsewhere. Banks are much more heavily regulated than pre-crisis, their performance in the US and Europe has been subdued although there are signs that those in the former have turned the corner. There continues also to be ongoing discussion as well as regulatory efforts to improve banking system stability with new rules on capital, liquidity, bailouts, and bail-ins to be fully completed. These issues are covered in the first part of the chapter. We then move on to discuss emerging research themes covering areas including: banks and their impact on the real economy; capital, liquidity, and tax regulation; systemic risk; unconventional monetary policy; FinTech; bank governance and culture; financial consumer protection and financial literacy; and finally financial inclusion. The final part of the chapter provides summaries of all the chapters in the Handbook.
Nicola Cetorelli and Michael Blank
This chapter reviews insights about how the banking system affects real economic performance. After arguing that the causality debate—the high-level question of whether the characteristics of a banking system have causal consequences for the real economy—has essentially been settled, we evaluate the specific channels through which banking activity may exert real effects. We focus on the rich empirical literature spawned by the theoretically ambiguous impact of greater banking competition, which has found concentration of the banking system to be a significant determinant of the structure and health of non-financial industries. We also discuss how, after the 2007–9 financial crisis, there has been revitalized interest in modeling the role that financial intermediaries play in amplifying aggregate shocks and initiating crises. We conclude by noting the importance of accounting for the changing institutional, structural, and technological properties of the financial sector in understanding the interplay between financial and real activity.