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The long-run consumption risk model provides a theoretically appealing explanation for prominent asset pricing puzzles, but its intricate structure presents a challenge for econometric analysis. This paper proposes a two-step indirect inference approach that disentangles the estimation of the model's macroeconomic dynamics and the investor's preference parameters. A Monte Carlo study explores the feasibility and efficiency of the estimation strategy. We apply the method to recent U.S. data and provide a critical re-assessment of the long-run risk model's ability to reconcile the real economy and financial markets. This two-step indirect inference approach is potentially useful for the econometric analysis of other prominent consumption-based asset pricing models that are equally difficult to estimate.
Although existing research has established that aesthetic pleasure and aesthetic interest are two distinct positive aesthetic responses, empirical research on aesthetic preferences usually considers only aesthetic liking to capture participants’ aesthetic response. This causes some fundamental contradictions in the literature; some studies find a positive relationship between easy-to-process stimulus characteristics and aesthetic liking, while others suggest a negative relationship. The present research addresses these empirical contradictions by investigating the dual character of aesthetic liking as manifested in both the pleasure and interest components. Based on the Pleasure-Interest Model of Aesthetic Liking (PIA Model; Graf and Landwehr, 2015), two studies investigated the formation of pleasure and interest and their relationship with aesthetic liking responses. Using abstract art as the stimuli, Study 1 employed a 3 (stimulus fluency: low, medium, high) × 2 (processing style: automatic, controlled) × 2 (aesthetic response: pleasure, interest) experimental design to examine the processing dynamics responsible for experiencing aesthetic pleasure versus aesthetic interest. We find that the effect of stimulus fluency on pleasure is mediated by a gut-level fluency experience. Stimulus fluency and interest, by contrast, are related through a process of disfluency reduction, such that disfluent stimuli that grow more fluent due to processing efforts become interesting. The second study employed product designs (bikes, chairs, and lamps) as stimuli and a 2 (fluency: low, high) × 2 (processing style: automatic, controlled) × 3 (product type: bike, chair, lamp) experimental design to examine pleasure and interest as mediators of the relationship between stimulus fluency and design attractiveness. With respect to lamps and chairs, the results suggest that the effect of stimulus fluency on attractiveness is fully mediated by aesthetic pleasure, especially in the automatic processing style. Conversely, disfluent product designs can enhance design attractiveness judgments due to interest when a controlled processing style is adopted.
Asymmetric social norms
(2017)
Studies of cooperation in infinitely repeated matching games focus on homogeneous economies, where full cooperation is efficient and any defection is collectively sanctioned. Here we study heterogeneous economies where occasional defections are part of efficient play, and show how to support those outcomes through contagious punishments.
Banks must save even more
(2017)
Nach den Ereignissen in Gaggenau liest und hört man allenthalben von den "rechtlichen Schwierigkeiten", die hinsichtlich Verboten von Redeauftritten ausländischer Politiker bestünden. In Gaggenau hat man originär sicherheitsrechtlich argumentiert: viel zu viele Leute, viel zu kleiner Parkplatz, Chaos vorprogrammiert. Ähnliches nun in Köln: zu großer Aufwand, zu kurzfristig, Chaos vorprogrammiert. Nehmen wir einmal an, es seien im Einzelfall tragfähige Begründungen gewesen. Dann stellt sich zugleich die Frage: Was kann man tun, wenn man den Auftritt eines ausländischen Vertreters untersagen will, obwohl der Parkplatz groß genug und die Polizei ausreichend gegen Ausschreitungen gewappnet ist? ...
This paper presents new evidence on the expectation formation process of firms from a survey of the German manufacturing sector. It focuses on the expectation about their future business conditions, which enters the widely followed economic sentiment index and which is an important determinant of their employment and investment decisions. We find that firms extrapolate their experience too much and make predictable forecasting errors. Moreover, firms do not seem to anticipate the upcoming reversals of business cycle peaks and troughs which causes suboptimal adjustment of investment and employment and affects their inventories and profits. However, the impact on expectation errors decreases with the size and the age of the firm as firms learn to reduce their extrapolation bias over time.
The level of capital tax gains has high explanatory power regarding the question of what drives economic inequality. On this basis, the authors develop a simple, yet micro-founded portfolio selection model to explain the dynamics of wealth inequality given empirical tax series in the US. The results emphasize that the level and the transition of speed of wealth inequality depend crucially on the degree of capital taxation. The projections predict that – continuing on the present path of capital taxation in the US – the gap between rich and poor is expected to shrink whereas “massive” tax cuts will further increase the degree of wealth concentration.
I propose a dynamic stochastic general equilibrium model in which the leverage of borrowers as well as banks and housing finance play a crucial role in the model dynamics. The model is used to evaluate the relative effectiveness of a policy to inject capital into banks versus a policy to relieve households of mortgage debt. In normal times, when the economy is near the steady state and policy rates are set according to a Taylor-type rule, capital injections to banks are more effective in stimulating the economy in the long-run. However, in the middle of a housing debt crisis, when households are highly leveraged, the short-run output effects of the debt relief are more substantial. When the zero lower bound (ZLB) is additionally considered, the debt relief policy can be much more powerful in boosting the economy both in the short-run and in the longrun. Moreover, the output effects of the debt relief become increasingly larger, the longer the ZLB is binding.
We analyze the market reaction to the sentiment of the CEO speech at the Annual General Meeting (AGM). As the AGM is typically preceded by several information disclosures, the CEO speech may be expected to contribute only marginally to investors’ decision-making. Surprisingly, however, we observe from the transcripts of 338 CEO speeches of German corporates between 2008 and 2016 that their sentiment is significantly related to abnormal stock returns and trading volumes following the AGM. Using a novel business-specific German dictionary based on Loughran and McDonald (2011), we find a negative association of the post-AGM returns with the speeches’ negativity and a positive association with the speeches’ relative positivity (i.e. positivity relative to negativity). Relative positivity moreover corresponds with a lower trading volume in a short time window surrounding the AGM. Investors hence seem to perceive the sentiment of CEO speeches at AGMs as a valuable indicator of future firm performance.
We analyze the market reaction to the sentiment of the CEO speech at the Annual General Meeting (AGM). As the AGM is typically preceded by several information disclosures, the CEO speech may be expected to contribute only marginally to investors’ decision making. Surprisingly, however, we observe from the transcripts of 338 CEO speeches of German corporates between 2008 and 2016 that their sentiment is significantly related to abnormal stock returns and trading volume around the AGM. By adapting a finance-specific German dictionary based on Loughran and McDonald (2011), we find a negative association of the post-AGM returns with the speeches’ negativity and a positive association with the speeches’ relative positivity (i.e. positivity relative to negativity). Relative positivity moreover corresponds with a lower trading volume around the AGM. Investors hence seem to perceive the sentiment of CEO speeches at AGMs as a valuable indicator of future firm performance. Our results are robust against different weighting schemes and our dictionary appears to be better suited to grasp the sentiment of German business documents compared to general dictionaries.
In the context of the upcoming Brexit, a relocation of the clearing of euro-OTC derivatives for EU-based firms is the subject of controversial discussion. The opponents of a relocation argue that a relocation would cause additional costs for market participants of up to USD 100 bn over a period of 5 years. This paper shows that this cost estimate is fairly unrealistic and that relocation costs would amount to approximately USD 0.6 bn p.a., which translates to cumulative costs of around USD 3.2 bn for a transition period of 5 years. In light of the strategic importance of systemically relevant CCPs for the financial stability of the eurozone, the potential relocation costs should not be a decision criterion.
Coming early to the party
(2017)
We examine the strategic behavior of High Frequency Traders (HFTs) during the pre-opening phase and the opening auction of the NYSE-Euronext Paris exchange. HFTs actively participate, and profitably extract information from the order flow. They also post "flash crash" orders, to gain time priority. They make profits on their last-second orders; however, so do others, suggesting that there is no speed advantage. HFTs lead price discovery, and neither harm nor improve liquidity. They "come early to the party", and enjoy it (make profits); however, they also help others enjoy the party (improve market quality) and do not have privileges (their speed advantage is not crucial).
Commodity connectedness
(2017)
We use variance decompositions from high-dimensional vector autoregressions to characterize connectedness in 19 key commodity return volatilities, 2011-2016. We study both static (full-sample) and dynamic (rolling-sample) connectedness. We summarize and visualize the results using tools from network analysis. The results reveal clear clustering of commodities into groups that match traditional industry groupings, but with some notable differences. The energy sector is most important in terms of sending shocks to others, and energy, industrial metals, and precious metals are themselves tightly connected.
Monetary policy communication is particularly important during unconventional times, because high uncertainty about the economy, the introduction of new policy tools and possible limits to the central bank’s toolkit could hamper the predictability of policy actions. We study how monetary policy communication should and has worked under such circumstances. Our main results relate to announcements of asset purchase programmes and the use of forward guidance. We show that announcements of asset purchase programmes have lowered market uncertainty, particularly when accompanied by a contextual release of implementation details such as the envisaged size of the programme. We also show that forward guidance reduces uncertainty more effectively when it is state‐contingent or when it provides guidance about a long horizon than when it is open‐ended or covers only a short horizon, and that the credibility of forward guidance is strengthened if the central bank also has embarked on an asset purchase programme.
This paper studies a consumption-portfolio problem where money enters the agent's utility function. We solve the corresponding Hamilton-Jacobi-Bellman equation and provide closed-form solutions for the optimal consumption and portfolio strategy both in an infinite- and finite-horizon setting. For the infinite-horizon problem, the optimal stock demand is one particular root of a polynomial. In the finite-horizon case, the optimal stock demand is given by the inverse of the solution to an ordinary differential equation that can be solved explicitly. We also prove verification results showing that the solution to the Bellman equation is indeed the value function of the problem. From an economic point of view, we find that in the finite-horizon case the optimal stock demand is typically decreasing in age, which is in line with rules of thumb given by financial advisers and also with recent empirical evidence.
This paper studies a consumption-portfolio problem where money enters the agent's utility function. We solve the corresponding Hamilton-Jacobi-Bellman equation and provide closed-form solutions for the optimal consumption and portfolio strategy both in an infinite- and finite-horizon setting. For the infinite-horizon problem, the optimal stock demand is one particular root of a polynomial. In the finite-horizon case, the optimal stock demand is given by the inverse of the solution to an ordinary differential equation that can be solved explicitly. We also prove verification results showing that the solution to the Bellman equation is indeed the value function of the problem. From an economic point of view, we find that in the finite-horizon case the optimal stock demand is typically decreasing in age, which is in line with rules of thumb given by financial advisers and also with recent empirical evidence.
The paper provides an overview and an economic analysis of the development of the corporate governance of German banks since the 1950s, highlighting peculiarities – as seen from the meanwhile prevailing standard model perspective – of the German case. These peculiarities refer to the specific German notion and legal-institutional regime of corporate governance in general as well as to the specific three-pillar structure of the German banking system.
The most striking changes in the corporate governance of German banks during the past 50 years occurred in the case of the large shareholder-owned banks. For them, capital markets have become an important element of corporate governance, and their former orientation towards the interests of a broadly defined set of stakeholders has largely been replaced by a one-sided concentration on shareholders’ interests. In contrast, the corporate governance regimes of the smaller local public savings banks and the local cooperative banks have remained virtually unchanged. They acknowledge a broader horizon of stakeholder interests and put an emphasis on monitoring.
The Great Financial Crisis, beginning in 2007, has led to a considerable reassessment in the academic and political debate on bank governance. On an international level, it has revived the older notion that, in view of their high leverage and their innate complexity, banks are “special” and bank corporate governance also – and needs to be seen in this light, not least because research indicates that banks with a strong and one-sided shareholder orientation – and thus with what appears to be the best corporate governance according to the standard model – have suffered most in the crisis. In the German case, the crisis has shown that the smaller local banks have survived the crisis much better than large private and public banks, whose funding strongly depends on wholesale markets. This may point to certain advantages of their governance and ownership regimes. But the differences in the performance during the crisis years may also, or even more so, be a consequence of the business models of large vs small banks than of their different governance regimes.
Under Solvency II, corporate governance requirements are a complementary, but nonetheless essential, element to build a sound regulatory framework for insurance undertakings, also to address risks not specifically mitigated by the sole solvency capital requirements. After recalling the provisions of the second pillar concerning the system of governance, the paper is devoted to highlight the emerging regulatory trends in the corporate governance of insurance firms. Among others, it signals the exceptional extension of the duties and responsibilities assigned to the Board of directors, far beyond the traditional role of both monitoring the chief executive officer, and assessing the overall direction and strategy of the business. However, a better risk governance is not necessarily built on narrow rule-based approaches to corporate governance.
Under Solvency II, corporate governance requirements are a complementary, but nonetheless essential, element to build a sound regulatory framework for insurance undertakings, also to address risks not specifically mitigated by the sole solvency capital requirements. After recalling the provisions of the Second Pillar concerning the system of governance, the paper highlights the emerging regulatory trends in the corporate governance of insurance firms. Among others things, it signals the exceptional extension of the duties and responsibilities assigned to the board of directors, far beyond the traditional role of both monitoring the chief executive officer, and assessing the overall direction and strategy of the business. However, a better risk governance is not necessarily built on narrow rule-based approaches to corporate governance.
A counterparty credit limit (CCL) is a limit imposed by a financial institution to cap its maximum possible exposure to a specified counterparty. Although CCLs are designed to help institutions mitigate counterparty risk by selective diversification of their exposures, their implementation restricts the liquidity that institutions can access in an otherwise centralized pool. We address the question of how this mechanism impacts trade prices and volatility, both empirically and via a new model of trading with CCLs. We find empirically that CCLs cause little impact on trade. However, our model highlights that in extreme situations, CCLs could serve to destabilize prices and thereby influence systemic risk.
Das Clearing von Euro-OTC-Derivaten post Brexit – eine Analyse der vorliegenden Kostenschätzungen
(2017)
Im Zusammenhang mit dem Brexit wird über die Kosten einer Relokation des Clearing des Euro-OTC-Derivate-Geschäftes auf ein EU-CCP diskutiert. Das vorliegende Papier zeigt, dass die bislang vorliegenden Kostenschätzungen, die von Kosten in Höhe von bis zu USD 100 Mrd. für einen Zeitraum von fünf Jahren ausgehen, viel zu hoch sind. Die erwarteten Kosten einer Relokation liegen vielmehr bei ca. USD 0,6 Mrd. p.a. bzw. ca. USD 3,2 Mrd. für eine Übergangsphase von fünf Jahren. Angesichts der hohen Bedeutung von systemrelevanten CCPs für die Stabilität der Eurozone sollten diese Kosten nicht entscheidungsrelevant für eine Relokation sein.
We analyze older individuals’ debt and financial vulnerability using data from the Health and Retirement Study (HRS) and the National Financial Capability Study (NFCS). Specifically, in the HRS we examine three different cohorts (individuals age 56–61) in 1992, 2004, and 2010 to evaluate cross-cohort changes in debt over time. We also use two waves of the NFCS (2012 and 2015) to gain additional insights into debt management and older individuals’ capacity to shield themselves against shocks. We show that recent cohorts have taken on more debt and face more financial insecurity, mostly due to having purchased more expensive homes with smaller down payments.
Helmut Siekmann erläutert in seinem Beitrag die Einstandspflicht der Bundesrepublik Deutschland für die Deutsche Bundesbank und die Europäische Zentralbank. Dabei kommt er zu dem Schluss, dass weder eine „Haftung der Bundesrepublik Deutschland für Verluste der EZB noch eine Verpflichtung zur Auffüllung von aufgezehrtem Eigenkapital“ besteht.
Dieser Beitrag ist zuerst erschienen in: Festschrift für Theodor Baums zum siebzigsten Geburtstag, S. 1145-1179, Helmut Siekmann, Andreas Cahn, Tim Florstedt, Katja Langenbucher, Julia Redenius-Hövermann, Tobias Tröger, Ulrich Segna, Hrsg., Tübingen, Mohr Siebeck 2017
We study the impact of estimation errors of firms on social welfare. For this purpose, we present a model of the insurance market in which insurers face parameter uncertainty about expected loss sizes. As consumers react to under- and overestimation by increasing and decreasing demand, respectively, insurers require a safety loading for parameter uncertainty. If the safety loading is too small, less risk averse consumers benefit from less informed insurers by speculating on them underestimating expected losses. Otherwise, social welfare increases with insurers’ information. We empirically estimate safety loadings in the US property and casualty insurance market, and show that these are likely to be sufficiently large for consumers to benefit from more informed insurers.