D62 Externalities
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We report results from a pre-registered field experiment about the impact of index provider engagement on corporate climate policy. A randomly chosen group of 300 out of 1227 international companies received a letter from an index provider, encouraging the company to commit to setting a science-based climate target to remain included in its climate transition benchmark indices. After one year, we observed a significant effect: 21.0% of treated companies have committed, vs. 15.7% in the control group. This suggests that engagement by financial institutions can affect corporate policies when a feasible request is combined with a credible threat of exit.
The rise of shale gas and tight oil development has triggered a major debate about hydraulic fracturing (HF). In an effort to bring light to HF practices and their potential risks to water quality, many U.S. states have mandated disclosure for HF wells and the fluids used. We employ this setting to study whether targeting corporate activities that have dispersed externalities with transparency reduces their environmental impact. Examining salt concentrations that are considered signatures for HF impact, we find significant and lasting improvements in surface water quality between 9-14% after the mandates. Most of the improvement comes from the intensive margin. We document that operators pollute less per unit of production, cause fewer spills of HF fluids and wastewater and use fewer hazardous chemicals. Turning to how transparency regulation works, we show that it increases public pressure and enables social movements, which facilitates internalization.
Gradient capital allocation, also known as Euler allocation, is a technique used to redistribute diversified capital requirements among different segments of a portfolio. The method is commonly employed to identify dominant risks, assessing the risk-adjusted profitability of segments, and installing limit systems. However, capital allocation can be misleading in all these applications because it only accounts for the current portfolio composition and ignores how diversification effects may change with a portfolio restructuring. This paper proposes enhancing the gradient capital allocation by adding “orthogonal convexity scenarios” (OCS). OCS identify risk concentrations that potentially drive portfolio risk and become relevant after restructuring. OCS have strong ties with principal component analysis (PCA), but they are a more general concept and compatible with common empirical patterns of risk drivers being fat-tailed and increasingly dependent in market downturns. We illustrate possible applications of OCS in terms of risk communication and risk limits.
Many consumers care about climate change and other externalities associated with their purchases. We analyze the behavior and market effects of such “socially responsible consumers” in three parts. First, we develop a flexible theoretical framework to study competitive equilibria with rational consequentialist consumers. In violation of price taking, equilibrium feedback non-trivially dampens a consumer’s mitigation efforts, undermining responsible behavior. This leads to a new type of market failure, where even consumers who fully “internalize the externality” overconsume externality-generating goods. At the same time, socially responsible consumers change the relative effectiveness of taxes, caps, and other policies in lowering the externality. Second, since consumer beliefs about and preferences over dampening play a crucial role in our framework, we investigate them empirically via a tailored survey. Consistent with our model, consumers are predominantly consequentialist, and on average believe in dampening. Inconsistent with our model, however, many consumers fail to anticipate dampening. Third, therefore, we analyze how such “naive” consumers modify our theoretical conclusions. Naive consumers behave more responsibly than rational consumers in a single-good economy, but may behave less responsibly in a multi-good economy with cross-market spillovers. A mix of naive and rational consumers may yield the worst outcomes.
Crowdfunding platforms offer project initiators the opportunity to acquire funds from the Internet crowd and, therefore, have become a valuable alternative to traditional sources of funding. However, some processes on crowdfunding platforms cause undesirable external effects that influence the funding success of projects. In this context, we focus on the phenomenon of project overfunding. Massively overfunded projects have been discussed to overshadow other crowdfunding projects which in turn receive less funding. We propose a funding redistribution mechanism to internalize these overfunding externalities and to improve overall funding results. To evaluate this concept, we develop and deploy an agent-based model (ABM). This ABM is based on a multi-attribute decision-making approach and is suitable to simulate the dynamic funding processes on a crowdfunding platform. Our evaluation provides evidence that possible modifications of the crowdfunding mechanisms bear the chance to optimize funding results and to alleviate existing flaws.
