Robust Inference for Consumption-Based Asset Pricing

The reliability of traditional asset pricing tests depends on: (i) the correlations between asset returns and factors; (ii) the time series sample size T compared to the number of assets N. For macro-risk factors, like consumption growth, (i) and (ii) are often such that traditional tests cannot be trusted. We extend the Gibbons-Ross-Shanken statistic to test identification of risk premia and construct their 95% confidence sets. These sets are wide or unbounded when T and N are close, but show that average returns are not fully spanned by betas when T exceeds N considerably. Our findings indicate when meaningful empirical inference is feasible.     

Tax Expense Momentum

We investigate the joint hypothesis that (1) tax expense contains information about core profitability that is incremental to reported earnings and (2) that information is reflected in stock prices with a delay. We find that seasonally differenced quarterly tax expense, our proxy for tax expense surprise, is related positively to future returns. This anomaly is separate from previously documented pricing anomalies based on financial and tax variables. Additional investigation reveals that tax expense surprise is related positively to changes in future quarterly earnings and tax expense, and both those future changes are related positively to future returns. While the returns to investing in predictable future earnings changes has been documented before, these results suggest that predicting changes in future tax expense also generates incremental future returns.     

The q-Theory Approach to Understanding the Accrual Anomaly

Interpreting accruals as working capital investment, we hypothesize based on  q -theory that firms optimally adjust their accruals in response to discount rate changes. A higher discount rate means less profitable investments and lower accruals, and a lower discount rate means more profitable investments and higher accruals. Our evidence supports this optimal investment hypothesis: (1) adding an investment factor into standard factor regressions substantially reduces the magnitude of the accrual anomaly, often to insignificant levels; (2) accruals covary negatively with discount rate estimates from the dividend discounting model, and for the most part, with estimates from the residual income model; (3) accruals with low accounting reliability covary more with capital investment than accruals with high accounting reliability; and (iv) expected returns to accruals-based trading strategies are time-varying, suggesting that the deterioration of the accrual effect in recent years might be temporary and likely to mean-revert in the near future.     

Project Labor Agreements' Effect on School Construction Costs in Massachusetts

This paper investigates the impact of Project Labor Agreements (PLAs) on school construction cost in Massachusetts. Although simple models exhibit a large positive effect of PLAs on construction costs, such effects are absent from more completely specified models. Further investigation finds sufficient dissimilarity in schools built with and without PLAs that it is difficult to distinguish the cost effects of PLAs from the cost effects of factors that underlie the use of PLAs.     

PER UNIT COST ALLOCATION OF INVESTED CAPITAL WITH ANTICIPATED NON-LEVEL PRODUCTION: THE CASE OF EXTRACTIVE INDUSTRIES

The concept of equivalent annual annuity (EAA) has long been used as a method of costing recovery of invested capital and the required return on invested capital over the productive life of a capital project. Academic texts almost universally use EAA methodology with level payment streams (annuities) to allocate capital costs. We develop a methodology for allocating capital costs evenly over each unit of production for projects with anticipated non-level production. This methodology uses a modified EAA approach that allows non-level annuity payment streams. Capital cost allocation is an important component in computing the value of extracted minerals for severance tax purposes; however, many firms and state and federal agencies use ad hocdepreciation schedules to allocate these costs. Ad hocdepreciation methods such as modified accelerated cost recovery system (MACRS) may be appropriate for income tax purposes but are inconsistent with commonly found requirements that severance taxes “shall be assessed on the wellhead or mine mouth fair market value.” The modified EAA approach provides a straightforward alternative that is based on sound financial methodology.     

MARKETS FOR ORGANS: THE QUESTION OF SUPPLY

Organ transplantation holds the potential to substantially restore the health of many otherwise terminally ill patients. That potential, however, is currently being denied full realization by a chronic and severe shortage of cadaveric organs that are made available for this use. In recent years, medical practitioners, social scientists, and others have debated the virtues of allowing markets for cadaveric organs to form as a way to end the current shortage. In this debate, market opponents have argued, inter alia, that (1) organ collections may fall with payment of positive prices and (2) the price required to equilibrate organ supply and demand would be high. On the other hand, proponents of organ markets have argued that financial inducements could save many lives and that the equilibrium price is likely to be low. While dozens of papers have been published debating this issue, to date no one has provided any empirical evidence to resolve these important questions of supply. This paper provides preliminary evidence suggesting that potential donors would be relatively responsive to financial inducements and, accordingly, that the price required to eliminate the current shortage of organs is surprisingly low. (JEL 118, L50)     

Slow Recoveries: A Structural Interpretation

An analysis of the performance of GDP, employment, and other labor market variables following the troughs in postwar U.S. business cycles points to much slower recoveries in the three most recent episodes, but does not reveal any significant change over time in the relation between GDP and employment. This leads us to characterize the last three episodes as slow recoveries, as opposed to jobless recoveries. We use the estimated New Keynesian model in Galí, Smets, and Wouters (2011) to provide a structural interpretation for the slower recoveries since the early nineties.     

Measuring Strategic Uncertainty in Coordination Games

This paper proposes a method to measure strategic uncertainty by eliciting certainty equivalents analogous to measuring risk attitudes in lotteries. We apply this method by conducting experiments on a class of one-shot coordination games with strategic complementarities and choices between simple lotteries and sure payoff alternatives, both framed in a similar way. Despite the multiplicity of equilibria in the coordination games, aggregate behaviour is fairly predictable. The pure or mixed Nash equilibria cannot describe subjects' behaviour. We present two global games with private information about monetary payoffs and about risk aversion. While previous literature treats the parameters of a global game as given, we estimate them and show that both models describe observed behaviour well. The global-game selection for vanishing noise of private signals offers a good recommendation for actual players, given the observed distribution of actions. We also deduce subjective beliefs and compare them with objective probabilities.