Bank regulation and supervision and its welfare implications

This study provides a general equilibrium model to explore the welfare implications of bank regulation and supervision (RS). The model supports the basic expectations regarding the positive effects of RS on the growth rate, output, credit, investment, wages and profits; and its negative effects on the interest rate. In addition, RS is observed to lead to a convergence effect. Furthermore, it is observed that the decision of banks to monitor and charge differentiated interest rates to firms depends on the distribution of firm-specific moral hazard rates; bank monitoring increases profits as the distribution of producer type improves.     

Fiscal counter-cyclical rules and their conflicting implications for growth and welfare

The paper examines the choices for fiscal stabilisation policy that maximise aggregate welfare and long-run growth. This is done in the context of a stochastic dynamic general equilibrium model where premeditated learning provides the engine of human capital accumulation and growth, and technology shocks provide the impulse source of fluctuations. Contrary to existing conventional wisdom, the results indicate a conflict between the two policy objectives: the choice of no stabilisation, associated with maximum growth, is also associated with minimum welfare. Welfare maximisation requires a full counter-cyclical response to the occurrence of business cycles. I am grateful to three anonymous referees for their constructive comments and suggestions. I would also like to thank Theodore Palivos, Keith Blackburn, seminar participants in Athens and Thessaloniki, and participants at the 2006 conference on Theories and Methods in Macroeconomics (Toulouse) and the 2007 conference of the Society for the Advancement of Economic Theory (Kos), for their valuables comments and suggestions on earlier drafts. Any errors and omissions are mine.     

Understanding multiemployer health and welfare plan financial statements

The trustees of a health and welfare plan may choose to delegate monitoring of the plan's financial operations. Still, it is important that they have a basic understanding of welfare plan financial statements.     

Social welfare orderings for ratio-scale measurable utilities

Summary. This article characterizes all of the continuous social welfare orderings which satisfy the Weak (resp. Strong) Pareto principle when utilities are ratio-scale measurable. With Weak Pareto, on both the nonnegative and positive orthants the social welfare ordering must be representable by a weakly increasing Cobb-Douglas social welfare function while on the whole Euclidean space the social welfare ordering must be strongly dictatorial. With Strong Pareto, on the positive orthant the social welfare ordering must be representable by a strictly increasing Cobb-Douglas social welfare function but on the other two domains an impossibility theorem is obtained. Received: July 31, 1995; revised version August 7, 1996     

Information-based contagion and the implications for financial fragility

This paper explores a global game model of information-based financial contagion. By revealing information on a common fundamental factor and thereby affecting the behavior of creditors, the failure of a single firm can trigger the failure of another firm. The model provides a unique equilibrium framework to assess the consequences of contagion and yields some hitherto unnoticed insights. While contagion increases the correlation among the financial failures of different firms, its impact on the incidence of failure is ambiguous. I consider an analytically tractable version of the model in which the effect on the ex ante failure probabilities is exactly zero. Moreover, the impact of contagion increases with the relevance of a common underlying fundamental, but is limited to firms near the brink of success or failure.     

Social welfare for an economy of angelic agents

This paper analyzes an economy in which all agents are pursuing the common good (or social welfare) but choices are decentralized, i.e., each agent can choose his/her action in the set of the actions that he/she can perform. One wonders if it is enough the common goal of maximizing social welfare to their will be achieved. The paper examines both the cases in which the choice made by each agent does not directly influence those of other agents, as in the competitive equilibrium analysis, and the case in which there is a direct influence, as in the game theory analyses. In the first case, we get that the common goal of maximizing social welfare is not enough to reach it, but it is necessary to coordinate the actions of individual agents by extending information to redistribute initial endowments and by introducing an appropriate social organization. We get the maximum social welfare without further intervention for the cases describable with the theory of games, but only for games of complete information. If the information is incomplete, some further coordination is generally required.     

The welfare cost of banking regulation

The Basel Accords promote the adoption of capital adequacy requirements to increase the banking sector's stability. Unfortunately, this type of regulation can hamper economic growth by shifting banks' portfolios from more productive, risky investment projects toward less productive but safer projects. This paper introduces banking regulation in an overlapping-generations model and studies how it affects economic growth, banking sector stability, and welfare. In this model, a banking crisis is initiated by an aggregated shock (in the risky sector) in a banking system with implicit bailout, and banking regulation is modeled as a constraint on the maximal share of banks' portfolios that can be allocated to risky assets. This model allows us to evaluate quantitatively the key trade-off, inherent in this type of regulation, between ensuring banking stability and fostering economic growth. The model implies an optimal level of regulation that prevents crises but at the same time is detrimental to growth. We find that the overall effect of optimal regulation on social welfare is positive when productivity shocks are sufficiently high (for example, in the subprime banking crisis episode) and economic agents are sufficiently risk-averse. Finally, we find that there is a trade-off between regulating the economy upfront (i.e. before the shock) and facing the challenge of making a huge bailout after the crisis.     

Macroeconomic implications of financial policy

This paper studies the effects of financial policy in a model with heterogeneous agents, incomplete markets and portfolio restrictions. For an economy calibrated to replicate key aspects of the U.S. wealth distribution, we find that the quantitative effects of financial policy are relatively small. The reason is that the households determining aggregate behavior are relatively well insured and can therefore offset the actions of the firm by modifying their portfolio allocations. However, financial policy has important effects on asset prices. Whereas a higher level of debt in the capital structure of the firm introduces more risk into the economy by increasing the volatility of the equity return, it enhances the liquidity of households by increasing the supply of bonds. In an economy with a substantial amount of heterogeneity, this last effect dominates and leverage leads to a decrease in the equity premium. This is in contrast to the findings in representative agent models, in which leverage unambiguously increases the premium through a higher equity return volatility.     

Quality competition,welfare, and regulation

In this paper, we study the supply of quality in imperfectly competitive markets, and explore the role of regulation in markets where firms may use both quality and price to compete for customers. In a model where firms first choose qualities and then prices, we find that quality decisions have strategic effects: firms react to quality disadvantages by price reductions. Because of this strategic effect, firms do not have the correct incentive to set socially efficient quality levels. Price and quality competition results in a socially suboptimal quality level. Efficiency can be restored by lump-sum transfers and price regulatory policies. Simple price regulation may result in lower price and higher quality.We thank Nicholas Economides, Randall Ellis, Thomas McGuire, Michael Riordan, and Monika Schnitzer for discussing various issues in this research with us. We are also grateful to a referee for helpful comments and suggestions. The first author acknowledges support from the Management Science Group, Department of Veterans Affairs at Bedford, Massachusetts. The ideas here do not represent those of the Department of Veterans Affairs.     

The effects of a financial literacy intervention on the financial and economic knowledge of high school students

The authors taught financial concepts to students in 12th-grade economics classes, where one treatment was intensive in money management (MM) topics and the other was intensive in financial investment (FI) topics. Two control groups, consisting of 11th-grade students with no exposure to economics and 12th-grade economics students, received no treatment. Both treatment groups showed a 13 percentage point increase in test scores from pretest to posttest, while neither control group showed gains. Neither treatment group outperformed the other in the financial literacy test.     

The welfare implications of advertising and extension under uncertainty

This paper specifies an adoption model based upon Bayesian learning and exogenous information generation. Formulae for welfare effects are derived and calibrated using Green Revolution agricultural data. The effects of intervention through the dissemination of new information are then estimated numerically. The simulations indicate that gains to intervention can be substantial. Intervening with slowly adopted marginal technologies is as beneficial as intervening with superior technologies. Taken from Shampine [Am. J. Agric. Econ. 2 (1998).], which examined intervention in the presence of learning externalities, the results suggest that if adoption is slow, and information is the primary constraint, the gains to intervention are generally substantial relative to the costs.     

Price regulation,product location,and welfare

This paper investigates the imposition of a binding price ceiling and how it affects overall welfare and the location of a monopolist that is price-discriminating between two markets. The analysis shows that the imposition of a price-ceiling induces the monopolist to locate at the regulated market and that the imposition may actually reduce welfare. The setting is extended to a duopoly market. Two types of regulation are considered. The welfare implications of the regulations are discussed.      

Information acquisition and welfare effect in a model of competitive financial markets

We analyze welfare effect of information acquisition for a model of competitive financial markets with diverse information and rational expectations. We show that in the fully revealing rational expectations equilibrium, each agent’s gain from trade in ex ante utility decreases as more agents become informed. An implication of the result is that market efficiency and ex ante Pareto optimality are not compatible in competitive financial markets with diverse information and rational expectations. Our result can be viewed as complementary to the Grossman paradox, which shows that market efficiency and individuals’ incentives to acquire information are not compatible. This paper is the first step in a projected exploration of welfare effect of information acquisition in models with diverse information.     

On the welfare implications of restricting bankruptcy information

The Fair Credit Reporting Act (FCRA) dictates that adverse events such as a Chapter 7 bankruptcy filing must be removed from an individual’s credit record after 10 years. The intent of the law is to provide partial consumption insurance by giving an individual a fresh start. However, the law obviously weakens incentives not to default, which can result in higher interest rates that in turn reduce intertemporal insurance. Because of this tradeoff, it is unclear how long is the optimal length of time that an adverse event remains on an individual’s credit record. In this paper we assess the welfare consequences of varying the length of time that adverse events can be on one’s credit record. We calibrate the model to US data where the exclusion parameter is set to be 10 years on average. Then we run a counterfactual to find the length that maximizes ex-post economywide welfare using a consumption equivalent measure. The model predicts agents prefer to remove the bankruptcy flag after one year, though the gains are small.     

Some welfare implications of birth,death, and migration

The welfare effects of population change are analyzed using gains-from-trade ideas. This framework does not give rise to the pessimism of Malthusianism and optimal population theory. Overpopulation becomes a consequence of market failures impinging on fertility or migration choice, not the existence of fixed factors. The approach enables a generalization of single-good, single-factor models of population growth into settings where induced capital flows arise due to demographic change.     

An analysis of entry-then-privatization model: welfare and policy implications

This study formulates a new model of mixed oligopolies in free entry markets. A state-owned public enterprise is established before the game, private enterprises enter the market, and then the government chooses the degree of privatization of the public enterprise (termed the entry-then-privatization model herein). We find that under general demand and cost functions, the timing of privatization does not affect consumer surplus or the output of each private firm, while it does affect the equilibrium degree of privatization, number of entering firms, and output of the public firm. The equilibrium degree of privatization is too high (low) for both domestic and world welfare if private firms are domestic (foreign).     

Entry regulation and social welfare with an integer problem

This paper elaborates on Salop (1979) who showed that the number of firms at free-entry equilibrium is excessive from the viewpoint of social welfare (excess-entry theorem). This paper considers an integer problem of the number of firms entering the market. We find that the excess-entry theorem does not hold true if the marginal production cost is increasing, while it holds true if the marginal production cost is constant. This result warns against the use of the excess-entry theorem for rationalizing entry regulation such as the notorious Japanese Large-Scaled Retail Act restricting the new entry of retailers.     

The nonlinear effect of financial literacy on wealth: evidence from Germany

Empirica - This paper investigates the nonlinearity in the relationship of financial literacy and wealth and addresses the potentially inadequate measurement of financial literacy. Using data from...     

Changes in social welfare and sustainability: Theoretical issues and empirical evidence

We analyze the time derivative of a Ramsey-Koopmans social welfare function (R-K SWF), as an indicator of genuine investment and current change in social welfare (CSW) conditions, when feedback or arbitrary rules are used for selecting policy variables in non-optimizing economies. When policy variables are selected arbitrarily, their accounting prices should determine current CSW in addition to the accounting prices of the economy's assets and genuine investment should be adjusted accordingly. We use our theoretical framework to characterize CSW conditions for non-optimizing economies, based on direct estimation of accounting prices. We use our theoretical model to provide empirical evidence regarding the CSW conditions for the Greek economy.