Core competencies,matching and the structure of foreign direct investment

We develop a matching model of foreign direct investment to study how multinational firms choose between greenfield investment, acquisitions and joint ownership. Firms must invest in a continuum of tasks to bring a product to market. Each firm possesses a core competency in the task space, but the firms are otherwise identical. For acquisitions and joint ownership, a multinational enterprise (MNE) must match with a local partner that may provide complementary expertise within the task space. However, under joint ownership, investment in tasks is shared by multiple owners and, hence, is subject to a holdup problem that varies with contract intensity. In equilibrium, ex ante identical multinationals enter the local matching market, and, ex post, three different types of heterogeneous firms arise. Specifically, the worst matches are forgone and the MNEs invest greenfield; the middle matches operate under joint ownership; and the best matches integrate via full acquisition. We link the firm‐level model to cross‐country and industry predictions and find that a greater share of full acquisitions occur between more proximate markets, in hosts with greater revenue potential and within contract‐intensive industries. Using data on partial and full acquisitions across industries and countries, we find robust support for these predictions.     

A Model of Product Recalls with Asymmetric Information

This paper presents a model of involuntary product recall in which a firm has private information on its ability to produce safety. The ex post regulation of safety is motivated through a parametric imperfection in the product liability system which results in a firm under internalizing expected liability expenses. We treat the problem as one of mechanism design, where the regulator designs a recall procedure. This framework illuminates the point that recall is an interesting blend of ex ante and ex post regulation. We characterize a perfect recall procedure, contrast this with real world imperfect procedures, and study the interaction of the recall and the liability systems. Further, we analyze the interaction between optimal recall policy and product market structure.     

Reproductive health,fairness, and optimal policies

We consider an overlapping generations economy in which agents differ through their ability to procreate. Ex‐ante infertile households may incur health expenditure to increase their chances of parenthood. This health heterogeneity generates welfare inequalities that deserve to be ruled out. We explore three different criteria of social evaluation in the long‐run: the utilitarian approach, the ex‐ante egalitarian criterion and the ex‐post egalitarian one. We propose a set of economic instruments to decentralize each solution. To correct for the externalities and health inequalities, both a preventive (a taxation of capital) and a redistributive policy are required. We show that a more egalitarian allocation is associated with higher productive investment but reduced health expenditure and thus, lower population growth.     

Use it or lose it

We examine the optimality of budget policies imposed by a funding authority on a bureaucrat who operates under a fixed budget. In particular, we study a “use‐it‐or‐lose‐it” (UILI) policy under which the bureaucrat has to return any unspent budget without being able to “roll over” any part to the next period. Instead of returning the unspent budget, the bureaucrat can go on a spending spree and engage in policy drift, which is inversely related to his motivation. The bureaucrat's motivation represents how well matched he is with the bureaucracy's mission. We show that a UILI policy is complementary to motivation as it has stronger ex ante positive incentive effects on more motivated bureaucrats. Such ex ante positive effects can overcome the ex post inefficiency of the policy and make a UILI policy optimal when the bureaucrat is well matched with the bureaucracy's mission or when its budget is large.     

Large‐Scale Risks and Technological Change: What About Limited Liability?

We consider a firm under strict liability that must choose between two risky technologies, one being safer but costlier than the other one. The total potential level of damage increases with the level of activity. We show that, under limited liability, technological change is welfare‐improving and leads to full risk internalization when the firms are sufficiently capitalized. Nevertheless, the percentage of firms adopting the safer technology and full risk internalization is higher under unlimited liability than under limited liability. We show how an adequate tax policy increases this percentage. We also determine the characteristics of a second‐best tax policy.     

Tullock's Puzzle in Pay‐and‐Play Lobbying

We explain Tullock's puzzle of small payments from special interests to policy‐makers by the hold‐up problem between the two parties. We construct a simple lobbying environment where an uninformed policy‐maker is a price‐setter who sells access to two opposed and privately informed lobbyists. The key equilibrium property is “the curse of the ex ante favored lobbyist”; the lobbyist proposing a project with the higher expected public value ends up worse off than the lobbyist proposing a project with the lower expected public value. In the absence of contribution caps, the ex ante favored lobbyist strategically devalues her project, and the resulting competitive devaluations destroy private values, revenues, as well as correlated public values. Ex ante, the policy‐maker benefits from a binding contribution cap protects the ex ante favored lobbyist, eliminates competitive devaluations, and thus remedies the hold‐up problem.     

Increasing consumer well-being: risk as potential driver of happiness

This article investigates the relation between risk and individual well-being. We propose a theoretical model of happiness that makes a distinction between ex ante evaluations of happiness and ex post assessments. The main assumptions of the model are tested through three studies based on anchoring vignettes. We show that, even if, ex ante, consumers fear high risk and do not associate it to a high level of happiness, their ex post evaluation of well-being is generally higher when identical consequences result from a high-risk situation than from a low-risk situation. Control over risk-taking reinforces the gap between ex ante and ex post measures of happiness. Thus, our article provides empirical evidence about a positive relation between risk and individual well-being, suggesting that risky experiences have the potential to increase consumer well-being.     

THE WELFARE IMPACT OF REDUCING CHOICE IN MEDICARE PART D: A COMPARISON OF TWO REGULATION STRATEGIES*

Motivated by widely publicized concerns that there are “too many” plans, we structurally estimate (and validate) an equilibrium model of the Medicare Part D market to study the welfare impacts of two feasible, similar‐sized approaches for reducing choice. One reduces the maximum number of firm offerings regionally; the other removes plans providing donut hole coverage—consumers’ most valued dimension. We find welfare losses are far smaller when coupled with elimination of a dimension of differentiation. We illustrate our findings’ relevance under current health care reforms, and consider the merits of instead imposing ex ante competition for entry.     

Competition and confidentiality: Signaling quality in a duopoly when there is universal private information

We model non-cooperative signaling by two firms that compete over a continuum of consumers, assuming each consumer has private information about the intensity of her preferences for the firms' respective products and each firm has private information about its own product's quality. We characterize a symmetric separating equilibrium in which each firm's price reveals its respective product quality. We show that the equilibrium prices, the difference between those prices, the associated outputs, and profits are all increasing functions of the ex ante probability of high safety. If horizontal product differentiation is sufficiently great then equilibrium prices and profits are higher under incomplete information about quality than if quality were commonly known. Thus, while signaling imposes a distortionary loss on a monopolist using price to signal quality, duopolists may benefit from the distortion as it can reduce competition. Finally, average quality is lower since signaling quality redistributes demand towards low-quality firms.     

LIABILITY AND ANTIFRAUD INVESTMENT IN FINTECH RETAIL PAYMENT SERVICES

Motivated by recently introduced retail payment schemes using information technology, often called “FinTech,” we examine the effect of fraud liability regime on antifraud investment in a FinTech payment scheme, where the front‐end and back‐end services are vertically separated. In an environment where a FinTech payment service provider (FPP) covers only the front‐end services, delegating the back‐end services to an integrated payment service provider (IPP) such as banks and credit card companies, we show that under the IPP liability regime, the IPP invests more in general, while the respective investment depends on the range of the access fee under the FPP liability regime. Specifically, given a sufficiently great loss from accident, if the access fee is in a certain range, the FPP liability regime is superior in terms of antifraud investment. When the FPP makes its indirect revenue from its user base in addition to the revenue from user fees, we can observe greater antifraud investment under both liability regimes, but the overall decrease in fraud probability is higher under the IPP liability regime. Our results suggest that it might be desirable to induce FPP liability regime, which might necessitate regulating the access fee to achieve such an outcome. (JEL G23, G28, D43, L22)     

RETAIL PRICE REGULATION AND THE OPTION TO DELAY

ABSTRACT ** :  This paper examines a two-period model of an investment decision in a network industry characterized by demand uncertainty, economies of scale and sunk costs. In the absence of regulation we identify the market conditions under which a monopolist decides to invest early as well as the underlying overall welfare output. In a regulated environment, we consider a monopolist who faces no downstream (final good) competition but is subject to retail price regulation. We identify the welfare-maximizing regulated prices when the unregulated market outcome is set as the benchmark. We show that if the regulator can commit to ex post regulation – that is, regulated prices that are contingent to future demand realization – then regulated prices that allow the firm to recover its total costs of production are welfare-maximizing. Thus, under ex post price regulation there is no need to compensate the regulated firm for the option to delay that it foregoes when investing today. We argue, however, that regulators cannot make this type of commitment and, therefore, price regulation is often ex ante – that is, regulated prices are not contingent to future demand. We show that the optimal ex ante regulation, and the extent to which regulated prices need to incorporate an option to delay, depend on the nature of demand uncertainty.     

EX POST VERSUS EX ANTE MEASURES OF THE USER COST OF CAPITAL

Should we use ex post or ex ante measures of user costs to calculate the contribution of capital in a growth accounting exercise? The answer, based on a simple model of temporary equilibrium, is that ex post is better in theory. In practice researchers usually calculate ex post user costs by assuming that the rate of return is equalized across assets. But this is only true if expectations are correct. In general, the ex post rate of return differs between assets, even though ex ante it is the same. I propose a hybrid method. The index of capital services is estimated using ex ante weights; the contribution of capital is the growth of this index multiplied by the ex post income share of capital. I show that this method is theoretically correct if the production function is CES. I compare the ex post, ex ante and hybrid methods using data for 31 U.K. industries from 1970 to 2000.     

DYNAMIC INCONSISTENCY IN THE PUBLIC SUPPLY OF LIQUIDITY*

This paper analyses the optimal control of government securities. The special role of government securities under aggregate macroeconomic shocks results from the government's ability to collect taxes. Liquidity is loosened by an increase in the supply of government securities. The policy‐maker, however, faces a trade‐off between an ex ante incentive for entrepreneurs to expend effort and an ex post efficient utilization of investment opportunities.     

Niche products, generic products, and consumer search

We endogenize product design in a model of sequential search with random firm-consumer match value à la Wolinsky (Quart J Econ 96:493–511, 1986) and Anderson and Renault (RAND J Econ 30:719–735, 1999). We focus on a product design choice by which a firm can control the dispersion of consumer valuations for its product; we interpret low-dispersion products as “generic” and high-dispersion products as “nichy.” Equilibrium product design depends on a feedback loop: when reservation utility is high (low), the marginal customer’s match improves (worsens) with more nichy products, encouraging high (low) differentiation by firms. In turn, when firms offer more nichy products, this induces more intense search; depending on search costs, this could raise or lower consumers’ reservation utility. Remarkably, when the match distribution satisfies a hazard rate condition, firm and consumer interests align: equilibrium product design always adjusts to the level that maximizes utility. When this condition is not met, either multiple equilibria (one nichy, the other generic) or one asymmetric equilibrium (generic and nichy firms coexist) can arise; we argue that the former is more likely for common specifications of consumer preferences.     

Regulation,Local Monopolies and Spatial Competition

Many regulated industries involve an oligopoly market structure. We examine optimal incentive regulation for a duopoly model of spatial competition when firms have private cost information. Market structure is endogenous as regulation determines market segments for firms and output distribution across consumers in each firm's market. By varying the assignment of consumers to firms, a relatively more efficient firm can be rewarded with a larger market, thus reducing quantity incentive distortions. We derive the optimal policy, assess the impact of asymmetric information relative to full information, and examine extensions to allow for ex ante asymmetries in firm structure.     

Modelling information and hedging: The exporting firm

The paper examines the economic role of modelling information on the decision problem of an exporting firm under exchange rate risk and hedging. Information is described in terms of market transparency, i.e., a publicly observable signal conveys more information about the random foreign exchange rate. We analyze the interaction between market transparency and the ex ante expected utility of the exporting firm. It is shown that more transparency on the foreign exchange market may result in higher or lower export production.     

Separation of Regulatory Powers When Contracts Are Incomplete

The investment of a regulated firm affects the service/good provided on many dimensions. Should an integrated regulator take care of them all? Or is it better to have separate regulators responsible for them? We analyze the effect of the separation of regulatory powers on the regulated firm's ex ante incentive to invest in a “cooperative” innovation. The effects of the innovation are not verifiable and the cost of investing is sunk, hence, there is a problem of hold‐up. We find that when the innovation produces opposite effects the ex ante firm's incentive to invest is larger in the case of separation than in the case of integrated regulation. We also stress the risk of over‐investment that the separation of regulatory powers may induce. We maintain that along with classical incentive regulation—which mainly provides incentives for the firm to be efficient—the separation of regulatory powers may play a role in providing an incentive for cooperative innovations.     

Economic Integration,Monopoly Power and Productivity Growth without Scale Effects

This paper considers how monopoly power affects the relationship between economic integration and economic growth that is not biased by a scale effect. In a two‐country model of trade, productivity growth is generated by firm‐level investment in process innovation, and the location of economic activity is determined by relative market size, trade costs and imperfect knowledge diffusion. Equilibrium features the partial concentration of manufacturing and the full concentration of innovation in the larger country. Increased economic integration raises the concentration of manufacturing in the larger country, and when monopoly power is strong, leads to decreased product variety, accelerated productivity growth and greater national welfare. With weak monopoly power, however, it raises product variety and dampens productivity growth, but may benefit or hurt welfare.     

Progressive Taxation, Tax Exemption, and Irreversible Investment under Uncertainty

We analyze the impact of progressive taxation on irreversible investment under uncertainty. We show that if tax exemption is lower than sunk cost, higher tax rate will decelerate optimal investment by increasing the optimal investment threshold, while if tax exemption exceeds sunk cost, three different regimes arise. For “small” volatilities the optimal investment threshold is a positive function of volatility, but independent of tax rate. For “medium” volatilities it is independent of both tax rate and volatility. Finally, for “high” volatilities the optimal investment threshold depends positively on volatility, but negatively on tax rate so that we have “tax paradox”.     

VAPORWARE*

It is a widely adopted practice for firms to announce new products well in advance of actual market availability, especially in the computer industry. In this article, a firm makes pre‐announcements on its product, which are “cheap talk.” We develop a reputation model of “vaporware” where the product pre‐announcement can partially convey information about the product's quality. We discuss its implications for social welfare.