Capital Flows During Quantitative Easing: Experiences of Developing Countries

A potentially important side effect of quantitative easing (QE) by the United States Federal Reserve was the expansion of capital flows into developing countries. As a result, there were widespread concerns that reversing QE might trigger financial instability in those countries. The central objective of our article is to empirically investigate this important issue by (1) examining the effect of QE on capital flows into developing Asia and (2) identifying the most significant factors that influence the effect of a QE taper tantrum on exchange rate instability. We find that capital flows into developing countries during QE were at least comparable to those before the global financial crisis. We also find that capital flows during QE and the symptoms of those capital flows such as high inflation, credit expansion, and the deterioration of the current-account balance accounted for much of the destabilizing effect of a QE taper tantrum. While there is no evidence that macroprudential policies directly reduce the destabilizing effect, they can nevertheless be useful preemptive measures.     

Tempered stable structural model in pricing credit spread and credit default swap

In this paper, we explore the features of a structural credit risk model wherein the firm value is driven by normal tempered stable (NTS) process belonging to the larger class of Lévy processes. For the purpose of comparability, the calibration to the term structure of a corporate bond credit spread is conducted under both NTS structural model and Merton structural model. We find that NTS structural model provides better fit for all credit ratings than Merton structural model. However, it is noticed that probabilities of default derived from the calibration of the term structure of a bond credit spread might be overestimated since the bond credit spread could contain non-default components such as illiquidity risk or asymmetric tax treatment. Hence, considering CDS spread as a reflection of the pure credit risk for the reference entity, we calibrate it in order to obtain more reasonable probability of default and obtain valid results in calibration of the market CDS spread with NTS structural model.     

Disappearing internal capital markets: Evidence from diversified business groups in Korea

This paper examines how the onset of a financial crisis affects the operation of internal capital markets among firms within a diversified business group. We find that active internal capital markets within Korean business groups (chaebols) attenuate the financial constraints of the group-affiliated firms, allowing them to make efficient capital allocations during the early 1990s. However, these markets barely function after the financial crisis of 1997. Instead, we observe public debt markets serving as a substitute for internal capital markets. Our results suggest that chaebol firms’ coordinated attempts to achieve healthier financial structures in the wake of the crisis have taken place at the expense of investment efficiency.     

Financial Liberalization and Corporate Investments: Evidence from Korean Firm Data*

This paper examines whether financial liberalization procedures introduced in Korea in the early 1990s succeeded in relaxing financing constraints on firms. Because external funds are more costly than internal funds in an imperfect capital market, corporate investments depend on the availability of internal funds. As financial liberalization mitigates constraints on firms, the sensitivity of investments to cash flow can be reduced. Using panel data on Korean firms, we found that cash‐flow effects on investment spending decreased drastically during the liberalization period. In particular, small, non‐chaebol and established firms that were severely constrained gained most from liberalization. Chaebol firms appeared to lose preferential access to credit after liberalization.     

Do Nonprofit Hospitals Exercise Market Power?

Several theories of nonprofit hospitals behavior predict that nonprofit hospitals behave in the consumer interest and thus do not exercise market power. If these theories are correct, then antitrust enforcement of hospital mergers should be restricted only to those markets in which a nonprofit hospital cannot offset anticompetitive behavior by for-profit hospitals. In this paper, we examine the relationship between price and market concentration among nonprofit hospitals in California in 1993. We find that nonprofit hospitals set higher prices in more concentrated markets. This result suggests that antitrust enforcement should challenge those mergers of nonprofit hospitals that create market power without creating offsetting efficiencies.     

Motivational antecedents of leader-member exchange differentiation: Evidence from South Korea

Researchers have focused on the group-level leader-member exchange (LMX) differentiation in order to develop a more comprehensive view of within-group variability of LMX. Although the group-level LMX differentiation has been thought to have significant impacts on both individual and group outcomes, we know little about what makes leaders have differential relationships with their members. Drawing on both motives theory and interpersonal interaction theory, we examined the antecedents of LMX differentiation in a sample of 94 group leaders and 553 members of design companies in South Korea. Results indicated that whereas leaders high in affiliation motives had less differential relationships, leaders high in power motives had more differential relationships. We also found that the negative relationship between leaders’ affiliation motives and LMX differentiation was stronger when members’ affiliation and power motives were higher. Theoretical and practical implications are discussed.     

The Squam Lake Report: Fixing the Financial System*

In these excerpts from The Squam Lake Report, fifteen distinguished economists analyze where the global financial system failed, and how such failures might be prevented (or at least their damage better contained) in the future. Although there were many contributing factors to the crisis—including “agency” problems throughout the financial system and a bankruptcy code poorly suited for reorganizing financial firms—at the core of the problem is a potential conflict between the risk-taking proclivity of financial institutions and the interests of the economy at large that must be managed at least in part through more effective regulation. The Squam Lake Report provides a nonpartisan plan to transform the regulation of financial markets in ways designed to limit systemic risk while preserving—to the extent possible and prudent—the economies of scale and scope that justify the existence of today's large financial institutions. To reduce the risks that large banks will fail, the authors call for higher capital requirements based on more effective assessments of the risks of bank assets and liabilities, as well as a new systemic regulator that should be part of the central bank. To reduce the costs of failure when it occurs, the authors propose that banks be required to create “living wills” laying out their plan to sell assets or shut down operations in the event of financial trouble. As part of that plan, regulators are urged to “aggressively encourage” banks to issue “contingent” debt capital securities that convert into equity.     

Warranties as a device to extract rent from low‐risk users of a product

We develop a simple model that provides a new rationale for why a monopolist should bundle its product with a warranty even when all parties are risk neutral. In our model, a risk‐neutral monopolist faces two types of risk‐neutral consumers—low‐risk users that are unlikely to cause product failure and high‐risk users that are more likely to cause product failure. We find that when the firm fails to provide a warranty, a low‐risk user acquires a strictly positive rent by pretending to be a high‐risk user and receiving a price discount. By imposing a warranty, however, the monopolist can increase the price to high‐risk users, which in turn removes the incentive for a low‐risk user to pretend to be a high‐risk user, and the firm successfully extracts rent from the low‐risk user. Copyright © 2007 John Wiley & Sons, Ltd.     

International environmental agreements under uncertainty

Negotiations toward international environmental agreements takeplace under uncertainty. We address the process of coalitionformation in this context. Coalitions are more likely to formamong countries which are similar. Since countries are morelikely to be facing similar conditions ex ante rather than expost, (i.e. before the resolution of uncertainty rather thanafter it), the possibility of coalition formation is enhancedthe sooner the negotiations take place. The social value ofbetter scientific information may well be negative in such circumstances.