Exchange Rate Crises and Fiscal Solvency

This paper combines insights from generation one currency crisis models and the fiscal theory of the price level (FTPL) to create a dynamic FTPL model of currency crises. The initial fixed‐exchange‐rate policy entails risks due to an upper bound on government debt and stochastic surplus shocks. Agents refuse to lend into a position for which the value of debt exceeds the present value of expected future surpluses. Policy switching, usually combined with currency depreciation, restores fiscal solvency and lending. This model can explain a wide variety of crises, including those involving sovereign default. We illustrate by explaining the crisis in Argentina (2001).     

INVESTING IN INSTITUTIONS

Robust institutional change is difficult to achieve. However, it is more difficult for some countries than others. We use data on 69 countries between 1870 and 2000 to show that political instability does not always affect growth outcomes. We then develop a simple model to explain this fact in which the likelihood that “good” institutions are abandoned during periods of political uncertainty depends on the opportunity cost of doing so. We operationalize our model by using contract intensive money as a proxy for this initial investment in growth‐enhancing institutions. Cross‐sectional and panel growth regressions support the model's predictions.     

Super‐Majorites,One‐Dimensional Policies,and Social Surplus

In the setting of a one‐dimensional legislative bargaining game, we characterize qualified majority rules maximizing social surplus, that is, the sum of individual benefits. The simple majority rule maximizes social surplus when individual utilities are tent‐shaped. When the utilities are strictly concave, the surplus maximizing rule is a strict supermajority.     

WHY REWARDS ARE BETTER THAN SANCTIONS

Sanctions are said to fail because of the “rally‐round‐the‐flag effect”. This is the main reason why many advocate the use of positive incentives as a viable alternative. Not only do rewards provoke no defensive reaction, but they may elicit a rally in support of compliance – a “fifth‐column effect.” Yet, positive incentives are vulnerable to extortion – doing wrong in the hope of obtaining larger rewards. As a result, many conjecture that sanction threats and promises of reward are most efficient when used simultaneously. We put this conjecture to a test, staging a formal confrontation of the two forms of incentives. Our model pits a sanctioner and a target in a game allowing for the possibility of rally‐round‐the‐flag, fifth‐column, and extortion effects. The game yields unambiguous results: under no circumstances should a sanctioner prefer sanction threats to reward promises. This result holds despite the risk of extortion, a risk that proves to be less of a drawback than the rally round the flag.     

THE DEADWEIGHT LOSS OF COUPON REMEDIES FOR PRICE OVERCHARGES*

Consumers injured by price overcharges often are awarded coupons that can be used for a limited period of time to purchase the good at a price below that which prevails after the overcharge has been eliminated. Coupon remedies cause a deadweight loss by inducing excessive consumption by consumers with relatively low demand during the remedy period. The magnitude of the loss can be comparable to that caused by the price overcharge. As demand variability goes to zero, the deadweight loss from coupon remedies goes to zero. Eliminating the expiration date for the use of coupons does not eliminate the loss.     

Noisy Accounting Earnings Signals and Earnings Response Coefficients: The Case of Foreign Currency Accounting*

Abstract. This paper extends the growing literature on factors affecting cross-sectional and intertemporal variation in earnings response coefficients. It tests the empirical implications of recent theoretical work by Choi and Salamon (1989) and Holthausen and Verrecchia (1988), who model the degree of price adjustment associated with earnings announcements as a function of the amount of noise or garbling in the accounting earnings signal relative to valuation-relevant cash flows or dividends. The particular earnings measurements considered relate to U.S. multinational companies and to the differences in income determination under Statement of Financial Accounting Standards (SFAS) No. 8 and SFAS No. 52. The study finds a modestly smaller relative price adjustment for a given amount of unexpected earnings for multinational firms than for nonmultinationals during the SFAS No. 8 period. This finding is consistent with multinationals producing “noisier” earnings signals during this time period. However, several indirect measures suggest that there was greater prior probability uncertainty associated with the future cash flows or dividends of the nonmultinational sample. Accordingly, this cannot be ruled out as a competing explanation for the observed differences in the market's response to earnings signals during the SFAS No. 8 period. Following the implementation of SFAS No. 52, the earnings response coefficient increased substantively for firms whose accounting for translation gains or losses was most affected by this standard. These results suggest that the earnings measurements produced under SFAS No. 52 were perceived by market participants to be of higher quality (less noisy) than those produced under SFAS No. 8. The framework and analysis in this paper hold promise for investigating the relative informativeness of earnings signals produced under alternative income determination rules. Résumé. Les auteurs apportent leur contribution personnelle aux publications de plus en plus nombreuses portant sur les facteurs qui touchent la variation transversale et temporelle des coefficients de réaction aux bénéfices. Ils vérifient les conséquences empiriques des travaux théoriques récents de Choi et Salamon (1989) et de Holthausen et Verrecchia (1988), qui modélisent le degré d'ajustement du cours des valeurs associé aux annonces de bénéfices comme étant fonction de la quantité de parasites ou de l'importance du brouillage dans le signal que constituent des bénéfices comptables par rapport aux flux monétaires ou aux dividendes pertinents à l'évaluation. Les mesures particulières des bénéfices auxquelles s'intéressent les auteurs sont celles de multinationales des États-Unis et font état de la variation des bénéfices, selon qu'ils sont évalués conformément au SFAS no 8 ou au SFAS no 52. Pour un montant donné de bénéfices inattendus, les auteurs constatent un ajustement relatif du cours des valeurs légèrement plus faible dans le cas des multinationales que dans celui des entreprises d'envergure plus modeste, au cours de la période d'application du SFAS no 8. Cette constatation est conforme à l'hypothèse voulant que les multinationales aient produit des indicateurs de bénéfices plus « brouillés » au cours de cette période. Toutefois, plusieurs mesures indirectes donnent à penser qu'il existait une incertitude plus grande quant à la probabilité a priori des flux monétaires ou des dividendes futurs dans l'échantillon des entreprises d'envergure plus modeste. Les auteurs ne peuvent donc écarter cette hypothèse à titre d'explication concurrente des différences observées dans la réaction du marché aux indicateurs de bénéfices, au cours de la période d'application du SFAS no 8. À la suite de l'instauration du SFAS no 52, le coefficient de réaction aux bénéfices a sensiblement augmenté dans le cas des entreprises dont la méthode comptable relative à la conversion des gains et des pertes était davantage touchée par cette norme. Ces résultats laissent croire que les mesures des bénéfices conformes au SFAS no 52 ont été perçues par les intéressés comme étant de plus grande qualité (c'est-à-dire moins brouillées) que les mesures conformes au SFAS no 8. Le cadre de référence et l'analyse contenus dans cet article sont prometteurs pour l'analyse de la qualité relative de l'information livrée par les indicateurs de bénéfices conformes à d'autres règles d'évaluation des bénéfices.