Bank Earnings Management and Tail Risk during the Financial Crisis

We show that a pattern of earnings management in bank financial statements has little bearing on downside risk during quiet periods, but seems to have a big impact during a financial crisis. Banks demonstrating more aggressive earnings management prior to 2007 exhibit substantially higher stock market risk once the financial crisis begins as measured by the incidence of large weekly stock price “crashes” as well as by the pattern of full‐year returns. Stock price crashes also predict future deterioration in operating performance. Bank regulators may therefore interpret them as early warning signs of impending problems.     

Earnings Announcements and the Components of the Bid-Ask Spread

This study investigates the behavior of the components of the bid-ask spread around earnings announcements. We find that the adverse selection cost component significantly increases surrounding the announcements, while the inventory holding and order processing components significantly decline during the same periods. Our results suggest that the directional change in the total bid-ask spread depends on the relative magnitudes of the changes in these three components. Specifically, the decreases in inventory holding costs and order processing costs imply that earnings announcements may have an insignificant impact on the total bid-ask spread, even when they result in increased information asymmetry.     

TAX REFORM

After brief individual presentations, panelists discuss among themselves and with the audience a broad spectrum of issues regarding various taxes and tax reform proposals. The discussion includes such issues as privatizing Social Security and Medicare, eliminating income tax withholding, and the merits and demerits of income taxes, consumption taxes, value added taxes, sales taxes, and taxes on resources that have an inelastic supply. One panelist relates his recent experiences using his tools as an economist to deal with tax and related issues as a current member of the Canadian Parliament. Another cites practical problems of implementing tax reform from his long experience advising governments, especially in Latin America. A major focus of the exchange of views is on public choice problems involved in passing and implementing a so-called flat tax. However, the discussion also deals with economic efficiency and equity considerations and with nearly all other types of taxes. The discussion includes not only the impact on the country within which tax reform occurs, but international implications, as well.     

Does knowing the volatility states affect the market risk premium?

Mayfield (J Financ Econ 73:465–496, 2004) has devised a method for estimating the market risk premium, based on a variant of Merton’s ICAPM wherein volatility is specified as a two-state Markov process. In this study, we assess Mayfield’s key assumption that investors know the current volatility state with certainty, via empirical testing of the assumption of exogenous Markov-switching in Mayfield’s model. We detect strong evidence of endogenous switching. This indicates that investors infer the current volatility state, as opposed to simply observing it. We also find that the risk premium estimates are affected by the switching type.     

Affirmative Action in a Changing Legal and Economic Environment

This study examines the effects of changing legal and economic pressure on a large manufacturing firm in the 1980s and shows that the firm was able to pursue two potentially contradictory goals: equal employment opportunity compliance and product market competitiveness. The firm's institutionalized affirmative action commitment and diverse local labor market shaped innovations in production and employment practices in a way that encouraged meeting both goals rather than trading off one for the other.     

Lemon Laws: Intent,Experience, and a Pro-Consumer Model

Under deregulation, public policies regarding consumer rights and product warranties have shifted. This paper reviews the rationale for lemon laws, state legislation intended to help consumers resolve new car performance, and repair problems. It then compares consumers’ redress under these laws to redress under other remedies. Experience with Vermont's legislation, one of the most aggressive lemon laws, is reviewed and analyzed in detail as the basis for formulating public policy recommendations in this area.