Ratings assignments: Lessons from international banks

This paper estimates ordered logit models for bank ratings which include a country index to capture country-specific variation. The empirical findings support the hypothesis that the individual international bank ratings assigned by Fitch Ratings are underpinned by fundamental quantitative financial analyses. Also, there is strong evidence of a country effect. Our model is shown to provide accurate predictions of bank ratings for the period prior to the 2007–2008 banking crisis based upon publicly available information. However, our results also suggest that quantitative models are unlikely to predict ratings with complete accuracy. Furthermore, we find that both quantitative models and rating agencies are likely to produce highly inaccurate predictions of ratings during periods of financial instability.     

Self-Annuitization and Ruin in Retirement

Abstract

At retirement, most individuals face a choice between voluntary annuitization and discretionary management of assets with systematic withdrawals for consumption purposes. Annuitization–buying a life annuity from an insurance company–assures a lifelong consumption stream that cannot be outlived, but it is at the expense of a complete loss of liquidity. On the other hand, discretionary management and consumption from assets–self-annuitization–preserves flexibility but with the distinct risk that a constant standard of living will not be maintainable.

In this paper we compute the lifetime and eventual probability of ruin (PoR) for an individual who wishes to consume a fixed periodic amount–a self-constructed annuity–from an initial endowment invested in a portfolio earning a stochastic (lognormal) rate of return. The lifetime PoR is the probability that net wealth will hit zero prior to a stochastic date of death. The eventual PoR is the probability that net wealth will ever hit zero for an infinitely lived individual.

We demonstrate that the probability of ruin can be represented as the probability that the stochastic present value (SPV) of consumption is greater than the initial investable wealth. The lifetime and eventual probabilities of ruin are then obtained by evaluating one minus the cumulative density function of the SPV at the initial wealth level. In that eventual case, we offer a precise analytical solution because the SPV is known to be a reciprocal gamma distribution. For the lifetime case, using the Gompertz law of mortality, we provide two approximations. Both involve “moment matching” techniques that are motivated by results in Arithmetic Asian option pricing theory. We verify the accuracy of these approximations using Monte Carlo simulations. Finally, a numerical case study is provided using Canadian mortality and capital market parameters. It appears that the lifetime probability of ruin–for a consumption rate that is equal to the life annuity payout–is at its lowest with a well-diversified portfolio.     

FINANCIAL STRUCTURE AND INDUSTRIAL STRUCTURE

This paper explores the relationship between financial structure and industrial structure in a panel cointegration framework, using annual data for 29 countries and 28 industrial sectors for the period 1990–2001. The results indicate that financial structure is to a significant extent related to industrial structure in the long run, yet their relationship is partly consistent with the industrial sectors' technological orientation postulated by the theoretical literature. It is in line, however, with the so‐called ‘financial services view’ that stresses the importance of a well developed financial system for growth, irrespective of its structure. In addition, the results indicate that financial structure does not seem to play a role in a sector’s performance relative to GDP.     

Market frictions: A unified model of search costs and switching costs

It is well known that search costs and switching costs can create market power by constraining the ability of consumers to change suppliers. While previous research has examined each cost in isolation, this paper demonstrates the benefits of examining the two types of friction in unison. The paper shows how subtle distinctions between the two costs can provide important differences in their effects upon consumer behaviour, competition and welfare. In addition, the paper also illustrates a simple empirical methodology for estimating separate measures of both costs, while demonstrating a potential bias that can arise if only one cost is considered.     

Book reviews

There is currently a tremendous interest in the development and use of expert systems (ES), and marketing activities have not been immune to such enthusiasm. The degree of enthusiasm expressed is often strongly at variance with reality. The purpose of this paper is to give a moderating view on the role of expert systems in marketing.

The paper begins with a short review of “conventional” management support systems (MSS). This provides a firm base from which to develop a comparison between MSS and ES in terms of the components of these systems. Throughout the comparison, characteristics are highlighted that might at first glance appear to be uniquely characteristic of Expert Systems but are available in “traditional” MSS. The present state of expert systems in business, and particularly in marketing are then discussed. Consideration is then given of the strengths and weaknesses of ES and of the match of these characteristics with marketing activities.     

Choosy Youth or Unwanted Youth? A Survey of Unemployment

This paper examines structure and change in unemployment in Indonesia from the 1970s through to 1996 The analysis focuses on high unemployment rates among urban youth, set in the context of similar problems experienced in other developing countries. It also deals with some of the conceptual and measurement issues. It is concluded that high youth unemployment is partly a queuing phenomenon among middle class families, related to processes of job search and wage structure. But rates of under-utilisation are also high among children of poorer households in the working age papulation Over time, the paper finds considerable stability in the structure of unemployment, with some tendency for overall rates to increase Some rises in unemplnyment were experienced by youth with either low educational status or tertiary qualifications, and by women Explanations include increased minimum wages and a slowdown in manufacturing activity, although changing definations have also played a part.