Insuring Banks Against Liquidity Shocks: The Role of Deposit Insurance and Lending of Last Resort

Abstract.  It has long been recognized that banks' simultaneous provision of monitoring and liquidity services is advantageous but leaves them susceptible to liquidity shocks that may culminate in a system failure. Because a system failure is costly, this provides a rationale for adopting arrangements, including a lender of last resort and deposit insurance (DI), to insure banks against liquidity shocks. These arrangements have proven themselves very successful, but they have also been the source of problems. Researchers have identified some of the main sources of these problems and have suggested ways to improve the design of these arrangements, but there are still many issues that remain unaddressed. This paper reviews the literature on the two arrangements that most countries have adopted to insure banks against liquidity shocks, a lender of last resort and DI, and compares the design of these arrangements across countries. The paper ends with a brief summary of the key lessons learned about the design of these arrangements and the issues related to them that remain unaddressed.     

Hysteresis and sluggishness in Portuguese unemployment, 1977–88

The phenomenon of unemployment persistence led to the development of alternative theories of unemployment. Among these the ‘hysteresis’ concept by Blanchard and Summers (1987) received a wide interest. Based on this notion we developed a generalized model that nests Blanchards and Summers' theory. Using this framework we conducted an empirical investigation for the Portuguese labour market (1977–88). The results obtained point towards the existence of labour demand sluggishness, wage inertia and unemployment hysteresis. The model also suggests the existence of a rather inelastic labour demand curve.     

Applications of Fuzzy Regression in Actuarial Analysis

In this article, we propose several applications of fuzzy regression techniques for actuarial problems. Our main analysis is motivated, on the one hand, by the fact that several articles in the financial and actuarial literature suggest using fuzzy numbers to model interest rate uncertainty but do not explain how to quantify these rates with fuzzy numbers. Likewise, actuarial literature has recently focused some of its attention in analyzing the Term Structure of Interest Rates (TSIR) because this is a key instrument for pricing insurance contracts. With these two ideas in mind, we show that fuzzy regression is suitable for adjusting the TSIR and discuss how to apply a fuzzy TSIR when pricing life insurance contracts and property‐liability policies. Finally, we reflect on other actuarial applications of fuzzy regression and develop with this technique the London Chain Ladder Method for obtaining Incurred But Not Reported Reserves.     

Debt and equity as optimal contracts

This paper shows the simultaneous optimally of debt and equity contracts in a principal-agent model. The agent (an entrepreneur) has an investment project but does not have the necessary funds to finance it. There is moral hazard in the model, generated by the dependence of the project's expected return on the (unobservable) agent's effort. Key to the optimality of these financial instruments is the nonassignable rent produced by the project and captured by the entrepreneur when the investment is successful.     

Inequality and endogenous trade policy outcomes

An enduring puzzle in international economics is why trade interventions are biased in favor of import-competing rather than export sectors and therefore restrict trade. In this paper, we show that if the government's objective reflects a concern for inequality then trade policy generally exhibits an anti-trade bias. Importantly, under neutral assumptions, the mechanism that we analyze generates the anti-trade bias independently of whether factors are specific or mobile across sectors. The mechanism also generates an anti-trade bias between large countries even after they sign reciprocal trade agreements that eliminate any terms-of-trade motivation for the use of trade protection.     

Processes with volatility-induced stationarity: an application for interest rates

In this paper we propose a refinement of the existing definition of volatility-induced stationarity that allows us to distinguish between processes with drift and diffusion induced stationarity and processes with pure volatility-induced stationarity. We also propose a classification of stationary processes with volatility-induced stationarity according to the volatility that is needed to inject stationarity. Processes with volatility-induced stationarity are potentially applicable to interest rate time-series since, as has been acknowledged, mean-reversion effects occur mainly in periods of high volatility. As such, we provide evidence that the logarithm of the Fed funds rate can be modelled as a local martingale with volatility-induced stationarity.     

Tariffs versus VAT in the presence of heterogeneous firms and an informal sector

The debate over the use of tariffs or value added taxes in developing countries has focused on the difficulty of collecting VAT from the informal sector. This paper contributes by considering this issue with heterogeneous firms and endogenous entry. This yields two results. First, a cut in the tariff reduces the size of the informal sector. Second, the imposition of VAT need not increase the size of the informal sector. Turning to simulation results, we find that switching from a tariff to a revenue-neutral VAT increases welfare, in part because of the selection effect generated by heterogeneous firms.     

American options and callable bonds under stochastic interest rates and endogenous bankruptcy

A new characterization of the American-style option is proposed under a very general multifactor Markovian and diffusion framework. The efficiency of the proposed pricing solutions is shown to depend only on the use of a viable valuation method for the corresponding European-style option and for the transition density of the model’s state variables. Under a Gauss-Markov stochastic interest rates setup, these new American option pricing solutions are shown to offer a much better accuracy-efficiency trade-off than the approximations already available in the literature. This result is also used to price callable corporate bonds under an endogenous bankruptcy structural approach, by decomposing the option to call or default into a European put on the firm value plus two early exercise premium components.     

Stock Market Mean Reversion and the Optimal Equity Allocation of a Long-Lived Investor

This paper solves numerically the intertemporalconsumption and portfolio choiceproblem of an infinitely-lived investor whofaces a time-varying equity premium.The solutions we obtain are very similarto the approximate analytical solutionsof Campbell and Viceira (1999), except atthe upper extreme of the state spacewhere both the numerical consumption andportfolio rules flatten out.We also consider a constrained version ofthe problem in which the investor facesborrowing and short-sales restrictions.These constraints bind when the equitypremium moves away from its mean in eitherdirection, and are particularly severe forrisk-tolerant investors. The constraints havesubstantial effects on optimalconsumption, but much more modest effects onoptimal portfolio choice in theregion of the state space where they are notbinding.     

The role of sharing in the circulation of knowledge

One of the points stressed in ‘A new paradigm in the organization of knowledge’, Futures, 26, 1994, pages 781–786, was the determinant role of sharing in the emergence and configuration of the paradigm of the immaterial. We resume the elements suggested then and develop their analysis in three stages: first, by characterizing the operational singularity of sharing; second, by considering its cognitive and disciplinary incidence; and finally, by pointing out its theoretical consequences, namely in what concerns the thematic of rationality.