Are Firms Underleveraged? An Examination of the Effect of Leverage on Default Probabilities

A commonly held view in corporate finance is that firms are less leveraged than they should be, given the potentially large tax benefits of debt. In this paper, I study the effect of firms' leverage on default probabilities as represented by the firms' ratings. Using an instrumental variable approach, I find that the leverage's effect on ratings is three times stronger than it is if the endogeneity of leverage is ignored. This stronger effect results in a higher impact of leverage on the ex ante costs of financial distress, which can offset the current estimates of the tax benefits of debt.     

Inflation Expectations and Risk Premiums in an Arbitrage‐Free Model of Nominal and Real Bond Yields

Differences between yields on comparable‐maturity U.S. Treasury nominal and real debt, the so‐called breakeven inflation (BEI) rates, are widely used indicators of inflation expectations. However, better measures of inflation expectations could be obtained by subtracting inflation risk premiums (IRP) from the BEI rates. We provide such decompositions using an affine arbitrage‐free model of the term structure that captures the pricing of both nominal and real Treasury securities. Our empirical results suggest that long‐term inflation expectations have been well anchored over the past few years, and IRP, although volatile, have been close to zero on average.     

Foreign Entry into Underwriting Services: Evidence from Japan's “Big Bang” Deregulation

We examined the effect of foreign entry into bond market underwriting activity using issue‐level data from the Japanese “Samurai” and euro–yen bond markets. We found that the fees charged by Japanese underwriters were higher on average than those of foreign underwriters, but the difference could be explained by conditioning on issue characteristics. Our results also suggest that bond issuers sorted properly across underwriters, as switching across underwriter nationalities would be expected to result in higher fees. However, the savings enjoyed by firms issuing with foreign underwriters were modest and statistically insignificant, while those of firms issuing with Japanese underwriters were substantial and statistically significant. This result suggests that Japanese underwriters priced their services aggressively over the sample period, perhaps in an effort to retain or gain market share. This conjecture is supported by a matching exercise that examined the liberalization of foreign underwriter access to the Samurai bond market, using euro–yen bond issues as a control. Foreign entry led to a statistically and economically significant decrease of 16 basis points on average in underwriting fees in the Samurai bond market. Overall, our results suggest that the international market for Japanese bond underwriting services was partially segmented by nationality as issuers appear to have preferred habitats, but that liberalization increased overall market competition.     

Testing for the utility maximization hypothesis of consumers using the revealed preference theory

The objective of this paper is to test the utility maximization hypothesis in various Western countries using the non-parametric approach based on the revealed preference theory. The data employed are annual time series covering the period 1964 to 1992 of per capita consumption and prices from Germany, France, the United Kingdom, Spain, Sweden and Canada. The results indicate that all sample countries are consistent with the weak, strong and generalized axioms of the revealed preference theory. This implies that the observed behaviour of these consumers is consistent with the condition of utility maximization or, in other words, that the hypothesis of stability of individual preferences is accepted.     

On-the-Job Training, Immigration Reform, and the True Wages of Native Male Workers

This study measures the Immigration Reform and Control Act's (IRCA) impact on the "true" earnings of native workers. True earnings include observed wages and compensation received in the form of on-the-job training (OJT). Using 1983–1992 NLSY data, we present evidence suggesting IRCA reduced the true wages of male natives most likely to be mistaken as unauthorized. Our findings suggest that Mexican Americans suffered the largest decline in post-IRCA OJT. It appears then that antidiscrimination policies following recent immigration reform have not fully protected some U.S. natives against unintended IRCA-related employment discrimination.     

The Determinants of the Maturity of Corporate Debt Issues

We document the determinants of the term to maturity of 7,369 bonds and notes issued between 1982 and 1993. Our main finding is that large firms with investment grade credit ratings typically borrow at the short end and at the long end and of the maturity spectrum, while firms with speculative grade credit ratings typically borrow in the middle of the maturity spectrum. This pattern is consistent with the theory that risky firms do not issue short-term debt in order to avoid inefficient liquidation, but are screened out of the long-term debt market because of the prospect of risky asset substitution.     

ON THE FEASIBILITY OF A ONE-SPEED OR MULTISPEED EUROPEAN MONETARY UNION

This paper addresses two questions: (1) Is a twelve-country monetary union in Europe feasible? (2) Can monetary union be achieved at multispeed, i.e., with a small group of countries going first, and later admitting the others? After examining several politico-economic arguments concerning problems of feasibility of the union, we conclude with a fair amount of skepticism concerning the multispeed idea. We show that the final result of the process of monetary integration is dependent upon the number of countries that initiate it. Our discussion of feasibility sheds some light on the political economy of the recent (Fall 1992) turmoil in the monetary system of Europe.