17 Theory

Permanent URI for this collection

Browse

Recent Submissions

Now showing 1 - 5 of 10
  • Item
    A Theory of Principles-Based Classification
    ( 2020-08-18) Konvalinka, Matjaž ; Penno, Mark ; Stecher, Jack
    We study a firm's decision to classify transactions as recurring or nonrecurring in a setting with no fixed classification scheme, but with the following principle: recurring transactions must be more persistent than nonrecurring ones. Under this principle, equilibrium firm behavior provides a new explanation for the observed relationship between income and classifications. Moreover, we find that market prices are more informative under principles-based classifications than they would be under a hypothetical, optimally chosen specific classification rule
  • Item
    Information Design in Coordination Games with Risk Dominant Equilibrium Selection
    ( 2020-08-18) Ebert, Michael ; Kadane, Joseph ; Simons, Dirk ; Stecher, Jack
    We study the design of public information structures that maximize the probability of selecting a Pareto dominant equilibrium in symmetric (2 x 2) coordination games. Because the need to coordinate exposes players to strategic risk, we treat the designer as able to implement an equilibrium only if the players believe it is also risk dominant. The designer's task is therefore to pool the set of states in which the desired equilibrium is risk dominant with the largest possible set in which it is not, while keeping the desired equilibrium risk dominant in expectation. We provide a simple characterization of the optimal signal structure which holds under general conditions. We extend the analysis to related problems, and show that our intuition is robust, suggesting that our approach provides a promising way forward for a large class of problems in constrained information design.
  • Item
    Information Design in Financial Markets
    ( 2020-08-16) Marinovic, Ivan
    We study the optimal disclosure policy of a firm that wishes to maximize its expected stock price in the classic setting in which its stock is traded by risk-averse investors and noise traders. We find that the optimal disclosure policy is imprecise and leads to skewed posterior beliefs. This policy subjects short positions to tail risk, causing investors to demand a large increase in price to absorb noise-trader purchases and leading to overvaluation. Our results suggest that when firms have flexibility in their disclosure choice, disclosure need not improve price efficiency nor enhance liquidity.
  • Item
    Accounting and the Financial Accelerator
    ( 2020-08-15) Cheynel, Edwige ; Bertomeu, Bertomeu
    We extend the general equilibrium economy of Holmstrom and Tirole (1997) ¨ to optimal reporting of productive assets and examine when the accounting process can contribute to fnancial acceleration. Given a small change in aggregate capital stock, the economy may respond with large readjustments in accounting policies, prices and investment activity. A neutral accounting system, defned as a policy that does not distort decision-making, is optimal when capital is abundant but, after a contraction in aggregate capital, the accounting system becomes initially liberal and then conservative. Surprisingly, accounting policies maximizing frm value, i.e., the net cash flows to shareholders, may lead to self-fulflling equilibria with ineffcient forced liquidations. The theory offers a stylized paradigm to evaluate accounting policies in the aggregate.
  • Item
    Accounting Harmonization and Investment Beauty Contests
    ( 2020-08-15) Jiang, Xu ; Tang, Chao ; Zhang, Gaoqing
    We study the optimal degree of harmonization of accounting standards when firms' investments exhibit "beauty-contest" features as in, e.g., Arya and Mittendorf (2016). We model more harmonization of accounting standards as the noises in firms' reports being more correlated, consistent with Barth et al. (1999). We show that while more harmonized accounting standards have ambiguous effects on the reports' informativeness in representing firms' underlying fundamentals, they always reduce the reports' precision in forecasting firms' aggregate investment. The stronger the "beauty-contest" features, the more important the forecasts about the aggregate investment, and thus the less harmonized the standards should be. We also find that, while absent beauty-contest features, mandatory adoption of more harmonized accounting standards can be unnecessary, such mandate is warranted when beauty-contest features are strong. Taken together, our results both provide a justification for and identify an unintended consequence of the recent mandates towards more harmonized accounting standards.