J. Nellie Liang

Corporate payout policy and managerial stock incentives

We examine how corporate payout policy is affected by managerial stock incentives using data on more than 1100 nonfinancial firms during 1993-97. We find that management share ownership encourages higher payouts by firms with potentially the greatest agency problems--those with low market-to-book ratios and low management stock ownership. We also find that management stock options change the composition of payouts. We find a strong negative relationship between dividends and management stock options, as predicted by Lambert, Lannen, and Larcker (1989), and a positive relatinship between repurchases and management stock options. Our results suggest that the growth in stock options may help to explain the rise in repurchases at the expense of dividends.

Is there a pecking order? Evidence from a panel of IPO firms

Myers (1984) and Myers and Majluf (1984) posit that asymmetric information problems cause firms to follow a pecking order when choosing the source of funds for new investment. Internal funds are preferred to external funds, and if external funds are obtained, safer instruments will be offered before risky ones. The empirical evidence to date has produced indirect evidence that mostly support this theory, but with many predictions that overlap those of a static tradeoff model, conclusions are difficult to draw. In this paper we examine the decision to obtain external financing, and when obtained, the type of financing, for a group of firms that completed initial public offerings in 1983. We investigate the security offerings of these firms over the decade between 1984 and 1993 using a multinomial logit model to determine if firms follow the pecking order. The array of financing choices made by these firms is rich -- we observe straight and convertible bond offerings, private debt, and common equity offerings, as well as firms that never access any capital markets after their IPOs. In contrast, other studies typically examine older, established firms for which the pecking order collapses to a choice of internal funds or debt. Moreover, we expect that asymmetric information problems will be greater among the IPOs, and will likely decline as the firms age. We conclude from our investigation that firms do not obtain external funds based on their cash flow (Myers and Shyam-Sunders (1992) cash deficit). Allowing for the possibility that weak firms with cash deficits are unable to tap the capital markets does not affect our results. Among firms that obtain funds externally, we have determined that firms do not follow the pecking order. The least risky firms are the most likely to issue public bonds, as predicited by the pecking order, but we find that firms that issue equity are not riskier than firms that obtain bank debt.

Inferring market power from time-series data: The case of the banking firm

Abstract Using bank-specific data on deposit rates, this paper tests for the existence of market power in banking by means of time-series estimations. A test is developed that can reject perfect competition on the basis of the observed relationship over time between deposit rates and security rates (adjusted for operating costs). The analysis also examines whether pricing behavior differs across markets and banking products in a manner consistent with hypothesized differences. Price-taking behavior is rejected for the vast majority of banks. For the deposit category that one would expect to be more geographically limited, greater market power is found to be exercised by banks located in more concentrated markets.

Good News and Bad News about Share Repurchases

We estimate the cross-sectional relationship between open market repurchases and accounting data for a large sample of dividend- paying and non-dividend paying firms over a twelve year period (1984-95). Consistent with the hypothesis that firms use open market repurchases to reduce the agency costs of free cash flow, we find that repurchases are positively related to proxies for free cash flow and negatively related to proxies for marginal financing costs. We also examine the extent to which management stock options influence the choice between open market repurchases and dividend payments. Because the value of management stock options--like any call option--is negatively related to expected future dividend payments, management can increase the value of its stock options by substituting share repurchases for dividend growth. We find evidence that such substitution occurs: for dividend-paying firms, share repurchases are positively related and dividend increases are negatively related to a proxy for management stock options, whereas for non-dividend-paying firms, the relationship between repurchases and options is weak and statistically insignificant.

The Influence of Thrift Competition on Bank Business Loan Rates

This article assesses the competitive influence of thrift institutions on the pricing of commercial loans made by commercial banks. Using detailed survey information on the rates that individual banks charge for various types of commercial loans, we attempt to determine which of various proposed weightings of thrift institutions, when incorporated in measures of market concentration, best explains loan rates. After considering several weighting schemes, including those designed to approximate current regulatory practice in analyzing the competitive impact of proposed bank mergers, we find that in all but one of the cases examined, the use of a positive weight for thrift institutions explains bank loan rates, if anything, more poorly than does a weighting of zero for such institutions.

Monetary Policy, Financial Conditions, and Financial Stability

We review a growing literature that incorporates endogenous risk premiums and risk-taking in the conduct of monetary policy. Accommodative policy can create an intertemporal tradeoff between improving current financial conditions at a cost of increasing future financial vulnerabilities. In the United States, structural and cyclical macroprudential tools to reduce vulnerabilities at banks are being implemented, but may not be sufficient because activities can migrate and there are limited tools for non-bank intermediaries or for borrowers. While monetary policy itself can influence vulnerabilities, its efficacy as a tool will depend on the costs of tighter policy on activity and inflation. We highlight how adding a risk-taking channel to traditional transmission channels could significantly alter a cost-benefit calculation for using monetary policy, and that considering risks to financial stability—as downside risks to employment—is consistent with the dual mandate.

Dynamics of market concentration in U.S. banking, 1966-1986

Abstract This paper estimates the speed at which local banking market concentration adjusts to its long-run equilibrium level. Long-run market concentration is estimated as a function of the attractiveness of entry and regulatory barriers to entry into the market. The speed of adjustment is allowed to vary across markets and depends on the deviation of market from normal profits. The empirical results from panels of data over 5, 10, 15 and 20 years show that concentration levels in local banking markets adjust slowly over time. Markets with unusually high or low profits show significantly more rapid adjustment than other markets over shorter time periods, but the differences are small in magnitude. Legal barriers to entry significantly impede market adjustment over longer time periods.

Equity underwriting risk

Risk in securities activities such as underwriting and dealing has become of increasing interest as the separation between commercial and investment banking erodes. In January 1989, the Federal Reserve permitted commercial bank holding companies to engage in limited amounts of corporate securities underwriting and dealing and has recommended to Congress the removal of the Glass-Steagall separation of commercial and investment banking. As banks expand their securities powers, the associated risks have a policy significance because of deposit insurance and the safety net provided to large commercial banks by the federal government. Furthermore, understanding the risks associated with underwriting and dealing can be important in understanding what determines the demand for these services. In this study we examine equity underwriting risk within the context of earlier work on price risk associated with equity offerings and underwriting risks over time.

Financial Vulnerabilities, Macroeconomic Dynamics, and Monetary Policy

We define a measure to be a financial vulnerability if, in a VAR framework that allows for nonlinearities, an impulse to the measure leads to an economic contraction. We evaluate alternative macrofinancial imbalances as vulnerabilities: nonfinancial sector credit, risk appetite of financial market participants, and the leverage and short-term funding of financial firms. We find that nonfinancial credit is a vulnerability: impulses to the credit-to-GDP gap when it is high leads to a recession. Risk appetite leads to an economic expansion in the near-term, but also higher credit and a recession in later years, suggesting an intertemporal tradeoff. Monetary policy is generally ineffective at slowing the economy once the credit-to-GDP gap is high, suggesting important benefits from avoiding excessive credit growth. Financial sector leverage and short-term funding do not lead directly to contractions and thus are not vulnerabilities by our definition.