Kit Pong Wong

On the determinants of bank interest margins under credit and interest rate risks

This paper explores the determinants of optimal bank interest margins based on a simple firm-theoretical model under multiple sources of uncertainty and risk aversion. The model demonstrates how cost, regulation, credit risk and interest rate risk conditions jointly determine the optimal bank interest margin decision. We find that the bank interest margin is positively related to the banks market power, to the operating costs, to the degree of credit risk, and to the degree of interest rate risk. An increase in the banks equity capital has a negative effect on the spread when the bank faces little interest rate risk. The effect of rising inter-bank market rate on the spread is ambiguous and depends on the net position of the bank in the inter-bank market. Our findings provide alternative explanations for the empirical evidence concerning bank spread behavior.

Multiple Currencies and Hedging

This paper presents a model of a competitive exporting firm confronting multiple currency risks. Future markets do not exist for the firms own currency, but do exist between currencies of two countries to which the firm exports its entire output. We provide analytical insight into optimal cross-hedging and its implications on production and on trade flows. We show that the unbiasedness of the cross-currency futures market does not imply non-random profits. Furthermore, the availability of cross-hedging opportunities has no effects on production but does have effects on exports. Copyright 1999 by The London School of Economics and Political Science

Optimal full-hedging under state-dependent preferences

Abstract This paper examines the hedging behavior of a risk-averse individual who faces uncertainty in spot-market prices and has a state-dependent utility function. The model demonstrates how risk aversion, state-dependency of preferences, and dependence structure of spot-market prices and states of nature jointly determine the individual’s optimal hedge position. We stipulate two sets of necessary and sufficient conditions, one on the utility function and the other on the dependence structure of spot-market prices and states of nature, which yield the celebrated full-hedging theorem originally derived under state-independent preferences.

Hedging with mismatched currencies

This article presents a model of a risk‐averse multinational firm facing risk exposure to a foreign currency cash flow. Forward markets do not exist between the firms own currency and the foreign currency, but do exist for a third currency. Because a triangular parity condition holds among these three currencies, the available forward markets, albeit incomplete, provide a useful avenue for the firm to indirectly hedge against its foreign exchange rate risk exposure. This article offers analytical insights into the optimal cross‐hedging strategies of the firm. In particular, the results show that separate unbiasedness of the forward markets does not necessarily imply a perfect full hedge that eliminates the entire foreign exchange rate risk exposure of the firm. The optimal cross‐hedging strategies depend largely on the firms marginal utility function and on the correlation of the random spot exchange rates.

Intellectual Capital and Financing Decisions: Evidence from the U.S. Patent Data

This paper develops a real options model to understand two distinct roles played by intellectual capital in corporate financing decisions. Whereas limiting a firms debt capacity because of its low liquidation value, intellectual capital enhances a firms debt capacity through its positive impact on earnings. Our model shows that the former dominates or is dominated by the latter, depending on whether the rate of dissipation of intellectual capital upon default is larger or smaller than a critical level, respectively. Using patent-based and research-and-development-based variables as proxies for intellectual capital, we find robust evidence that the relation between intellectual capital and leverage is positive. Specifically, a one-standard-deviation increase in the level of a firms intellectual capital is associated with an increase of 6.6% to 21.1% in its market leverage. We further find this positive relation to be stronger for biotechnology firms. This paper was accepted by Wei Xiong, finance.

Production decisions in the presence of options: A note

Abstract This paper examines the behavior of the competitive firm under uncertainty in the presence of commodity options. We show that the risk-averse firm always uses fairly priced commodity options for hedging purposes. However, unlike the case of forward/futures contracts, the presence of fairly priced commodity options cannot induce the firm to produce up to the certainty equivalent level. We further show that risk aversion alone is not enough to make the firm more eager to produce in the presence of fairly priced commodity options. To establish this intuitively appealing result, the notion of prudence is also called for.

Anti-dumping measures as a tool of protectionism: A mechanism design approach

In this paper we explore the design of optimal incentive-compatible anti-dumping (AD) measures. When the weight given to the domestic firms profit in the governments objective function is relatively small, it is shown that no AD duty should be imposed if the foreign firm reports its own costs, but a constant AD duty should be imposed if the domestic firm reports the foreign firms cost. When this weight is large, in either case of reporting the AD duty is a prohibitive tariff. The optimal AD measures are modified in the presence of a GATT/WTO constraint.

Comment: further sufficient conditions for an inverse relationship between productivity and employment

Abstract Extant empirical studies document that productivity gains due to technological progress often lead to reductions in employment. This paper rationalizes the stated empirical finding within the context of the theory of the competitive firm under price uncertainty. We show that technological progress affects employment adversely if the firm’s coefficient of relative risk aversion is no less than unity and its production technology exhibits non-decreasing returns to scale. On the other hand, technological progress unambiguously increases output if the firm’s preference has non-increasing absolute risk aversion.

Optimal Export and Hedging Decisions when Forward Markets are Incomplete

This paper examines the behaviour of the competitive firm that exports to two foreign countries under multiple sources of exchange rate uncertainty. There is a forward market between the home currency and one foreign countrys currency, but there are no hedging instruments directly related to the other foreign countrys currency. We show that the separation theorem holds when the firm optimally exports to the foreign country with the currency forward market. The full-hedging theorem holds either when the firm exports exclusively to the foreign country with the currency forward market or when the relevant spot exchange rates are independent. In the case that the relevant spot exchange rates are positively (negatively) correlated in the sense of regression dependence, the firm optimally opts for a short (long) forward position for cross-hedging purposes.

International trade and hedging in economies in transition

Abstract This paper develops a general equilibrium framework to analyze risk management policies in economies in transition. By cross-hedging against real exchange rate risk exposures, these economies can increase their gains from international trade. We suggest that countries with emerging forward markets can gradually introduce the risk sharing markets, as limiting resources may prevent them from introducing complete hedging markets in the first place. Thus the growing demand for risk management instruments can be gradually met and it would be welfare enhancing. Economies in transition benefit when hedging devices are offered by financial markets, irrespective of whether the hedging instruments are de facto perfect or not.