Essays on Market Frictions and Securitization

This dissertation provides a novel theory of securitization based on intermediaries minimizing the moral hazard that insiders can misuse assets held on-balance sheet. The model predicts how intermediaries finance different assets. Under deposit funding, the moral hazard is greatest for low-risk assets that yield sizable returns in bad states of nature; under securitization, it is greatest for high-risk assets that require high guarantees and large reserves. Intermediaries thus securitize low-risk assets. In an extension, I identify a novel channel through which government bailouts exacerbate the moral hazard and reduce total investment irrespective of the funding mode. This adverse effect is stronger under deposit funding, implying that intermediaries finance more risky assets off-balance sheet. The dissertation discusses the implications of different forms of guarantees. With explicit guarantees, banks securitize assets with either low information-intensity or low risk. By contrast, with implicit guarantees, banks only securitize assets with high information-intensity and low risk. Two extensions to the benchmark static and dynamic models are discussed. First, an extension to the static model studies the optimality of tranching versus securitization with guarantees. Tranching eliminates agency costs but worsens adverse selection, while securitization with guarantees does the opposite. When the quality of underlying assets in a certain security market is sufficiently heterogeneous, and when the highest quality assets are perceived to be sufficiently safe, securitization with guarantees dominates tranching. Second, in an extension to the dynamic setting, the moral hazard of misusing assets held on-balance sheet naturally gives rise to the moral hazard of weak ex-post monitoring in securitization. The use of guarantees reduces the dependence of banks' ex-post payoffs on monitoring efforts, thereby weakening monitoring incentives. The incentive to monitor under securitization with implicit guarantees is the weakest among all funding modes, as implicit guarantees allow banks to renege on their monitoring promises without being declared bankrupt and punished.

Essays in Market Design

In this dissertation, I study three problems in market design: the allocation of resources to schools using deferred acceptance algorithms, the demand reduction of employees on centralized labor markets, and the alleviation of traffic congestion. I show how institutional and behavioral considerations specific to each problem can alleviate several practical limitations faced by current solutions. For the case of traffic congestion, I show experimentally that the proposed solution is effective. In Chapter 1, I investigate how school districts could assign resources to schools when it is desirable to provide stable assignments. An assignment is stable if there is no student currently assigned to a school that would prefer to be assigned to a different school that would admit him if it had the resources. Current assignment algorithms assume resources are fixed. I show how simple modifications to these algorithms produce stable allocations of resources and students to schools. In Chapter 2, I show how the negotiation of salaries within centralized labor markets using deferred acceptance algorithms eliminates the incentives of the hiring firms to strategically reduce their demand. It is well-known that it is impossible to eliminate these incentives for the hiring firms in markets without negotiation of salaries. Chapter 3 investigates how to achieve an efficient distribution of traffic congestion on a road network. Traffic congestion is the product of an externality: drivers do not consider the cost they impose on other drivers by entering a road. In theory, Pigouvian prices would solve the problem. In practice, however, these prices face two important limitations: i) the information required to calculate these prices is unavailable to policy makers and ii) these prices would effectively be new taxes that would transfer resources from the public to the government. I show how to construct congestion prices that retrieve the required information from the drivers and do not transfer resources to the government. I circumvent the limitations of Pigouvian prices by assuming that individuals make some mistakes when selecting routes and have a tendency towards truth-telling. Both assumptions are very robust observations in experimental economics.

Trade Shocks and Local Labor Markets' Linkages: Theory and Evidence

In the past few years, there has been a concern among economists and policy makers that increased openness to international trade affects some regions in a country more than others. Recent research has found that local labor markets more exposed to import competition through their initial employment composition experience worse outcomes in several dimensions such as, employment, wages, and poverty. Although there is evidence that regions within a country exhibit variation in the intensity with which they trade with each other and with other countries, trade linkages have been ignored in empirical analyses of the regional effects of trade, which focus on differences in employment composition. In this dissertation, I investigate how local labor markets' trade linkages shape the response of wages to international trade shocks. In the second chapter, I lay out a standard multi-sector general equilibrium model of trade, where domestic regions trade with each other and with the rest of the world. Using this benchmark, I decompose a region's wage change resulting from a national import cost shock into a direct effect on prices, holding other endogenous variables constant, and a series of general equilibrium effects. I argue the direct effect provides a natural measure of exposure to import competition within the model since it summarizes the effect of the shock on a region's wage as a function of initial conditions given by its trade linkages. I call my proposed measure linkage exposure while I refer to the measures used in previous studies as employment exposure. My theoretical analysis also shows that the assumptions previous studies make on trade linkages are not consistent with the standard trade model. In the third chapter, I calibrate the model to the Brazilian economy in 1991--at the beginning of a period of trade liberalization--to perform a series of experiments. In each of them, I reduce the Brazilian import cost by 1 percent in a single sector and I calculate how much of the cross-regional variation in counterfactual wage changes is explained by exposure measures. Over this set of experiments, employment exposure explains, for the median sector, 2 percent of the variation in counterfactual wage changes while linkage exposure explains 44 percent. In addition, I propose an estimation strategy that incorporates trade linkages in the analysis of the effects of trade on observed wages. In the model, changes in wages are completely determined by changes in market access, an endogenous variable that summarizes the real demand faced by a region. I show that a linkage measure of exposure is a valid instrument for changes in market access within Brazil. By using observed wage changes in Brazil between 1991-2000, my estimates imply that a region at the 25th percentile of the change in domestic market access induced by trade liberalization, experiences a 0.6 log points larger wage decline (or smaller wage increase) than a region at the 75th percentile. The estimates from a regression of wages changes on exposure imply that a region at the 25th percentile of exposure experiences a 3 log points larger wage decline (or smaller wage increase) than a region at the 75th percentile. I conclude that estimates based on exposure overstate the negative impact of trade liberalization on wages in Brazil. In the fourth chapter, I extend the standard model to allow for two types of workers according to their education levels: skilled and unskilled. I show that there is substantial variation across Brazilian regions in the skill premium. I use the exogenous variation provided by tariff changes to estimate the impact of market access on the skill premium. I find that decreased domestic market access resulting from trade liberalization resulted in a higher skill premium. I propose a mechanism to explain this result: that the manufacturing sector is relatively more intensive in unskilled labor and I show empirical evidence that supports this hypothesis.