Consumer Advisory Bulletin, Advance Fee Loans and Credit Repair Schemes, January 2008

The Attorney General’s Consumer Protection Division receives hundreds of calls and consumer complaints every year. Follow these tips to avoid unexpected expense and disappointments. This record is about: Advance Fee Loans and Credit Repair Schemes

Credit cycles in theory and experiment

We test in the laboratory the potential of evolutionary dynamics as predictor of actual behavior. To this end, we propose an asymmetricgame -which we interpret as a borrowerlender relation-, study itsevolutionary dynamics in a random matching set-up, and tests itspredictions. The model provides conditions for the existence ofcredit markets and credit cycles. The theoretical predictions seemto be good approximations of the experimental results.

Adverse selection, credit and efficiency: The case of the missing market

We analyze a standard environment of adverse selection in credit markets. In our environment,entrepreneurs who are privately informed about the quality of their projects needto borrow in order to invest. Conventional wisdom says that, in this class of economies, thecompetitive equilibrium is typically inefficient.We show that this conventional wisdom rests on one implicit assumption: entrepreneurscan only access monitored lending. If a new set of markets is added to provide entrepreneurswith additional funds, efficiency can be attained in equilibrium. An important characteristic ofthese additional markets is that lending in them must be unmonitored, in the sense that it doesnot condition total borrowing or investment by entrepreneurs. This makes it possible to attainefficiency by pooling all entrepreneurs in the new markets while separating them in the marketsfor monitored loans.

An experimental test of loss aversion and scale compatibility

This paper studies two important reasons why people violate procedure invariance, loss aversion and scale compatibility. The paper extends previous research on loss aversion and scale compatibility by studying loss aversion and scale compatibility simultaneously, by looking at a new decision domain, medical decision analysis, and by examining the effect of loss aversion and scale compatibility on "well-contemplated preferences." We find significant evidence both of loss aversion and scale compatibility. However, the sizes of the biases due to loss aversion and scale compatibility vary over trade-offs and most participants do not behave consistently according to loss aversion or scale compatibility. In particular, the effect of loss aversion in medical trade-offs decreases with duration. These findings are encouraging for utility measurement and prescriptive decision analysis. There appear to exist decision contexts in which the effects of loss aversion and scale compatibility can be minimized and utilities can be measured that do not suffer from these distorting factors.

The gain-loss asymmetry and single-self preferences

Kahneman and Tversky asserted a fundamental asymmetry between gains and losses, namely a reflection effect which occurs when an individual prefers a sure gain of $ pz to anuncertain gain of $ z with probability p, while preferring an uncertain loss of $z with probability p to a certain loss of $ pz.We focus on this class of choices (actuarially fair), and explore the extent to which thereflection effect, understood as occurring at a range of wealth levels, is compatible with single-self preferences.We decompose the reflection effect into two components, a probability switch effect,which is compatible with single-self preferences, and a translation effect, which is not. To argue the first point, we analyze two classes of single-self, nonexpected utility preferences, which we label homothetic and weakly homothetic. In both cases, we characterize the switch effect as well as the dependence of risk attitudes on wealth.We also discuss two types of utility functions of a form reminiscent of expected utility but with distorted probabilities. Type I always distorts the probability of the worst outcome downwards, yielding attraction to small risks for all probabilities. Type II distorts low probabilities upwards, and high probabilities downwards, implying risk aversion when the probability of the worst outcome is low. By combining homothetic or weak homothetic preferences with Type I or Type II distortion functions, we present four explicit examples: All four display a switch effect and, hence, a form of reflection effect consistent a single self preferences.

Trade credit: Suppliers as debt collectors and insurance providers

There are two fundamental puzzles about trade credit: why does it appearto be so expensive,and why do input suppliers engage in the business oflending money? This paper addresses and answers both questions analysingthe interaction between the financial and the industrial aspects of thesupplier-customer relationship. It examines how, in a context of limitedenforceability of contracts, suppliers may have a comparative advantageover banks in lending to their customers because they hold the extrathreat of stopping the supply of intermediate goods. Suppliers may alsoact as lenders of last resort, providing insurance against liquidityshocks that may endanger the survival of their customers. The relativelyhigh implicit interest rates of trade credit result from the existenceof default and insurance premia. The implications of the model areexamined empirically using parametric and nonparametric techniques on apanel of UK firms.

Loss of phenotypic plasticity generates genotype-caste association in harvester ants.

Caste differentiation and reproductive division of labor are the hallmarks of insect societies. In ants and other social Hymenoptera, development of female larvae into queens or workers generally results from environmentally induced differences in gene expression. However, several cases in which certain gene combinations may determine reproductive status have been described in bees and ants. We investigated experimentally whether genotype directly influences caste determination in two populations of Pogonomyrmex harvester ants in which genotype-caste associations have been observed. Each population contains two genetic lineages. Queens are polyandrous and mate with males of both lineages , but in mature colonies, over 95% of daughter queens have a pure-lineage genome, whereas all workers are of F1 interlineage ancestry. We found that this pattern is maintained throughout the colony life cycle, even when only a single caste is being produced. Through controlled crosses, we demonstrate that pure-lineage eggs fail to develop into workers even when interlineage brood are not present. Thus, environmental caste determination in these individuals appears to have been lost in favor of a hardwired genetic mechanism. Our results reveal that genetic control of reproductive fate can persist without loss of the eusocial caste structure.

The credit ratings game

The collapse of so many AAA-rated structured finance products in 2007-2008has brought renewed attention to the causes of ratings failures and the conflicts of interestin the Credit Ratings Industry. We provide a model of competition among Credit RatingsAgencies (CRAs) in which there are three possible sources of conflicts: 1) the CRA conflictof interest of understating credit risk to attract more business; 2) the ability of issuersto purchase only the most favorable ratings; and 3) the trusting nature of some investorclienteles who may take ratings at face value. We show that when combined, these give riseto three fundamental equilibrium distortions. First, competition among CRAs can reducemarket efficiency, as competition facilitates ratings shopping by issuers. Second, CRAs aremore prone to inflate ratings in boom times, when there are more trusting investors, andwhen the risks of failure which could damage CRA reputation are lower. Third, the industrypractice of tranching of structured products distorts market efficiency as its role is to deceivetrusting investors. We argue that regulatory intervention requiring: i) upfront paymentsfor rating services (before CRAs propose a rating to the issuer), ii) mandatory disclosure ofany rating produced by CRAs, and iii) oversight of ratings methodology can substantiallymitigate ratings inflation and promote efficiency.

Credit constraints, firms' precautionary investment and the business cycle

This paper studies the macroeconomic implications of firms' investment composition choices in the presence of credit constraints. Following a negative andpersistent aggregate productivity shock, firms shift into short-term investments because they produce more pledgeable output and because they help alleviate futureborrowing constraints. This produces a short-run dampening of the effects of theshock, at the expense of lower long-term investment and future output, relativeto an economy with no credit market imperfections. The effects are exacerbatedby a steepening of the term structure of interest rates that further encourages ashift towards short-term investments in the short-run. Small temporary shocks tothe severity of financing frictions generate large and long-lasting effects on outputthrough their impact on the composition of investment. A positive financial shockproduces much stronger effects than an identical negative shock, while the responsesto positive and negative shocks to aggregate productivity are roughly symmetric.Finally, the paper introduces a novel explanation for the countercyclicality of financing constraints of firms.

Department of Commerce - Credit Union Division Performance Plan, FY 2009

Agency Performance Plan, Department of Commerce - Credit Union Division

Worst-case bounds for the logarithmic loss of predictors

We investigate on-line prediction of individual sequences. Given a class of predictors, the goal is to predict as well as the best predictor in the class, where the loss is measured by the self information (logarithmic) loss function. The excess loss (regret) is closely related to the redundancy of the associated lossless universal code. Using Shtarkov's theorem and tools from empirical process theory, we prove a general upper bound on the best possible (minimax) regret. The bound depends on certain metric properties of the class of predictors. We apply the bound to both parametric and nonparametric classes ofpredictors. Finally, we point out a suboptimal behavior of the popular Bayesian weighted average algorithm.

Iowa Credit Union Division, Strategic Plan, 2008

This report outlines the strategic plan for Credit Union Division including, goals and mission.

Credit derivatives in emerging markets

Credit Derivatives are securities that offer protection against credit or default risk ofbonds or loans. The credit derivatives emerging market has grown rapidly and creditderivatives are widely used. This paper describes the emerging credit derivativesmarket structure. The current market activity is analyzed through elementary pricingdynamics and the study of the term structure of default risk. Focusing on theperformance of credit derivatives in stress situation, including legal and market risks,we discuss the potential consequences of a debt restructuring in a large emergingmarket borrower. The contribution of credit derivatives to the risk sharing in emergingmarkets is also examined.

Autosomal Recessive Posterior Microphthalmos/Nanophthalmos is Caused by Loss-of-function Mutations in LOC646960, a Novel Gene Encoding a Trypsin-like Serine Protease

Purpose: Posterior microphthalmos (MCOP)/nanophthalmos (NNO) is a developmental anomaly characterized by extreme hyperopia due to short axial length. The population of the Faroe Islands shows a high prevalence of an autosomal recessive form (arMCOP). The gene mutated in arMCOP is not yet known.Methods: Genetic mapping by linkage analysis using microsatellite and single nucleotide polymorphisms, mutation analysis by PCR and sequencing, molecular modellingResults: Having refined the position of the disease locus (MCOP6) in an interval of 250 kb in chromosome 2q37.1 in Faroese families, we detected 3 mutations in a novel gene, LOC646960: Patients of 10 different Faroese families were either homozygous (n=22) for c.926G>C (p.Trp309Ser) or compound heterozygous (n=6) for c.926G>C and c.526C>G (p.Arg176Gly), whereas a homozygous 1 bp duplication (c.1066dupC) was identified in patients with arNNO from a Tunisian family. In two unrelated patients with MCOP, no LOC646960 mutation was found. LOC646960 is expressed in the human adult retina and RPE. The expression of the mouse homologue in the eye can be first detected at E17 and is highest in adults. The predicted protein is a 603 amino acid long secreted trypsin-like serine peptidase. c.1066dupC should result in a functional null allele. Molecular modelling of the p.Trp309Ser mutant suggests that both affinity and reactivity of the enzyme towards in vivo substrates are substantially reduced.Conclusions: Postnatal growth of the eye is important for proper development of the refractive components (emmetropization), and is mainly due to elongation of the posterior segment from 10-11 mm at birth to 15-16 mm at the age of 13 years. Optical defocus leads to changes in axial length by moving the retina towards the image plane. arMCOP may theoretically be explained, in line with the expression pattern of LOC646960, by a postnatal growth retardation of the posterior segment.