economic deregulation days of reckoning for microeconomists economic deregulation of american industry is one of the most important experiments in economic policy of our time 1 in 1977 17 percent of u s gnp was produced by fully regulated industries 2 by 1988 following ten years of partial and complete economic deregulation of large parts of the transportation communications energy and financial industries that total had been cut significantly to 6 6 percent of gnp 3 the political forces behind the decision to change the market conditions under which roughly 600 billion of u s output is produced were strong and varied but according to political scientists martha derthick and paul quirk 1985 p 36 deregulation would never have occurred if economists especially microeconomists had not generally supported it through their research 4 in retrospect it is fair to ask were microeconomists able to develop a theoretical and empirical framework to explain regulation and its effects and to form predictions of deregulation s effects were they able to predict the actual effects of deregulation this paper surveys the evidence to address these questions and of

issues every plan to reform health care financing must confront this paper focuses on three main issues of fundamental health care reform first should experience rating the linkage of premiums to actual loss experience be retained despite widespread support for experience rating among economists the paper argues that it should be abandoned for reasons of efficiency and equity second would abandonment of experience rating cause much redistribution the paper shows that redistribution among industries could require significant transitional adjustments third should companies or individuals be subject to an insurance mandate the paper calls for combining individual mandates which have long term advantages with employer mandates which have short run pluses

are firms successful at selective hedging we analyze the corporate risk management policies of 44 companies in the gold mining industry firms tend to decrease hedging as prices move against them behavior contrary to that predicted by risk management theory these results along with new survey evidence suggest that firms attempt to time market prices so called selective hedging although estimates show a statistically significant ability of producers to favorably adjust hedge ratios this can be attributed to sample specific negative autocorrelation in gold prices economic gains to selective hedging are small and no evidence suggests that selective hedging leads to superior operating or financial performance

combined use of foreign debt and currency derivatives under the threat of currency crises the case of latin american firms abstract we investigate the determinants of firms use of foreign currency derivatives in emerging markets exposed to currency crises we develop a model where a firm with international orientation chooses its optimal foreign debt and hedging ratio in the context of highly volatile exchange rate periods in five latin american countries we calibrate the model on adrs we find theoretical and empirical evidence that country specific factors i e aggregate exposure of a country to a crisis explain significantly part of our firms foreign debt and hedging policy as opposed to literature on firms in developed markets we claim that derivative markets have been effective tools for firms in these countries at least in the post crisis era

investment uncertainty and liquidity we analyze the dynamic investment decision of a firm subject to an endogenous financing constraint the threat of future funding shortfalls lowers the value of the firm s timing options and encourages acceleration of investment beyond the first best optimal level as well as highlighting another way by which capital market frictions can distort investment behavior this result implies that 1 the sensitivity of investment to cash flow can be greatest for high liquidity firms and 2 greater uncertainty has an ambiguous effect on investment

evidence on corporate hedging policy this paper provides empirical evidence on the determinants of corporate hedging decisions the paper examines the evidence in light of currently mandated financial reporting require ments and in particular the constraints placed on anticipatory hedging data on hedging are obtained from 1992 annual reports for a sample of 3 022 firms out of the 771 firms classified as hedgers 543 firms disclose information in their annual reports on their hedging activities the remaining 228 firms report use of derivatives but no information on hedging activities based on the evidence i draw the following conclusions with respect to the models of hedging evidence is inconsistent with financial distress cost models evidence is mixed with respect to contracting cost capital market imperfections and tax based models and evidence uniformly supports the hypothesis that hedging activities exhibit economies of scale

cross hedging minimum return guarantees basis and liquidity risks we reveal pitfalls in the hedging of insurance contracts with a minimum return guarantee on the underlying investment e g an external mutual fund we analyze basis risk entailed by hedging the guarantee with a dynamic portfolio of proxy assets for the funds we also take account of liquidity risk which arises since the insurer may need to advance funds for performing the hedge based on a least squares monte carlo simulation we study the economic implications of basis and liquidity risks we demonstrate that both risks may be surprisingly high and show how the design of the contract and the hedging strategy may help to alleviate them

risk adjustment and prevention widespread integration of market based incentives into healthcare systems calls for and has elicited increasing adoption of risk adjustment by deterring selection risk adjustment helps to assure fair and efficient payments among health insurers or capitated provider groups however since conventional risk adjustment allocates funds among regions or insurers according to current population health status it does not reward indeed it penalizes preventive efforts that improve population health this prevention penalty of risk adjustment represents a hidden cost of unclear magnitude undermining provider incentives for health promotion we develop a theoretical model of selection and prevention demonstrating this problem with conventional risk adjustment and suggesting a simple alternative risk adjustment should be linked to pay for performance for prevention l integration generalisee d incitatifs mercantiles dans les systemes de soins de sante appelle et a engendre l adoption croissante d ajustements au risque en decourageant la selection l ajustement au risque aide a assurer des paiements justes et equitables entre les assureurs ou les groupes de fournisseurs finances par capitation cependant comme les ajustements conventionnels au risque allouent des fonds entre les regions ou les assureurs selon le statut sanitaire present de la population ils ne recompensent pas et meme penalisent les efforts de prevention qui ameliorent la sante des populations cette penalisation de la prevention dans les ajustements au risque represente un cout cache d une magnitude mal etablie qui mine l incitation des fournisseurs a s occuper de promotion de la sante on developpe un modele theorique de selection et de prevention mettant en lumiere ce probleme dans l utilisation de l ajustement au risque conventionnel et on suggere une solution de rechange ou l ajustement au risque est reliea une remuneration a la performance pour la prevention

a limited sample benchmark approach to assess and improve the performance of risk equalization models abstract a new method is proposed to assess and improve the performance of risk equalization models in competitive markets for individual health insurance where compensation is intended for variation in observed expenditures due to so called s ubsidy type risk factors but not for variation due to other so called n on subsidy type risk factors given the availability of a rich subsample of individuals for which normative expenditures ynorm can be accurately determined we make two contributions a any risk equalization scheme applied to the entire population yref should be evaluated through its performance in the subsample by comparing yref with ynorm not by comparing yref with observed expenditures y in the entire population as commonly done b conventional risk equalization schemes can be improved by the subsample regression of ynorm rather than y on the risk adjusters that are observable in the entire population this new method is illustrated by an application to the 2004 dutch risk equalization model

vertical control opportunism and risk sharing abstract a manufacturer who offers secret contracts faces an opportunism problem she undercuts her own input prices and fails to offset retail competition i show that this problem diminishes when retailers are risk averse and face demand uncertainty risk aversion and uncertainty create a bilateral risk sharing incentive that raises equilibrium input prices above marginal cost the manufacturer can therefore profit from downstream risk aversion when retail competition is fierce

hedging and liquidity this article develops a model for evaluating alternative hedging strategies for financially constrained firms a key advantage of the model is the ability to capture the intertemporal effects of hedging on the firm s financial situation we characterize the optimal hedge a wide range of alternative hedging strategies can be specified and the model allows us to determine in each case if the hedging strategy raises or lowers firm value and by how much we show that hedging firm value hedging cash flow from operations and hedging sales revenue are not optimal the article highlights the fact that every hedging strategy comes packaged with a borrowing strategy which requires careful consideration futures markets often provide the most liquid and convenient instruments for managing risk however because futures contracts are marked to market it is often impossible to simultaneously hedge cash flows and values for example a futures contract that locked in the value of gold that a corporation planned to extract in one year would generate an uncertain cash flow pattern over the year this article examines how liquidity and cash flow timing problems associated with different hedging strategies can affect a firm s value in our model the objective for hedging is to increase the firm s financial flexibility an optimal hedge maximizes the firm s liquidityslack in the form of excess cash or unused debt capacitywhen liquidity is most valuable this lowers the danger of costly financial distress reduces the effective cost of external financial constraints and makes value maximizing investments affordable a firm with no financial constraints does not gain from hedging and the higher the firm s financial constraints the greater the potential value of hedging the value of hedging depends critically on the design of the hedging strategy we show that the optimal hedge minimizes the variability in the marginal value of the firm s cash balances such a hedge efficiently redistributes cash balances across different states and periods taking cash from those states for which the marginal cost of the financial constraint is low and giving cash to those states for which the marginal

demand inducement and the physician patient relationship the physician patient relationship is a paradigm for any expert client relationship the physician both diagnoses the patient s illness and recommends a treatment this dual role gives the physician incentive to recommend treatments whose costs outweigh their medical benefits these socially inefficient treatments correspond to the notion of physician induced demand the level of inducement chosen by the physician is shown to depend on the price and potential medical benefits of treatment and the relative diagnostic skills of physician and patient this model offers several testable hypotheses some of which are confirmed by related studies

optimal dynamic trading with leverage constraints we solve for the optimal dynamic trading strategy of an investor who faces a leverage constraint i e a limitation on his ability to borrow for the purpose of investing in a risky asset we assume that the investor has constant relative risk aversion and that the value of the risky asset follows a geometric brownian motion in the absence of the leverage constraint the optimal strategy involves investing a fixed proportion of wealth in the risky asset we prove that in the presence of the leverage constraint the optimal investment also involves investing a fixed proportion of wealth in the risky asset when the leverage constraint is not binding however the two proportions are different reflecting the extent to which the investor alters his strategy even when the leverage constraint is not binding because of the possibility that the leverage constraint will become binding in the future

corporate control and real investment in incomplete markets abstract in the standard real options approach to investment under uncertainty agents formulate optimal policies under the assumptions of risk neutrality or perfect capital markets however in most situations corporate executives face incomplete markets either because they receive compensation packages that restrict their portfolios or because cash flows from the firm s investment opportunities are not spanned by those of existing assets the present paper examines the impact of managerial risk aversion on investment decisions when the manager is exposed to idiosyncratic risk and faces the risk of a control challenge in the paper the investment policy selected by the manager reflects a trade off between his incentives to reduce risk and the need to ensure sufficient efficiency to prevent control challenges the analysis demonstrates that risk aversion induces the manager to speed up investment leading to a significant erosion of the value of the option to wait

stochastic capacity investment and flexible vs dedicated technology choice in imperfect capital markets this paper analyzes the impact of endogenous credit terms under capital market imperfections in a capacity investment setting we model a monopolist firm that decides on its technology choice flexible versus dedicated and capacity level under demand uncertainty differing from the majority of the stochastic capacity investment literature we assume that the firm is budget constrained and can relax its budget constraint by borrowing from a creditor the creditor offers technology specific loan contracts to the firm after which the firm makes its technology choice and subsequent decisions capital market imperfections impose financing frictions on the firm our analysis contributes to the capacity investment literature by extending the theory of stochastic capacity investment and flexible versus dedicated technology choice to understand the impact of capital market imperfections and by analyzing the impact of demand uncertainty variability and correlation on the operational decisions and the performance of the firm under different capital market conditions we demonstrate that the endogenous nature of credit terms in imperfect capital markets may modify or reverse conclusions concerning capacity investment and technology choice obtained under the perfect market assumption and we explain why the theory developed in this paper suggests some rules of thumb for the strategic management of the capacity and technology choice in imperfect capital markets this paper was accepted by john birge focused issue editor

the interaction of direct and indirect risk selection abstract this paper analyzes the interaction of direct and indirect risk selection in health insurance markets it is shown that direct risk selection using measures unrelated to the benefit package like selective advertising or losing applications of high risk individuals nevertheless has an influence on the distortions of the benefit package caused by indirect risk selection direct risk selection drs may either increase or decrease these distortions depending on the type of equilibrium pooling or separating the type of drs positive or negative and the type of cost for drs individual specific or not regulators who succeed in reducing drs by e g banning excessive advertising or implementing fines for losing applications may therefore unintendedly mitigate or exacerbate the distortions of the benefit package caused by indirect risk selection it is shown that the interaction of direct and indirect risk selection also alters the formula for optimal risk adjustment

imperfect risk adjustment risk preferences and sorting in competitive health insurance markets abstract i develop a model of insurer price setting and consumer welfare under risk adjustment a policy commonly used to combat inefficient sorting due to adverse selection in health insurance markets i use the model to illustrate graphically that risk adjustment causes health plan prices to be based on costs not predicted by the risk adjustment model residual costs rather than total costs either weakening or exacerbating selection problems depending on the correlation between demand and costs predicted by the risk adjustment model i then use a structural model to estimate the welfare consequences of risk adjustment finding a welfare gain of over 600 per person year

hedging speculation and shareholder value abstract we document that gold mining firms have consistently realized economically significant cash flow gains from their derivatives transactions we conclude that these cash flows have increased shareholder value since there is no evidence of an offsetting adjustment in firms systematic risk this finding contradicts a central assumption in the risk management literature that derivatives transactions have zero net present value and highlights an important motive for firms to use derivatives that the literature has hitherto ignored although we find considerable evidence of selective hedging in our sample the cash flow gains from selective hedging appear to be small at best

quality vs quantity in military procurement it is often argued that the same expenditures on military procurement would produce a more effective defense if larger numbers of less sophisticated and thus cheaper weapons were purchased this paper shows that such a result can occur even if the military derives no private consumption value from technically sophisticated weapons rather the organization of the decision making process itself can produce this result this suggests some possible solutions through organizing decision making in a different fashion copyright 1990 by american economic association

managerial overconfidence and corporate risk management abstract we examine whether managerial overconfidence can help explain the observed discrepancies between the theory and practice of corporate risk management we use a unique dataset of corporate derivatives positions that enables us to directly observe managerial reactions to their speculative gains and losses from market timing when they use derivatives we find that managers increase their speculative activities using derivatives following speculative cash flow gains while they do not reduce their speculative activities following speculative losses this asymmetric response is consistent with the selective self attribution associated with overconfidence our time series approach to measuring overconfidence complements cross sectional approaches currently used in the literature our results show that managerial overconfidence which has been found to influence a number of corporate decisions also affects corporate risk management decisions

hedging financing and investment decisions theory and empirical tests abstract in this paper we theoretically and empirically examine the interaction between hedging financing and investment decisions a simple equilibrium model with costly financial distress suggests that as firms become more efficient at risky investments vis a vis low risk investments they will borrow less invest more in risky assets and hedge more the model also predicts a positive relationship between hedging and leverage a result consistent with debt capacity arguments we test the model empirically using a simultaneous equations framework to investigate the determinants of firm level hedging financing and investing decisions the results strongly support the hypothesis that the hedging financing and investment decisions are jointly determined in addition we find strong support for the central hypothesis that firms more efficient investing in risky technologies more aggressively hedge and use less debt financing in order to maximize their comparative advantage

how firms should hedge substantial academic research explains why firms should hedge but little work has addressed how firms should hedge we assume that firms can experience costly states of nature and derive optimal hedging strategies using vanilla derivatives e g forwards and options and custom exotic derivative contracts for a value maximizing firm facing both hedgable price and unhedgable quantity risks customized exotic derivatives are typically better than vanilla contracts when correlations between prices and quantities are large in magnitude and when quantity risks are substantially greater than price risks finally we discuss how our model may be applied in practice copyright 2002 oxford university press

cost minimizing risk adjustment conventional risk adjustment which sets capitation payments equal to the average cost of individuals with similar observable characteristics is not optimal if health plans can use private information to select low cost enrollees cost minimizing risk adjustment minimizes the sum of capitated hmo premiums plus ffs costs by balancing the gains from hmo cost efficiency against the overpayments that result from hmo selection estimations using privately insured data suggest that cost minimizing risk adjusted premiums reduce total sponsor costs as much as 25 6 below conventional risk adjustment premiums

leverage constraints and the optimal hedging of stock and bond options this paper considers the problem of a financial institution that needs to hedge a stream of state contingent cash flows while facing borrowing and short sales restrictions the study determines analytically the strategy that minimizes the initial cost of hedging the desired cash flow which is also the upper bound on its market price and shows that the impact of leverage constraints on the cost of hedging call and put options is significant and therefore the biases detected by tests of option pricing models may not represent arbitrage opportunities the paper also shows that with credit limits it is optimal to reduce the rate of trading thus these constraints need to be recognized when estimating the trading volume generated in replicating contingent payoffs such as portfolio insurance

commodity betas with mean reverting output prices abstract this paper provides a theoretical derivation of commodity beta stock price sensitivity to commodity price using a contingent claim model the model incorporates operating leverage financial leverage costly financial distress and mean reverting commodity prices and highlights the important role played by the speed of reversion of the commodity price it is used to identify theoretically the main determinants of commodity beta commodity beta is predicted to be an increasing function of the operating and financial leverage of the firm and a decreasing function of the company s tax rate and the level volatility and speed of reversion of the commodity price empirical tests with a sample of gold mining firms provide support for these predictions particularly the new implications of the model the effect of the commodity price s speed of reversion and the company s tax rate

hedging and competition abstract we consider firms that all else equal wish to minimize variability in their internal capital due to convex costs of raising external funds the firms can hedge the cash flow risk of the project but not that of winning or losing the auction we characterize optimal hedging and bidding strategies in this competition framework we show that access to financial markets makes firms bid more aggressively possibly even above their valuation for the project in addition hedging increases the variance of bids and makes firm values more dispersed further with hedging the covariance of internal capital changes with the risk factor is negative and is more negative the higher the correlation of the hedging instrument with the risk factor

on the determinants of corporate hedging finance theory indicates that hedging increases firm value by reducing expected taxes expected costs of financial distress or other agency costs this paper provides evidence on these hypotheses using survey data on firm s use of forwards futures swaps and options combined with computstat data on firm characteristics of 169 firms in the sample 104 firms use hedging instruments in 1986 the data suggest that firms which hedge face more convex tax functions have less coverage of fixed claims are larger have more growth options in their investment opportunity set and employ fewer hedging substitutes

optimal bank capital with costly recapitalization we study optimal bank capital choice as a dynamic trade off between the opportunity cost of equity the loss of franchise value following a regulatory minimum capital violation and the cost of recapitalization we introduce a recapitalization delay that results in a strictly positive probability of capital adequacy violation we calibrate the model to bank accounting return data and evaluate the model s ability to explain observed bank capital ratios differences in return volatility explain a significant fraction of the cross sectional variation in bank capital ratios differences in the level of capital market imperfections across banks constitute a secondary explanation

much ado about two reconsidering retransformation and the two part model in health econometrics in health economics applications involving outcomes y and covariates x it is often the case that the central inferential problems of interest involve e y x and its associated partial effects or elasticities many such outcomes have two fundamental statistical properties y 0 and the outcome y 0 is observed with sufficient frequency that the zeros cannot be ignored econometrically this paper 1 describes circumstances where the standard two part model with homoskedastic retransformation will fail to provide consistent inferences about important policy parameters and 2 demonstrates some alternative approaches that are likely to prove helpful in applications

adverse selection and regulation in health insurance markets abstract in this paper we look at various ways to regulate the health insurance market and ask whether they provide an answer to the problem of adverse selection to avoid inefficiency government policy must either effectuate some cross subsidization of insurance policies within the state sector or grant private insurance firms an exclusive right to serve certain groups of the population recent reforms in the netherlands and germany and president clinton s proposals for the us could be adapted to fulfil these requirements efficiency cannot be achieved on the other hand if the regulator tries to prescribe cross subsidization within the private sector

cream skimming incentives for efficiency and payment system reform proposals of health care systems in several countries have advocated variations of a risk adjustment capitation system these proposals face a serious objection incentives to risk selection are prevalent in the system by now considerable literature has been devoted to finding ways of mitigating if not eliminating this problem while at the same time preserving incentives to efficiency we contribute to this debate presenting a transfer system that under some circumstances attains both provider efficiency and no risk selection the transfer system extends typical linear payment systems it can be interpreted as a fixed transfer in the beginning of the period plus an ex post fund at the end of the period the novelty rests in the way contributions to this fund are defined

the interaction between forms of insurance contract and types of technical change in medical care a simple three parameter description of medical technology is introduced to investigate the relationships between technical change welfare and type of insurance contract the value of a particular change in technology depends on the existing form of contract the marginal equilibrium expected utility to consumers of different types of technical change hinges on the manner in which the insurance arrangement is designed to mitigate moral hazard these results open the way for a positive model of the effects of insurance arrangements on the types of technology that are adopted and the effects of technical changes on the prevalent forms of insurance contract

deriving risk adjustment payment weights to maximize efficiency of health insurance markets risk adjustment is critical to the functioning of regulated health insurance markets to date estimation and evaluation of a risk adjustment model has been based on statistical rather than economic objective functions we develop a framework where the objective of risk adjustment is to minimize the efficiency loss from service level distortions due to adverse selection and we use the framework to develop a welfare grounded method for estimating risk adjustment weights we show that when the number of risk adjustor variables exceeds the number of decisions plans make about service allocations incentives for service level distortion can always be eliminated via a constrained least squares regression when the number of plan service level allocation decisions exceeds the number of risk adjusters the optimal weights can be found by an ols regression on a straightforward transformation of the data we illustrate this method with the data used to estimate risk adjustment payment weights in the netherlands n 16 5 million

direct versus indirect standardization in risk adjustment direct and indirect standardization procedures aim at comparing differences in health or in health care expenditures between subgroups of the population after controlling for observable morbidity differences there is a close analogy between this problem and the issue of risk adjustment in health insurance traditional methods of risk adjustment are analogous to indirect standardization they are equivalent to the so called conditional egalitarian mechanism in social choice in general they do not remove incentives for risk selection even if the effect of non morbidity variables is correctly taken into account a method of risk adjustment based on direct standardization does remove the incentives for risk selection but at the cost of violating a neutrality condition stating that insurers should receive the same premium subsidy for all members of the same risk group direct standardization is equivalent to the egalitarian equivalent or proportional mechanism in social choice the conflict between removing incentives for risk selection and neutrality is unavoidable if the health expenditure function is not additively separable in the morbidity and efficiency variables

risk selection and the specification of the conventional risk adjustment formula we argue that a sharp distinction must be made between the empirical problem of finding the best equation for explaining medical expenditures and the normative question of deriving capitations which give health plans the appropriate incentives we propose a procedure taken from the social choice literature to go from the estimated equations to the capitations if the estimated equations are not additively separable in legitimate and illegitimate risk adjusters it is impossible to remove all incentives for risk selection while respecting at the same time a straightforward requirement of horizontal equity this has immediate implications for the choice of the functional form moreover in so far as the conventional risk adjustment literature only includes so called legitimate risk adjusters in the estimations its results may suffer from omitted variables bias we illustrate our general methodological points with empirical results obtained from a cross section of 321 111 belgian patients

risk aversion indivisible timing options and gambling in this paper we model the behavior of a risk averse agent who seeks to maximize expected utility and who has an indivisible asset and a timing option over when to sell this asset our main contribution is to show that contrary to intuition optimal behavior for such a risk averse agent can include risk increasing gambles for example a manager with a choice over when to disinvest from a project a private homeowner with a property to sell or an employee with a grant of american style stock options may be better off taking positions in other assets with zero sharpe ratio that are uncorrelated with the underlying project house or stock price risk the results have wider implications for the modeling and interpretation of portfolio optimization problems involving american style timing decisions

premium subsidies for health insurance excessive coverage vs adverse selection the tax subsidy for employment related health insurance can lead to excessive coverage and excessive spending on medical care yet the potential also exists for adverse selection to result in the opposite problem insufficient coverage and underconsumption of medical care this paper uses the model of rothschild and stiglitz r s to show that a simple linear premium subsidy can correct market failure due to adverse selection the optimal linear subsidy balances welfare losses from excessive coverage against welfare gains from reduced adverse selection indeed a capped premium subsidy may mitigate adverse selection without creating incentives for excessive coverage

competition leverage how the demand side affects optimal risk adjustment we study optimal risk adjustment in imperfectly competitive health insurance markets when high risk consumers are less likely to switch insurer than low risk consumers insurers then have an incentive to select even if risk adjustment perfectly corrects for cost differences to achieve first best risk adjustment should overcompensate insurers for serving high risk agents second we identify a trade off between efficiency and consumer welfare reducing the difference in risk adjustment subsidies increases consumer welfare by leveraging competition from the elastic low risk market to the less elastic high risk market third mandatory pooling can increase consumer surplus further at the cost of efficiency

price discrimination and bargaining empirical evidence from medical devices many important issues in business to business markets involve price discrimination and negotiated prices situations where theoretical predictions are ambiguous this paper uses new panel data on buyer supplier transfers and a structural model to empirically analyze bargaining and price discrimination in a medical device market while many phenomena that restrict price discrimination are suggested as ways to decrease hospital costs e g mergers group purchasing organizations and transparency i find that 1 non discriminatory pricing actually works against hospitals because competition is more intense under price discrimination and 2 results depend ultimately on a previously unexplored bargaining effect

employee choice of health insurance a new specification of health insurance plan choice is developed that uses a nonparametric functional form for the loss function used to evaluate insurance premiums and uncertain out of pocket expenditure the approach is implemented on data resulting from one firm s implementation of a new health plan with three distinct health insurance options health expenditure differences greater than 500 percent are observed indicating extremely strong biased selection plan choices are consistent with a convex loss function for small losses which suggests that consumers underweight high loss low probability outcomes relative to low loss high probability ones copyright 1989 by mit press

on the welfare effects of vertical integration opportunism vs double marginalization abstract we investigate the welfare effects of vertical integration by an upstream supplier dealing with two downstream firms through secret linear tariffs we show that whether vertical integration is anti or procompetitive depends on the distribution of the bargaining power between firms in the pre integration case in particular when the supplier has all or at least higher bargaining power than downstream firms vertical integration is socially desirable on the contrary when downstream firms have all or at least higher bargaining power than the supplier integration is detrimental to society

the price ain t right hospital prices and health spending on the privately insured we use insurance claims data for 27 6 percent of individuals with private employer sponsored insurance in the us between 2007 and 2011 to examine the variation in health spending and in hospitals transaction prices we document the variation in hospital prices within and across geographic areas examine how hospital prices influence the variation in health spending on the privately insured and analyze the factors associated with hospital price variation four key findings emerge first health care spending per privately insured beneficiary varies by a factor of three across the 306 hospital referral regions hrrs in the us moreover the correlation between total spending per privately insured beneficiary and total spending per medicare beneficiary across hrrs is only 0 14 second variation in providers transaction prices across hrrs is the primary driver of spending variation for the privately insured whereas variation in the quantity of care provided across hrrs is the primary driver of medicare spending variation consequently extrapolating lessons on health spending from medicare to the privately insured must be done with caution third we document large dispersion in overall inpatient hospital prices and in prices for seven relatively homogenous procedures for example hospital prices for lower limb mris vary by a factor of twelve across the nation and on average two fold within hrrs finally hospital prices are positively associated with indicators of hospital market power even after conditioning on many demand and cost factors hospital prices in monopoly markets are 15 3 percent higher than those in markets with four or more hospitals

optimal risk adjustment with adverse selection and spatial competition abstract paying insurers risk adjusted prices for covering different individuals can correct selection incentives and induce the market to provide optimal insurance policies to calculate the optimal risk adjusted prices we need to know a what the optimal policies are b how much they cost and c how competitive the market is we examine these issues in a model with spatial heterogeneity and adverse selection market equilibrium is characterized and delivery of the socially optimal insurance policies is possible as long as providers are paid risk adjusted fees for each individual they serve when the payment can be made on the basis of an individual s risk it should be sufficient to cover the expected cost of the socially optimal policy for that person plus a mark up if payments can be made only on the basis of a partially informative signal the optimal risk based payments should be adjusted according to a simple linear transformation identified by glazer and mcguire glazer j mcguire t 2000 optimal risk adjustment of health insurance premiums an application to managed care american economic review 90 4 1055 1071

reimbursing health plans and health providers efficiency in production versus selection the tradeoff between an insurer s or medical provider s incentives to select good risks and to produce efficiently is governed by the supply price analog to the demand price tradeoff between moral hazard and risk aversion under a variety of models the optimum supply price is a mixture of capitation and fee for service payments empirical literature shows that pure capitation payment leaves strong incentives for selection that are acted upon the presence of contracting costs in a rothschild stiglitz model means a limited pooling equilibrium can exist and that poor risks will not be at their preferred outcome

competition and efficiency in the end stage renal disease program abstract estimated coefficients for medical service production or cost functions are subject to a competitive amenity bias which may result in the failure to identify factors that affect economic efficiency our investigation of productivity of dialysis facilities did indeed indicate both the likelihood of bias and some qualitative results these results suggest that it will be difficult to estimate cost and that variation in the level of reimbursement will in competitive markets affect the level of amenity delivered to patients incurred cost amenity and patient well being will all vary positively with the reimbursement level determining the right level of reimbursement requires a policy decision on how much total amenity society wishes to deliver to beneficiaries of public programs

a new index for electricity spot markets abstract different indexes are used in electricity markets worldwide to represent the daily behavior of spot prices however the peculiarities of these markets require a careful choice of the index based on mathematical formulation and its statistical properties choosing a bad index may influence the financial policies of market players since derivative pricing and hedging performance can be deeply affected in this paper with an initial theoretical analysis we intend to show that the most widely used indexes simple arithmetic average and weighted average with current volumes are poor representatives of the spot market we will then perform an analysis of the hedging strategy on a derivative instrument an asian option written on a reference index the resulting simulations applied to omel spain and eex germany are sufficiently clear cut to suggest that the decision to adopt an index to represent properly a market must be taken very carefully finally we will propose a new index fast index and after comparing it with the previous indexes will show that both theoretically and practically this index can be taken as a good electricity market synthetic indicator

collateral free lending with risk contingent credit for agricultural development indemnifying loans against pulse crop price risk in india this article addresses the problem of collateral free lending in the context of agricultural development we investigate a viable alternative to traditional credit products through the development of risk contingent credit for operating loans and farm mortgages and apply the concept to agricultural loans for pulse crops in india risk contingent credit mitigates business and financial risk by reducing debt obligations depending on the embedded commodity options whose payoffs are linked with commodity price fluctuations we analyze daily commodity spot prices for pulse crops in india and show how risk contingent structured financial instruments can be priced in practice

does medicare save lives health insurance characteristics shift at age 65 as most people become eligible for medicare we measure the impacts of these changes on patients who are admitted to hospitals through emergency departments for conditions with similar admission rates on weekdays and weekends the age profiles of admissions and comorbidities for these patients are smooth at age 65 suggesting that the severity of illness is similar on either side of the medicare threshold in contrast the number of procedures performed in hospitals and total list charges exhibit small but statistically significant discontinuities implying that patients over 65 receive more services we estimate a nearly 1 percentage point drop in 7 day mortality for patients at age 65 equivalent to a 20 reduction in deaths for this severely ill patient group the mortality gap persists for at least 9 months after admission

hedging the value of waiting abstract we analyze the optimal hedging policy of a firm that has flexibility in the timing of investment conventional wisdom suggests that hedging adds value by alleviating the under investment problem associated with capital market frictions however our model shows that hedging also adds value by allowing investment to be delayed in circumstances where the same frictions would cause it to commence prematurely thus hedging can have the paradoxical effect of reducing investment we also show that greater timing flexibility increases the optimal quantity of hedging but has a non monotonic effect on the additional value created by hedging these results may help explain the empirical findings that investment rates do not differ between hedgers and non hedgers and that hedging propensities do not depend on standard measures of growth opportunities

risk management in the global economy a review essay abstract this paper provides a review of developments in the area of risk management at both the firm level and the macro economy we review rationales regarding why firms choose to manage risk as well as new developments in measuring and managing risk in a dynamic setting we also consider current risk sharing arrangements in light of the theory regarding optimal risk sharing the paper concludes with some suggestions for additional research that emphasizes the importance of incorporating market incompleteness in an equilibrium setting we also discuss the role of incompleteness at the macro level and speculate on how derivatives markets may influence macro economic stabilization policy

financial constraints competition and hedging in industry equilibrium we analyze the hedging decisions of firms within an equilibrium setting that allows us to examine how a firm s hedging choice depends on the hedging choices of its competitors within this equilibrium some firms hedge while others do not even though all firms are ex ante identical the fraction of firms that hedge depends on industry characteristics such as the number of firms in the industry the elasticity of demand and the convexity of production costs consistent with prior empirical findings the model predicts that there is more heterogeneity in the decision to hedge in the most competitive industries

the welfare effects of bundling in multichannel television markets we measure how the bundling of television channels affects short run welfare we estimate an industry model of viewership demand pricing bundling and input market bargaining using data on ratings purchases prices bundles and input costs we conduct simulations of a la carte policies that require distributors to offer individual channels for sale to consumers we estimate that negotiated input costs rise by 103 0 percent under a la carte these higher input costs offset consumer benefits from purchasing individual channels mean consumer and total surplus change by an estimated 5 4 to 0 2 percent and 1 7 to 6 0 percent respectively jel d12 l11 l51 l82 m31

the incidence of mandated maternity benefits i consider the labor market effects of mandates which raise the costs of employing a demographically identifiable group the efficiency of these policies will be largely dependent on the extent to which their costs are shifted to group specific wages i study several state and federal mandates which stipulated that childbirth be covered comprehensively in health insurance plans raising the relative cost of insuring women of childbearing age i find substantial shifting of the costs of these mandates to the wages of the targeted group correspondingly i find little effect on total labor input for that group jel 118 j32 h51 in an era of tight fiscal budget constraints mandating employer provision of workplace benefits to employees is an attractive means for a government to finance its policy agenda consequently in recent years there has been a growth of interest in mandated benefits as a tool of social policy for example the centerpiece of president bill clinton s health care proposal is mandated employer provision of health insurance and more than 20 states have man

vertical integration foreclosure and productive efficiency we analyze the consequences of vertical integration by a monopoly producer dealing with two retailers downstream firms of varying efficiency via secret two part tariffs when integrated with the inefficient retailer the monopoly producer does not foreclose the rival retailer due to an output shifting effect this effect can induce the integrated firm to engage in below cost pricing at the wholesale level thereby rendering integration procompetitive output shifting arises with homogeneous and differentiated products moreover we show that integration with an inefficient retailer emerges in a model with uncertainty over retailers costs and this merger can be procompetitive in expectation

the nash bargaining solution in vertical relations with linear input prices abstract we re examine the nash bargaining solution when an upstream and n downstream firms bargain over a linear input price with unobservable contracts we show that the profit sharing rule is given by a simple and instructive formula which depends on the parties disagreement payoffs the profit weights in the nash product and the elasticity of derived demand a downstream firm s profit share increases in the equilibrium derived demand elasticity which in turn depends on the final goods demand elasticity

using cost observation to regulate firms the paper emphasizes the use of accounting data in regulatory or procurement contracts when the supplier 1 has superior information about the cost of the project and 2 invests in cost reduction the main result states that under risk neutrality the supplier announces an expected cost and is given an incentive contract linear in cost overruns this optimal contract moves toward a fixed price contract as the announced cost decreases an investment choice is then introduced and the use of a rate of return regulation is studied

ramsey pricing and supply side incentives in physician markets in this paper i develop a theory of optimal prices using a relative value scale where there are fixed costs of medical practice i consider a regulator constrained to set prices in excess of marginal cost in markets where physicians can create demand at the margin under these conditions basing prices on physician costs alone is shown to be suboptimal instead prices should anticipate the behavior of physicians by setting profit margins highest for services least susceptible to demand creation this is equivalent to a form of ramsey pricing used in this case to minimize the deadweight loss of oversupply

corporate liquidity and capital structure we solve for a firm s optimal cash holding policy within a continuous time contingent claims framework using dividends short term borrowing and equity issues as controls assuming mean reversion of earnings optimal cash is non monotone in business conditions and increasing in the level of long term debt the model matches closely a wide range of empirical benchmarks and predicts cash and leverage dynamics in line with the empirical literature firm value is quite insensitive to changes in the level of long term debt the model has interesting implications for asset substitution hedging and pecking order growth opportunities do not greatly affect cash holding policy

are patient regarding preferences stable evidence from a laboratory experiment with physicians and medical students from different countries abstract we quantify patient regarding preferences by fitting a bounded rationality model to data from an incentivized laboratory experiment where chinese medical doctors german medical students and chinese medical students decide under different payment schemes we find a remarkable stability in patient regarding preferences when comparing subject pools and we cannot reject the hypothesis of equal patient regarding preferences in the three groups the results suggest that a health economic experiment can provide knowledge that reach beyond the student subject pool and that the preferences of decision makers in one cultural context can be of relevance in a very different cultural context

setting health plan premiums to ensure efficient quality in health care minimum variance optimal risk adjustment abstract risk adjustment refers to the practice of paying health plans a premium per person or per family based on a formula using risk adjusters such as age or gender and weights on those adjusters one role of risk adjustment is to make sure plans have an incentive to accept all potential enrollees another role at least as important in our view is to lead health plans to choose the efficient level of quality of care for the various services they offer most of the research and policy literature on risk adjustment focuses on the first problem this paper proposes a new way to calculate weights in a risk adjustment formula that contends with both problems for a given set of adjusters we identify the weights that minimize the variance in plan predictable health care costs that are not explained by risk adjustment addressing the access problem subject to the payments satisfying conditions for an optimal risk adjuster making sure plans provide the efficient quality we call the formula minimum variance optimal risk adjustment mvora

stability in the federal employees health benefits program recently the federal employees health benefits program has been the subject of much discussion in washington as a result of the rather large premium increases in 1982 and 1983 the delayed open season of 1981 and the benefit reductions enrollees responded in may 1982 to the changes a record number switched plans it appears that enrollees were simply responding to the new premiums and benefits in this paper we describe the economic incentives faced by enrollees in the fehbp we find that due to the strong incentives for enrollees to leave certain high cost plans continued instability should be expected in fact the disparity between expected benefits and premium is so great for some plans e g the blue cross high option that their survival is questionable this lack of stability raises important questions about the viability of some pro competition proposals involving multiple insurer systems

does contracting out increase the efficiency of government programs evidence from medicaid hmos state governments contract with health maintenance organizations hmos to coordinate medical care for nearly 20 million medicaid recipients identifying the causal effect of hmo enrollment on government spending and health care quality is difficult if as is often the case recipients have the option to enroll in a plan to estimate the average effect of hmo enrollment this paper exploits county level mandates introduced during the last several years in the state of california that required most medicaid recipients to enroll in a managed care plan the empirical results demonstrate that the resulting switch from fee for service to managed care was associated with a substantial increase in government spending but no corresponding improvement in infant health outcomes the findings cast doubt on the hypothesis that hmo contracting has reduced the strain on government budgets

opportunism in multilateral vertical contracting nondiscrimination exclusivity and uniformity comment an input supplier selling to competing downstream firms would benefit from publicly committing at the outset to all contracts efficient commitment however would require complete contracts the authors study instead bilateral contracting without commitment regarding others terms each firm then fears that the supplier might opportunistically renegotiate another s contract to increase bilateral profit at the firm s expense the authors show that nondiscrimination clauses generally cannot curb such third party opportunism even with symmetric firms to reassure firms crude forms of commitment may be adopted this could explain the pervasiveness of exclusivity arrangements and the striking uniformity and intertemporal rigidity of franchise contracts copyright 1994 by american economic association

corporate risk management integrating liquidity hedging and operating policies we analyze the value created by a dynamic integrated risk management strategy involving liquidity management derivatives hedging and operating flexibility in the presence of several frictions we show that liquidity serves a critical and distinct role in risk management justifying high levels of cash we find that the marginal value associated with derivatives hedging is likely to be low though we explain why some empirical studies find a higher value we explore the complex interactions between operating flexibility and financial risk management finding that substitution effects are nonmonotonic and are affected by operating leverage the nature of operating flexibility and the effectiveness of the hedging instrument this paper was accepted by jerome detemple finance

the threat of cream skimming in the post reform nhs the allocation of budgets to general practitioners to enable them to purchase selected hospital services has been one of the most imaginative elements of the recent national health service reforms in britain however reliance on historic costs budgeting has weakened the efficiency incentives of fund holding while perpetuating the large variations in resource use endemic in general practice on the other hand policy changes aimed to introduce elements of capitation funding although welcome raise the spectre of cream skimming the paper explores the potential for protection against cream skimming offered by incorporating chronic health factors into the formula

optimal risk adjustment in markets with adverse selection an application to managed care it is well known that adverse selection causes distortions in contracts in markets with asymmetric information taxing inefficient contracts and subsidizing the efficient ones can improve market outcomes bruce c greenwald and joseph e stiglitz 1986 although regulators rarely seem to implement tax and subsidy schemes with adverse selection motives in mind contracts are often complex and incomplete and it is the inefficient elements of the contract that are difficult to verify and hence tax or subsidize this is precisely the reason that in health insurance markets rather than subsidizing contracts regulators and payers contend with adverse selection by taxing and subsidizing the price paid to insuring health plans on the basis of observable characteristics of the persons joining the plan a practice known as risk adjustment risk adjusted premiums are paid to managed care plans plans that ration care by management rather than by conventional approaches like coinsurance and deductibles and offer a bundle of characteristics quality access for many services that is fundamentally outside the scope of direct regulation selection related incentives threaten the efficiency and fairness of this organization of health insurance markets by inducing plans to distort the quality of the services they offer to discourage high cost persons from joining the plan as managed care becomes the predominant source of health care for residents of the united states and many other countries payers attempt to address this incentive by setting a risk adjusted price that pays more for more expensive enrollees as it is conventionally practiced risk adjustment sets prices for people proportional to their expected cost based on observable characteristics the federal medicare program for example has used age sex welfare status and county of residence adjusters to set prices to managed care plans to convey how what we term conventional risk adjustment works suppose age is the risk adjuster for a medicare population over 65 if it is determined that the 75to 84 year old population costs 20 percent more than the overall average in medicare the assumption in conventional risk adjustment is that the premium paid to plans for someone in this group should be 20 percent above the average we fundamentally disagree that this is the right way to think about and do risk adjustment

corporate policies with permanent and transitory shocks we model the financing cash holdings and hedging policies of a firm facing financing frictions and subject to permanent and transitory cash flow shocks the permanent and transitory shocks generate distinct sometimes opposite effects on corporate policies we use the model to develop a rich set of empirical predictions in our model correlated permanent and transitory shocks imply less risk lower cash savings and a drop in the value of credit lines the composition of cash flow shocks affects the cash flow sensitivity of cash which can be positive or negative optimal hedging of permanent and transitory shocks may involve opposite positions

bargaining ability and competitive advantage empirical evidence from medical devices in markets where buyers and suppliers negotiate supplier costs buyer willingness to pay and competition determine only a range of potential prices leaving the final price dependent on other fac

credit risk in a network economy we develop a structural model of credit risk in a network economy where any firm can lend to any other firm so that each firm is subject to counterparty risk either from direct borrowers or from remote firms in the network this model takes into account the role of each firm s cash management we show that we can obtain a semiclosed form formula for the price of debt and equity when cash accounts are buffers to bankruptcy risk as in other structural models the strategic bankruptcy decision of shareholders drives credit spreads and differentiates debt from equity cash flow risk also causes credit risk interdependencies between firms our model applies to the case where not only financial flows but also operations are dependent across firms we use queueing theory to obtain our semiclosed form formulae in steady state we perform a simplified implementation of our model to the u s automotive industry and show how we infer the impact on a supplier s credit spreads of revenue changes in a manufacturer or even in a large car dealer we also obtain prices for first to default and second to default basket credit default swaps

bilateral control with vertical contracts when a manufacturer contracts secretly with competing retailers he is subject to opportunism and linear or non linear tariffs may not allow the manufacturer to maintain monopoly prices to analyse the effects of rpm o brien shaffer 1992 use a concept of contract equilibrium which concentrates on pairwise deviations thereby questioning the robustness of the analysis this paper emphasises the distinction between the contract equilibrium and standard non cooperative concepts we advocate for some caution in the use of the former concept as if overlooks an inexistence problem we then confirm the intuition that rpm can help solve the manufacturer s commitment problem this confirms that o brien shaffer s insight is robust and validates the courts reluctance against rpm

a comparison of alternative models for the demand for medical care we have tested alternative models of the demand for medical care using experimental data the estimated response of demand to insurance plan is sensitive to the model used we therefore use a split sample analysis and find that a model that more closely approximates distributional assumptions and uses a nonparametric retransformation factor performs better in terms of mean squared forecast error simpler models are inferior either because they are not robust to outliers e g anova anocova or because they are inconsistent when strong distributional assumptions are violated e g a two parameter box cox transformation

hospital profits the effects of reimbursement policies this paper provides a theoretical and empirical analysis of the effect of cost based reimbursement cbr on hospital costs and charges it takes issue with previous analyses which have treated cbr as paying economic costs plus a mark up and have concluded that the mark up is too small to significantly distort hospital decision making the basic thesis here is that if reimbursement is based on costs accounting costs become a price to cost paying patients and will be optimized to maximize revenue a hospital serving both cost and charge paying private patients can set two price schedules accounting profits ratio of charges to costs are not a measure of economic profit but of relative prices to these two groups of patients in the absence of constraints from regulation or patient co payment the optimum level of accounting costs would be infinite in practice the medicare reimbursement formula links allowable costs to charges received from charge paying patients this formula creates incentives for the hospital to raise charges above the single price profit maximizing monopoly level this inflationary effect of the medicare formula does not presuppose that medicare pays less than full cost the empirical analysis of hospital laboratory costs and charges generally supports the predictions for other departments the conclusions are consistent but more tentative because of data limitations overall evidence suggests minimal cross subsidy between cost and charge paying patients comparisons of cost and charge levels in for profit voluntary non profit and government hospitals are presented but it is emphasized that inferences about relative efficiency and profitability cannot be drawn from accounting data given the incentives created by cbr

derivative cash flows and corporate investment abstract according to an influential argument corporate hedging supports corporate investment when internal cash flows are volatile and external financing is costly froot scharfstein and stein 1993 despite its vast influence the predictions of this theory have not yet been directly tested using actual derivative cash flows this study uses hand collected data on cash flows from derivative positions in the oil and gas industry between 2000 and 2015 strikingly on average an extra dollar in derivative cash flows translates into one more dollar in capital expenditure during industry recessions the median ratio of derivative cash flows to capital expenditure rises to 20 for hedging firms suggesting that derivatives play a crucial role in sustaining investment when the cost of external financing rises abruptly

a model of the impact of reimbursement schemes on health plan choice flat capitation uniform prospective payments makes enrolling healthy enrollees profitable to health plans plans with relatively generous benefits may attract the sick and fail through a premium spiral we simulate a model of idealized managed competition to explore the effect on market performance of alternatives to flat capitation such as severity adjusted capitation and reduced supply side cost sharing in our model flat capitation causes severe market problems severity adjustment and to a lesser extent reduced supply side cost sharing improve market performance but outcomes are efficient only in cases in which people bear the marginal costs of their choices