the empirical content of the roy model this paper clarifies and extends the classical roy model of self selection and earnings inequality the original roy model based on the assumption that log skills are normally distributed is shown to imply that pursuit of comparative advantage in a free market reduces earnings inequality compared to the earnings distribution that would result if workers were randomly assigned to sectors aggregate log earnings are right skewed even if one sectoral distribution is left skewed most major implications of the log normal roy model survive if differences in skills are log concave however few implications of the model survive if skills are generated from more general distributions we consider the identifiability of the roy model from data on earnings distributions the normal theory version is identifiable without regressors or exclusion restrictions sectoral distributions can be identified knowing only the aggregate earnings distribution for general skill distributions the model is not identified and has no empirical content with sufficient price variation the model can be identified from multimarket data cross sectional variation in regressors can substitute for price variation in restoring empirical content to the roy model

variance risk premium dynamics the role of jumps using high frequency stock market data and synthetic variance swap rates this paper identifles and investigates the temporal variation in the market variance risk premium the variance risk is manifest in two salient features of flnancial returns stochastic volatility and jumps the pricing of these two separate components is analyzed in a general semiparametric framework the key empirical results imply that investors fears of future jumps are especially sensitive to recent jump activity and that their willingness to pay for protection against jumps increase signiflcantly immediately after the occurrence of jumps this in turn suggests that time varying risk aversion as previously documented in the literature is primarily driven by large or extreme market moves the dynamics of risk neutral jump intensity extracted from deep out of the money put options conflrms these flndings jel c51 c52 g12 g13

sorting equilibrium in a multi jurisdiction model abstract this paper analyzes a general model of an economy with heterogeneous individuals choosing among two jurisdictions such as towns or political parties each jurisdiction is described by its constitution where a constitution is defined as a mapping from all possible population partitions into the possibly multidimensional policy space this study is the first to establish sufficient conditions for existence of sorting equilibria in a two jurisdiction model for a policy space of an arbitrary dimension

stochastic production and heterogeneous risk preferences commercial fishers gear choices we present a model of fishers gear choice which allows for heterogeneity both in production technology and risk preferences and apply it on a panel of swedish trawlers stochastic revenue functions are estimated and used to predict the mean and standard deviation of revenue for each trip in a random parameters logit model we test if these predicted values explain gear choice a majority of fishers respond positively to increased mean and negatively to increased variability of expected landing values indicating risk aversion but also show a strong tendency to choose the same gear used on the previous trip

invariant risk attitudes concepts of constant absolute risk aversion and constant relative risk aversion have proved useful in the analysis of choice under uncertainty but are quite restrictive particularly when they are imposed jointly a generalization of constant risk aversion referred to as invariant risk aversion is developed invariant risk aversion is closely related to the possibility of representing preferences over state contingent income vectors in terms of two parameters the mean and a linearly homogeneous translation invariant index of riskiness the best known index with such properties is the standard deviation the properties of the capital asset pricing model usually expressed in terms of the mean and standard deviation may be extended to the case of general invariant preferences c 2003 elsevier inc all rights reserved

the variable choice set logit model applied to the 2004 canadian election formal work on the electoral model often suggests that parties should locate at the electoral mean recent research has found no evidence of such convergence in order to explain non convergence the stochastic electoral model is extended by including a competence and sociodemographic valance in a country where regional and national parties compete in the election that is the model allows voters to face different sets of parties in different regions we introduce the notion of a convergence coefficient c for regional and national parties and show that when c is high there is a significant centrifugal tendency acting on parties an electoral survey of the 2004 election in canada is used to construct a stochastic electoral model of the election with two regions quebec and the rest of canada the survey allows us to estimate voter positions in the policy space the variable choice set logit model is used to built a relationship between party position and vote share we find that in the local nash equilibrium for the election the two main parties with high competence valence the liberals and conservatives locate at the national electoral mean and the bloc quebecois with the highest competence valence locates at the quebec electoral mean the new democratic party has a low competence valence but remains at the national mean the greens with lowest competence valence locate away from the national mean to increase its vote share

interest rates and currency prices in a two country world abstract this paper is a theoretical study of the determination of prices interest rates and currency exchange rates set in an infinitely lived two country world which is subject both to stochastic endowment shocks and to monetary instability formulas are obtained for pricing all equity claims nominally denominated bonds and currencies and these formulas are related to earlier closely related results in the theories of money finance international trade

are unemployment and out of the labor force behaviorally distinct labor force states this paper tests the hypothesis that the classifications unemployed and out of the labor force are behaviorally meaningless distinctions this hypothesis is rejected distinct behavioral equations govern transitions from out of the labor force to employment and from unemployment to employment the evidence reported in this paper is broadly consistent with versions of search theory in which unemployment is a state that facilitates the job search process in an appendix we demonstrate that log concavity of the wage offer distribution implies that the exit rate from unemployment is an increasing function of the rate of arrival of job offers

efficiency and surplus bounds in cournot competition we derive bounds on the ratios of deadweight loss and consumer surplus to producer surplus under cournot competition to do so we introduce a parameterization of the degree of curvature of market demand using the parallel concepts of concavity and convexity the more concave is demand the larger the share of producer surplus in overall surplus the smaller is consumer surplus relative to producer surplus and the lower the ratio of deadweight loss to producer surplus deadweight loss over total potential surplus is at rst increasing with demand concavity then eventually

option implied volatility factors and the cross section of market risk premia abstract the main goal of this paper is to study the cross sectional pricing of market volatility the paper proposes that the market return diffusion volatility and jump volatility are fundamental factors that change the investors investment opportunity set based on estimates of diffusion and jump volatility factors using an enriched dataset including s p 500 index returns index options and vix the paper finds negative market prices for volatility factors in the cross section of stock returns the findings are consistent with risk based interpretations of value and size premia and indicate that the value effect is mainly related to the persistent diffusion volatility factor whereas the size effect is associated with both the diffusion volatility factor and the jump volatility factor the paper also finds that the use of market index data alone may yield counter intuitive results

on the analysis of asymmetric first price auctions we provide a new set of tools for studying asymmetric rst price auctions connecting their equilibria to the concavity of the underlying type distributions and showing how one can use surplus expressions related to symmetric auctions to bound equilibrium behavior in asymmetric auctions we apply these tools to studying procurement auctions in which as is common in practice one seller is given an advantage re ecting for example better reliability or quality we show conditions under which for any given rst price handicap auction there is a second price auction with bonuses that outperforms it with most of our results involving ex post dominance

are crop yields normally distributed the evidence for nonnormality of crop yields is reassessed three methodological problems are identified in typical yield distribution analyses i misspecification of the nonrandom components of yield distributions ii missreporting of statistical significance and iii use of aggregate timeseries ats data to represent farm level yield distributions one or more of these problems infect virtually all evidence against normality to date the positive contribution of the article is a set of principles that must be followed in any valid investigation of yield normality

sufficient conditions for expected utility to imply mean standard deviation rankings empirical evidence concerning the location and scale condition this paper presents and implements a procedure which examines for empirical support for the location and scale condition the kolmogorov smirnov multisample test is used to determine if the distribution functions describing the nonsystematic risk component of rate of return for portfolios of common stock are equal to one another except for location and scale implications concerning the relationship between mean variance and expected utility efficient sets are noted copyright 1992 by royal economic society

jump and volatility risk premiums implied by vix abstract an estimation method is developed for extracting the latent stochastic volatility from vix a volatility index for the sp 2 the jump and volatility risks are priced 3 the popular square root stochastic volatility process is a poor model specification irrespective of allowing for price jumps or not our simulation study shows that statistical inference is reliable and not materially affected by the approximation used in the vix index construction

negative moments risk aversion and stochastic dominance a simple moment ordering condition is shown to be necessary for stochastic dominance closely related results on generalizations of the geometric and harmonic means are also provided an ordering of the moment generating functions is shown to be necessary and sufficient for stochastic dominance the results have a straightforward and useful interpretation in terms of constant relative and absolute risk aversion utility functions these results are used to provide necessary and sufficient conditions for optimality of distributions on an important class of utility functions

parimutuel contests with strategic risk sensitive bettors abstractexisting models in the parimutuel betting literature typically explain betting data by either assuming a single representative bettor with certain risk preferences or by assuming that a number of risk neutral bettors compete strategically within a game theoretic framework we construct a theoretical framework of parimutuel markets in which we model both strategic interaction and individual bettor risk preferences distinguishing between sophisticated insiders and recreational outsiders we solve this model analytically for the optimal insider betting amount in a static symmetric nash equilibrium a new data set of 126 million individual horse race bets in new zealand from 2006 to 2014 allows us to calibrate the model we find that insiders those betting 100 or more outperform outsiders by 7 5 in terms of realized returns the best fit of the model to the data is obtained when insiders are assumed to be risk neutral and to have an information advantage of 0 08 in probability terms this findin

a bargaining model of collective choice we present a general model of legislative bargaining in which the status quo is an arbitrary point in a multidimensional policy space in contrast to other bargaining models the status quo is not assumed to be bad and delay may be pareto efficient we prove existence of stationary equilibria the possibility of equilibrium delay depends on four factors risk aversion of the legislators the dimensionality of the policy space the voting rule and the possibility of transfers across districts if legislators are risk averse if there is more than one policy dimension and if voting is by majority rule for example then delay will almost never occur in one dimension delay is possible if and only if the status quo lies in the core of the voting rule and then it is the only possible outcome this core selection result yields a game theoretic foundation for the well known median voter theorem our comparative statics analysis yield two noteworthy insights i if the status quo is close to the core t hen equilibrium policy outcomes will also be close to the core a moderate status quo produces moderate policy outcomes and ii if legislators are patient then equilibrium proposals will be close to the core legislative patience leads to policy moderation

the robustness of risk return nonlinearities to the normality assumption in a recent study tinic and west 1986 empirically reexamine the risk return relationship posited by the traditional mean variance capm they find a positive nonlinear relationship between risk and return except during january when the market rewards bearing nonsystematic risk this study examines the hypothesis that nonnormality of re turn distributions may account for some of these anomalous results we compare shalit and yitzhaki s 1984 mean extended gini capm an equilibrium asset pricing relation that is independent of the form of the underlying asset distribution with the traditional capm our results indicate that the nonlinear risk return relationship and the size and january effects are robust to nonnormality of return distributions

time changed levy processes and option pricing abstract the classic black scholes option pricing model assumes that returns follow brownian motion but return processes differ from this benchmark in at least three important ways first asset prices jump leading to non normal return innovations second return volatilities vary stochastically over time third returns and their volatilities are correlated often negatively for equities time changed levy processes can simultaneously address these three issues we show that our framework encompasses almost all of the models proposed in the option pricing literature and it is straightforward to select and test a particular option pricing model through the use of characteristic function technology

two moment decision models and expected utility maximization two moment decision models are consistent with expected utility maximization only if the choice set or the agent s preferences are restricted this paper identifies a restriction which is sufficient to ensure this consistency and confirms that it holds in many economic models the implications for economic analysis are then derived two different approaches to representing an agent s preferences over strategies yielding random payoffs are in wide use under the mean standard deviation ms approach the agent is assumed to rank the alternatives according to the value of some function defined over the first two moments of the random payoff while the expected utility eu criterion assumes that the expected value of some utility function defined over payoffs is used instead the fact that there are these two competing approaches has generated a considerable literature some authors are concerned with the advantages and disadvantages of each while others deal with conditions under which the potentially different approaches would yield the same results or at least approximately so space does not

us presidential elections and implied volatility the role of political uncertainty abstract this paper focuses on the effects of political uncertainty and the political process on implied stock market volatility during us presidential election cycles using monthly iowa electronic markets data over five elections we document that stock market uncertainty as measured by the vix volatility index increases along with positive changes in the probability of success of the eventual winner the association between implied volatility and the election probability of the eventual winner is positive even after controlling for changes in overall election uncertainty these findings indicate that the presidential election process engenders market anxiety as investors form and revise their expectations regarding future macroeconomic policy

the statistics of sharpe ratios the building blocks of the sharpe ratio expected returns and volatilities are unknown quantities that must be estimated statistically and are therefore subject to estimation error this raises the natural question how accurately are sharpe ratios measured to address this question i derive explicit expressions for the statistical distribution of the sharpe ratio using standard asymptotic theory under several sets of assumptions for the return generating process independently and identically distributed returns stationary returns and with time aggregation i show that monthly sharpe ratios cannot be annualized by multiplying by 12 except under very special circumstances and i derive the correct method of conversion in the general case of stationary returns in an illustrative empirical example of mutual funds and hedge funds i find that the annual sharpe ratio for a hedge fund can be overstated by as much as 65 percent because of the presence of serial correlation in monthly returns and once this

contract cheating the market in essays we conduct the first empirical economic investigation of the decision to cheat by university students we investigate student demand for essays using hypothetical discrete choice experiments in conjunction with consequential holt laury gambles to derive subjects risk preferences students stated willingness to participate in the essay market and their valuation of purchased essays vary with the characteristics of student and institutional environment risk preferring students those working in a non native language and those believing they will attain a lower grade are willing to pay more purchase likelihoods and essay valuations decline as the probability of detection and associated penalty increase

risk taking in contests and the role of carrots and sticks i introduction when individuals compete for promotions bonuses or other rewards tied to their relative performance ranking vis a vis other contestants competition is likely to drive not just work effort but where imperfect monitoring permits other choices at the contestants discretion in this article we ask how rank dependent compensation influences attitudes toward risk or the choice of variance of output when contestants have opportunities to influence this aspect of their output distribution unlike previous literature we assume that it is costly for contestants to alter the variance of output and that identical contestants simultaneously choose both the mean of their output distribution i e work effort and its variance our analysis emphasizes the importance of the number of players and symmetry or lack thereof of payoffs on contestants incentives we find that contestants will engage in risk seeking increasing the variance of their output distribution in contests among three or more players when the payoff structure offers a greater prize for ranking first than the penalty for ranking last as happens in winner take all contests if the tournament organizer or sponsor values the aggregate output of the contestants as is typically assumed in labor market tournaments this risk seeking behavior is inefficient because it is costly but does not increase the expected output however we argue that many contests such as the research and development tournaments first modeled by taylor 1995 may be characterized by an organizer who cares only or primarily about the highest output achieved by a single contestant e g the best submission received in such cases the organizer may benefit from costly risk taking among contestants we show that three payoff levels a prize to the contestant ranked first a penalty to the contestant ranked last and a common intermediate payoff to all others are sufficient to achieve any combination of effort and variance of output that the organizer wishes to induce among contestants so long as the desired output variance does not exceed that which results from a winner take all prize structure therefore the sponsor s problem can be characterized as choosing the optimal mean and variance of the output distribution given the contestants costs of influencing the mean and variance of output in this way our model provides an explanation for the importance of both carrots prizes and sticks penalties in competitive settings only through the combined use of both can a contest organizer determine the effort and the variance of output chosen by contestants and doing so is necessary to achieve optimal performance from contests since the pioneering work of lazear and rosen 1981 nalebuff and stiglitz 1983 o keeffe viscusi and zeckhauser 1984 and others rank order tournaments or contests have been used to model incentives in a variety of economic settings in particular executive compensation has frequently been modeled as a tournament in which low level executives are motivated by the prospect of climbing the corporate ladder and obtaining the large salaries attendant to top ranking executives as in rosen 1986 and bognanno 2001 similarly the behavior of investment fund managers who compete for top fund rankings has been modeled as a tournament by brown harlow and starks 1996 taylor 1995 developed a model of research tournaments in which contestants search for an innovation and the best innovation submitted to the sponsor wins a prize the distinguishing feature of a tournament or contest is that contestants are paid based on the rank of their output relative to others rather than the level of output prize levels are set in advance and competition to win generates the incentive to exert effort to increase output lazear and rosen 1981 showed that rank order tournaments can provide an efficient incentive framework in a labor market setting when workers are risk neutral

mean and variance responsive learning decision makers are often described as seeking higher expected payoffs and avoiding higher variance in payoffs we provide some necessary and some sufficient conditions for learning rules that assume the agent has little prior and feedback information about the environment to reflect such preferences we adopt the framework of borgers morales and sarin 2004 econometrica who provide similar results for learning rules that seek higher expected payoffs our analysis reveals that a concern for variance leads to quadratic transformations of payoffs to appear in the learning rule

minimum payments and induced effort in moral hazard problems abstract consider a moral hazard problem in which there is a constraint to pay the agent no less than some amount m this paper studies the effect of changes in m on the effort that the principal chooses to induce from the agent we present sufficient conditions on the informativeness of the signal observed by the principal and on the agent s utility under which when m increases induced effort and hence productivity falls we also study how the cost minimizing contract for any given effort level varies in m we present an efficient algorithm for numerically calculating optimal contracts for given parameters and show that induced effort falls when m is increased in many cases even when our sufficient conditions fail

sufficient conditions for expected utility to imply drawdown based performance rankings the least restrictive sufficient condition for expected utility to imply sharpe ratio rankings is the location and scale ls condition see meyer 1987 the ls condition includes the normal and many other asymmetric and leptokurtic distributions commonly used in finance in this paper we argue that this condition is also sufficient for expected utility to imply drawdown based performance measure rankings because for investment funds satisfying the ls condition it does not matter whether funds are ranked with the sharpe ratio or with a drawdown based performance measure as the rankings are identical hence the same conditions that provide an expected utility foundation for the sharpe ratio also provide an expected utility foundation for drawdown based performance measures theoretically drawdown based performance measures are as good as the sharpe ratio

a note on empirical sharpe ratio dynamics abstract generating a high positive excess return in a prospective period does not necessarily increase the empirical sharpe ratio of an investment fund therefore we derive a critical range in which prospective excess returns must lie in order to increase its empirical sharpe ratio we also give a formal statement of an excess return value within this critical range that leads to the maximum possible empirical sharpe ratio in the prospective period

near optimality of second price mechanisms in a class of asymmetric auctions consider a setting with n sellers having i i d costs with log concave density f from cumulative f and a buyer who puts a premiumi on procuring from seller i we show how for any given 1 n a sim ple second price bonus auction can be chosen which comes surprisingly close to giving the auctioneer the same surplus as an optimal mecha nism the bonuses depend only on the magnitude and monotonicity of the slope of virtual costs given f we show that these in turn depend only on fairly coarse information about f we explore how this result generalizes to asymmetrically distributed costs abstract

risk aversion and the choice between risky prospects the preservation of comparative statics results most results in what can be termed the comparative statics of risk aversion are obtained when there is only one source of uncertainty the primary example which originally motivated the definition of risk aversion is that more risk averse people are willing to pay a higher premium for insuring against risk it is known that the results do not generally carry over when there is another source of uncertainty the paper develops conditions under which comparative statics results are robust against the introduction of additional sources of uncertainty

does reducing the capital gains tax rate raise or lower investment abstract the effect of taxation of capital gains on the decision to purchase a risky asset is explored within a theoretical framework similar to that of the capital asset pricing model tax rate reductions have two offsetting effects one is to raise the after tax expected return while the other is to increase the amount of risk borne by private agents conditions for determining which effect dominates are derived

a decision theoretic foundation for reward to risk performance measures abstract in this paper we prove that partial moments based performance measures e g omega kappa upside potential ratio sortino satchell ratio farinelli tibiletti ratio value at risk based performance measures e g var ratio cvar ratio rachev ratio generalized rachev ratio and other admissible performance measures are a strictly increasing function in the sharpe ratio the theoretical basis of this result is the location and scale property and two other plausible and mild conditions our result provides a decision theoretic foundation for all these frequently used performance measures moreover it might explain the empirical finding that all these measures typically lead to very similar rankings

evaluating agricultural energy policies under uncertainty the case of electricity in south india abstract farmers attitude towards risk associated with the availability of energy inputs will influence their investment behavior and demand for energy inputs in order to analyze policies that reduce the risk in energy availability some modifications in methods are required this study using a mean variance framework demonstrates how cross sectional data and time series data on crop yields and prices can be used to analyze agricultural energy policies under uncertainty in a developing country context it is argued that the farmers risk attitudes their crop allocation behavior changes in the demand for energy inputs and the stochastic relationship between various forms of energy inputs can be explained by the various energy constraints faced by them furthermore using the same methods the impact of policies which affect these constraints can be analyzed

efficient gradualism in intertemporal portfolios abstract this paper examines intertemporal portfolio plans under autocorrelation in asset returns and considers whether these plans conform to the common advice that risky assets be bought gradually and then held in decreasing amounts as the investment horizon approaches given elliptical returns optimal portfolio plans with precommitment must be mean variance efficient then for arma 1 1 parameterizations with negative autocorrelation the age effect gradual diminishing of risky holdings as the horizon approaches is confirmed as is dollar cost averaging gradual entry into the risky asset for sufficiently distant horizons for a numerically analyzed alternative bivariate returns process only the age effect is confirmed

stochastic risk premiums stochastic skewness in currency options and stochastic discount factors in international economies abstract we develop models of stochastic discount factors in international economies that produce stochastic risk premiums and stochastic skewness in currency options we estimate the models using time series returns and option prices on three currency pairs that form a triangular relation estimation shows that the average risk premium in japan is larger than that in the us or the uk the global risk premium is more persistent and volatile than the country specific risk premiums and investors respond differently to different shocks we also identify high frequency jumps in each economy but find that only downside jumps are priced finally our analysis shows that the risk premiums are economically compatible with movements in stock and bond market fundamentals

aggregation and imperfect competition on the existence of equilibrium we present a new approach to the theory of imperfect competition and apply it to study price competition among differentiated products the central result provides general conditions under which there exists a pure strategy price equilibrium for any number of firms producing any set of products this includes products with multi dimen sional attributes in addition to the proof of existence we provide conditions for uniqueness our analysis covers location models the characteristics approach and probabilistic choice together in a unified framework to prove existence we employ aggregation theorems due to prekopa 1971 and borell 1975 our companion paper caplin and nalebuff 1991 introduces these theorems and develops the application to super majority voting rules we present a new approach to the theory of imperfect competition and apply it to study price competition among differentiated products the central result is that there exists a pure strategy price equilibrium for any number of firms producing any set of products in addition to the proof of existence we provide conditions for uniqueness our model both unites diverse strands of the earlier literature and opens up uncharted areas for future analysis in particular we expand the traditional one dimensional framework to allow for multi dimen sional product differentiation our approach involves twin restrictions on consumer preferences one on individuals preferences the other on the distribution of preferences across society these are generalizations of the restrictions supporting 64 majority rule presented in caplin and nalebuff 1988 to prove existence we apply a new technique of aggregation this technique is valuable in a variety of other problems in the companion paper we use the aggregation result to generalize our earlier work on 64 majority rule and to characterize the relationship between the distribution of human capital and the distribution of income caplin and nalebuff 1991 there are additional applications in statistics and in search theory we begin with a brief review of the early literature on imperfect competition describing in more detail the existence problem and previous solutions section 3 presents our twin assumptions and shows that they cover many standard cases in section 4 we introduce the aggregation theorem and use it in the analysis of demand functions the proof of existence of equilibrium is in section

volatility components leverage effects and the return volatility relations abstract this paper investigates the risk return trade off by taking into account the model specification problem market volatility is modeled to have two components one due to the diffusion risk and the other due to the jump risk the model implies merton s icapm in the absence of leverage effects whereas the return volatility relations are determined by interactions between risk premia and leverage effects in the presence of leverage effects empirically i find a robust negative relationship between the expected excess return and the jump volatility and a robust negative relationship between the expected excess return and the unexpected diffusion volatility the latter provides an indirect evidence of the positive relationship between the expected excess return and the diffusion volatility