Knowledge that Transforms

Abstract We derive three testable predictions from a bank-P2P lender model of competition: (a) P2P lending grows when some banks are faced with exogenously higher regulatory costs; (b) P2P loans are riskier than bank loans; and (c) the risk-adjusted interest rates on P2P loans are lower than those on bank loans. We test these predictions against data on P2P loans and the consumer bank credit market in Germany and find empirical support. Overall, our analysis indicates that P2P lenders are bottom fishing, especially when regulatory shocks create a competitive disadvantage for some banks. (JEL G21)

Abstract We develop a model of optimal capital structure in imperfectly competitive markets by focusing on a duopoly. The model endogenizes both the financing and investment decisions of firms. We show that in equilibrium the industry leader uses debt conservatively, while the follower uses debt more aggressively and, as the result, defaults first. The model generates novel predictions about the leverage choices of the leader and the follower, their default likelihood, and the degree of leverage dispersion between competing firms. These predictions are strongly supported by the data. (JEL G13, G34, L13)

Abstract We use the U.S. Department of Housing and Urban Development’s Housing Choice Voucher program as a setting to evaluate the interaction of homeownership and race on the wealth accumulation of low-income households. Using a within-treatment difference-in-differences framework, we establish that low-income households that receive assistance in owning a home experience increased wealth accumulation relative to their tenure as renters. These wealth gains are not present among low-income minority households. Our findings provide evidence that homeownership is a driver of wealth formation for low-income households and that homeownership does not inherently reduce racial disparities in wealth. (JEL G51, J15, R21).

Abstract We provide evidence on how cultural differences affect loan pricing by using a unique data set from the Italian Credit Register. We show that immigrants pay more for credit compared with natives and that this difference is smaller for immigrants who have Italian parents and for those belonging to the Christian religion. Furthermore, we find that the gap between immigrants and natives narrows as the amount of information shared among lenders through the credit register increases. This suggests that most of the higher cost of credit paid by immigrants is due to statistical discrimination rather than taste-based discrimination. (JEL G21, J15, J71)

Abstract Biomedical innovation suffers from a “funding gap” between the needs of drug development firms and the availability of funds. The requirement of large investments for drug development projects and the high pipeline risk associated with FDA approval causes this funding gap in part. In this paper, we propose a new financial instrument—the “FDA hedge”—that pays off upon FDA approval failure. We develop a theory to show that the FDA hedge can help eliminate the funding gap. Using novel project-level data, we establish empirically that FDA hedge risk is idiosyncratic, and show how better sharing this risk can spur welfare-enhancing R&D. (JEL G11, G13, G22, I11, L65, O32 Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

Abstract Certification by analysts on a FinTech platform that harnesses the “wisdom of crowds” is associated with successful initial coin offerings (ICOs). We show that favorable ratings by a group of analysts with diverse backgrounds positively predict fundraising success and long-run token performance. Analysts’ ratings also help detect potential fraud ex ante. We document that analysts have career concerns and are incentivized by the platform to issue informative ratings. Overall, our results suggest that a market-based certification process that relies on a diverse group of individuals is at play in financing blockchain startups. (JEL D82, G11, G24, G32, G34, L26).

Abstract We document the beneficial impact of human capital transfer from banks to nonfinancial firms: firms hiring ex-bankers have higher asset and employment growth and easier access to bank loans. Using a unique employee-employer-matched data set from Russia and exogenous variation in ex-bankers’ supply due to bank-branch-network restructurings, we establish the causal interpretation of these patterns. We also show that ex-bankers’ human capital consists of bank-specific and banking industry expertise (with the latter being acquired through interbank connections). Firms recognize the value of ex-bankers, who receive significant salary bonuses when a new bank loan is issued to the firm (JEL G21, G32, J24). Received August 17, 2020; editorial decision January 5, 2022; by editor: Isil Erel. Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

Abstract As of 2019, salary history bans were enacted by 17 states and Puerto Rico with the stated purpose of reducing the gender pay gap. We argue that salary history bans may negatively affect wages as employers lose an informative signal of worker productivity. We empirically evaluate these laws using a large panel dataset of disaggregated wages covering all public-sector employees in 36 states and find, on average, that salary history bans lead to a 3% decrease in new-hire wages. We find no decrease in the gender pay gap in the full sample and a modest 1.5% increase in the relative wages of women, as compared to men, among new hires most likely to have experienced gender discrimination historically.

Abstract Using hand-collected data, we show that coinvestment is widespread in the angel investment market, even among seed-stage startups. Individual angels with demonstrated seed-stage success experience an increase in the quantity, quality, and geographic and industry spread of their coinvestment connections relative to unsuccessful peers and are rewarded with more deal flow. These results are stronger for less-established angels and for angels whose successes are more indicative of their ability. Success also begets more success: the portfolio companies of successful angels are more likely to receive follow-on financing, especially from VC firms. Our results highlight how angels grow their coinvestment networks. (JEL G24, L14, L26, M13).

In 1964, U.S. President Lyndon Johnson signed the Civil Rights Act, making discrimination on the basis of sex, race, religion, or national origin illegal. Much has been achieved since then to reduce disparities and discrimination in financial markets and the corporate world, yet some of these practices persist. Why is that? After almost sixty years of “equal-opportunity statements” inserted in job advertisements across America and other countries, are companies preventing discrimination and aiming to foster diversity? And are lenders seriously addressing the disparities in the supply of credit observed between different racial groups? These were the questions that the Editorial Board of the Review of Corporate Finance Studies discussed as we decided to make good on our commitment to introduce the idea of Registered Reports on a permanent, rather than ad hoc, basis. It was the summer of 2020, and in the midst of the first wave of the Covid-19 pandemic, the United States also experienced an intense debate on racial disparities following the tragic death of George Floyd. We felt we had to contribute through our responsibilities as editors and encourage academic work on the theme of “Discrimination, Disparities, and Diversity in Finance.” We wanted this subject to be the first topic of our annual initiative in the form of Registered Reports. While we all agree that discrimination should be removed for markets to function more efficiently, and diversity should be fostered to address other market failures, we see a relative scarcity of papers on this important topic in finance journals. One reason could be that scholars think of this area as too risky a field to venture into. For example, they may feel that the topic may be politically charged or may not appeal to editors, or there may not be enough high-quality referees working in the area. With the choice of this theme for Registered Reports, we wanted to establish clearly that we believe that the topic is very important and we were willing to contribute to inspire more research in this area. Through the Registered Reports initiative, we hope to transfer some of the risk from authors to us as the editors. The initiative is structured as a two-stage process. In the first stage, the editorial review team carefully reviews each proposal. Proposals that survive the first stage are then offered an in-principle acceptance for publication in the Review of Corporate Finance Studies before the final results are known, as long as authors work diligently on the comments made by the reviewers and write papers that meet high academic standards. We received thirty-two proposals and chose eight of them to continue to the second stage. The proposals were first presented, and widely discussed, during the 2021 RCFS Winter Conference. Over almost a year, each of these eight Reports morphed, after much work by the authors and the reviewers, into the impactful papers we were hoping for. Our gratitude and appreciation go to the eight reviewers who worked so avidly and with deep commitment in turning the initial Reports into full-fledged, quality papers. The papers you will read in this volume are those that were chosen and have made it to the publication stage. We hope that the success of this first initiative will encourage more academics to research such socially important themes and that Registered Reports on other themes will be as successful in the future. Wealth inequality has widened significantly in the United States over the past few decades. One way that wealth is built is through homeownership. Expanding homeownership among low-income and minority groups is seen as an important public policy in the United States to tackle the wealth gap. But how important is homeownership in reducing wealth inequality? Ashleigh Eldemire, Kimberly F. Luchtenberg, and Matthew M. Wynter investigate this very important question in their paper “Does Homeownership Reduce Wealth Disparities for Low-income and Minority Households?” The authors use the U.S. Department of Housing and Urban Development’s (HUD) Housing Choice Voucher (HCV) program as the laboratory to answer the question. The program provides eligible low-income households assistance with either rental payments or mortgage payments and homeownership expenses. In their analysis, the authors trace the changes in wealth outcomes of low-income households that went from getting housing assistance for tenancy to becoming homeowners. This empirical strategy takes care of unobservable factors across households that could affect wealth accumulation, while allowing wealth outcomes to vary by race. The authors find that on average low-income households gain $3.3K in wealth as homeowners compared to being renters. Less wealth accumulation for minority-headed households is observed, consistent with recent results showing that homeownership does not reduce racial gaps in wealth. There is also evidence pointing to increased labor supply following the transition to homeownership, but even here there is a disparity across different segments: minority households have comparable incomes but show lower workforce participation rates. Neighborhood selection is a very important channel that can explain why minority-headed households end up with lower wealth outcomes. The other two channels are the financial fragility of the household and the timing of the home purchase. Academic literature has specifically identified racial and ethnic disparities in residential mortgage lending as two important dimensions that need to be addressed. Various studies provide evidence that minorities face the combination of higher probabilities of being denied a mortgage and a higher cost of capital when they do get credit. In “Racial Disparities in Mortgage Lending: New Evidence Based on Processing Time,” Bin Wei and Feng Zhao investigate the time to process a loan application, a dimension about which very little is known. Delays in processing applications can introduce unnecessary uncertainty into the process of purchasing a home or refinancing an existing mortgage loan. Using HMDA data from 2001 through 2006, the authors find that loan applications by Black borrowers take longer to process than applications by White, Hispanic, or Asian borrowers. In fact, including lender fixed effects widens the racial gap, doubling the gap between Black and White borrowers from 1.8 days to 3.4 days. This is an important result because it implies differential treatment of minority and White borrowers by the same lender. The gap is especially large on loans sold to GSEs (government-sponsored enterprises), being as large as 7.2 days over the 2001–03 period. In contrast, loans sold to private-label securitizers often required little to no documentation and were processed almost a day faster when the borrower was Black. As migration across countries and continents has continued to rise, societies must ask whether these new members of their communities are suffering from lower access to finance due to a trust gap arising from cultural differences. There is ample evidence showing that cultural differences have an important effect on economic outcomes, and they do so through two different channels. First, there could be a dislike toward counterparties who have a different cultural background, akin to taste-based discrimination. Second, cultural differences could give rise to informational frictions, reminiscent of statistical discrimination. Identifying and disentangling these two channels empirically is very hard. In “Cultural Diversities, Lending Relationships and the Cost of Credit: Evidence from Migration,” Giorgio Albareto, Maddalena Galardo, Paolo Emilio Mistrulli, and Bianca Sorvillo study how cultural differences affect the functioning of credit markets. Specifically, they investigate whether migrants to Italy pay more for credit than natives after controlling for several factors that could otherwise have an impact on credit supply. Using granular data, the authors find that, on average, migrants pay 36 basis points more for credit relative to natives. There is cross-sectional heterogeneity across different migrant groups: migrants from Asia pay the highest rates, while migrants from other European Union countries pay the lowest ones. While interesting, these results on their own cannot help us conclude whether the mechanism generating them is taste-based or statistical discrimination. To do so, the authors track the interest rates charged to subsequent loans as the borrower-lender relationship matures over time. In a long-term relationship, a lender should be able to obtain both soft and hard information about the borrower. However, if loan officers practice taste-based discrimination against borrowers with a culturally different background than their own, interest rate differentials on repeat loans would not be affected by the additional information collected by a lender. The results are more consistent with statistical discrimination: the interest rate differential between migrants and natives narrows as the borrower-lender relationship evolves over time. Gender disparities in labor market outcomes persist and are not explained by differences in human capital. To remove such disparities, we need to understand the sources of women’s differential labor market outcomes. Recent developments in the literature point to three potential factors: gender differences in preferences, work structures that can differentially affect men versus women, and bias. Research on women’s labor outcomes typically addresses only one explanation at a time, resulting in limited conclusions. Further, the largest differences arise within occupations rather than between occupations. These limitations are addressed by Renée Adams and Michelle Lowry in their paper “What’s Good for Women Is Good for Science: Evidence from the American Finance Association.” In this work, the authors investigate the importance of multiple factors simultaneously in explaining why the work experiences of females and males differ. To do so, the authors conduct a within-occupation analysis based on a survey with the American Finance Association (AFA) to assess the professional culture in finance academia. The authors first show that among academics in finance, job satisfaction is significantly lower among women than men. Importantly, they find no significant gender differences in preferences, so this factor cannot explain women’s worse career experiences. This is a surprising result because conventional narratives have always referred to this dimension as a potential explanation. Women report less leisure time and greater childcare responsibilities, and they report having experienced bias to a greater extent. There is an important role that institutions and policy can play in correcting gender discrimination: addressing poor individual experiences and improving culture, for example, by encouraging unconscious bias training. These findings from the academic environment have implications for the broader finance industry as well. The gender pay gap is one glaring example of discrimination. Various public policies have been proposed to address this market failure. One such example is banning the employee’s salary history to limit the perpetuation of previous discrimination. Some states have adopted salary history bans with that explicit objective in mind. In the presence of salary history bans, employers cannot request and utilize a job candidate’s previous salary information. However, such bans have a possible unintended consequence: preventing potential employers from being able to observe worker productivity—that is, blocking the information channel. The question is, then, whether this unintended consequence induces costs that will end up making salary bans counterproductive. This question is addressed in the paper “Hidden Performance: Salary History Bans and Gender Pay Gap” by Jesse Davis, Paige Ouimet, and Xinxin Wang. The authors explore this question by estimating the causal impact of salary history bans on wages using a panel dataset of wage data for public-sector employees. The authors obtained the data from Freedom of Information Act requests. They focus on public-sector employees for many reasons, including maximizing the sample of salary history bans, and the consideration that the information channel should have a greater impact among public-sector workers because of greater employment protection. The paper contains two important results: salary history bans lead to a decrease in new-hire wages, and they have minimal effects on the gender pay gap. Wages of new hires are 3% lower following the introduction of the salary history ban, consistent with the information channel. The authors expect the impact of increased uncertainty, arising from the ban, to be of particular importance when labor market protections are present. In fact, the paper finds stronger wage reductions among new hires when more of the workers are unionized. Overall, these results are consistent with the view that limiting access to an informative signal of worker quality, even though it may be biased, has important and surprising implications for wages and the gender pay gap. Fostering diversity implies inclusiveness and support of LGBTQ communities. LGBTQ issues have been the subject of deep and polarized debates in the wider society. Corporations, being an integral component of society, need to make important choices on this polarizing topic. It should be no surprise that the corporate world has produced examples of firms that have been open about their support for the LGBTQ community, while others have publicly opposed same-sex marriage and stripped benefits from same-sex partners of their employees. Others still may have decided to sit on the fence. What are the factors that determine corporate LGBTQ policies, and what drives changes in these policies? Tanja Artiga González, Paul Calluzzo, G. Nathan Dong, and Georg D. Granic study this question in “Determinants of LGBTQ Corporate Policies.” The paper’s objective is the identification of the different factors explaining LGBTQ-related corporate policies and the divergent choices made by corporations on this issue. The authors argue that the divisive nature of the societal debate around LGBTQ rights makes LGBTQ-centered corporate commitments and engagements quite distinct from other corporate social responsibility (CSR) policies adopted by firms. LGBTQ engagement could be described as more sensitive and controversial than many other conventional CSR activities. Such engagement can also potentially generate dissatisfaction among the wider stakeholder base of corporations. In the paper, the authors capture corporate LGBTQ policy using the Corporate Equality Index (CEI), a measure developed by the Human Rights Campaign that is based on four main criteria: nondiscrimination policies, internal education and accountability, public commitment, and equitable benefits. The paper finds that large, young, and profitable firms have higher CEI scores. Firms with highly educated workers, those that operate in more liberal political environments, and those that primarily serve retail customers tend to have higher CEI scores. Further, a firm’s LGBTQ policies respond to pressure from shareholders through LGBTQ-related proposals. Finance in the form of philanthropic giving is also important for social change inspired by the nonprofit sector. This topic merits research of its own because the nonprofit sector also faces issues with lack of representation and biased systems. Donor-advised funds (DAFs), important vehicles for philanthropic giving in the United States, have grown significantly in the recent past and continue to do so. For example, Fidelity Charitable, a DAF, is the largest charity in the United States, receiving $9 billion in contributions in 2019 alone. DAFs are different from traditional charities because of the inherent flexibility contained in their structures. Of particular importance is the possibility given to donors to “give now, decide later.” We know very little about DAFs, and what we do know is based on small and hand-collected samples. In “Social Change Through Financial Innovation: Evidence from Donor-Advised Funds,” Jillian Grennan uses a novel dataset on the universe of 4,209 unique DAF sponsors from 2013 to 2018 to explore how DAF characteristics are associated with social progress. The first finding relates to the reason why DAFs have grown so much in the recent past. The paper finds that a number of features can explain such growth: access to modern financial technology tools; focus on diversity, equity, and inclusion in their grant making; and the possibility of liquidity transformation for non-cash gifts. Overall, these features reduce important frictions in charity giving, thus reducing financial constraints in this sector. The paper also finds that some of these features are associated with potential social benefits. A notable example is the positive effect of innovative DAFs on the value-weighted share of grant dollars channeled to charities in high-inequality areas. There is also a positive impact of innovative DAFs on funding for the most efficient charities, and during times of greater need. Overall, these results on DAFs constitute the first type of systematic evidence about such vehicles, and they can help us understand whether such vehicles can promote social change through efficient philanthropic funding. Nudges have long been recognized as devices that can influence individuals to take positive actions. Because they are relatively cheap to implement, effective nudges can be a useful policy tool. But can nudges lead to or even exacerbate differences in outcomes across different groups of people? In “The Disparate Effect of Nudges on Minority Groups,” Maya Haran Rosen and Orly Sade explore this question in the context of the Savings for Every Child Program in Israel. Under this program, launched in 2017, for every child under eighteen the Israeli government deposits some money each month into a savings account. Parents can elect to save additional amounts for the child from their own finances and to make investment choices. After the program was launched, text message nudges were to households from two areas. The authors find that, on the the was effective in participation from However, the from two minority groups in and was only as large as from the The authors show that the for the lower from the minority groups lower less use of trust in the and lower financial However, even for all these there is a gap in the from the minority that cultural effects may also play a The message is that even policies can generate In many we see different groups of different financial and economic outcomes. It is important to understand the to which such outcomes are the result of such as discrimination and a lack of diversity among The papers in this volume of the Review of Corporate Finance Studies all to disparities in different to finance and were developed through the new Registered We hope that these papers help to new research on the important theme of “Discrimination, Disparities, and Diversity in Finance.”