We analyze the incentives of investment banks to develop innovative products. We show that client characteristics and market structure affect these incentives significantly. Investment banks with larger market shares have greater incentives to innovate and smaller banks are likely to share their innovations with the largest bank. Innovation incentives increase in volatile environments and regulatory scrutiny actually encourages loophole exploitation activity. Our predictions are consistent with stylized facts and the analysis has broad testable implications for innovative activity in other markets similarly characterized by a lack of comprehensive protection for intellectual property rights, for example, the software industry

We analyze the incentives of investment banks to develop innovative products. We show that client characteristics and market structure affect these incentives significantly. Investment banks with larger market shares have greater incentives to innovate and smaller banks are likely to share their innovations with the largest bank. Innovation incentives increase in volatile environments and regulatory scrutiny actually encourages loophole exploitation activity. Our predictions are consistent with stylized facts and the analysis has broad testable implications for innovative activity in other markets similarly characterized by a lack of comprehensive protection for intellectual property rights, for example, the software industry. Article published by Oxford University Press on behalf of the Society for Financial Studies in its journal, The Review of Financial Studies

The book begins with a quote from J.H. Dales’ Pollution, Property, and Prices, "If it is feasible to establish a market to implement a policy, no policy-maker can afford to do without one." This book provides important evidence in support of Dales’ statement. The book is a thorough examination of the first several years of the U.S. Acid Rain Program. This innovative program uses a cap-and-trade approach, rather than the traditional command-and-control approach, to reduce sulfur dioxide (SO2) emissions. The book offers substantial evidence of the program’s success. The analysis is of both practical and scientific importance. From a practical viewpoint, the acid rain program is an ambitious effort to reduce a major pollutant. It is important for us to understand whether the program is successful and how it might be improved. From a scientific viewpoint, the authors’ analysis provides a framework and methodology for evaluating similar programs. There is much we can learn about effective regulation from the analysis

Venture capital financing is widely believed to be influential for new innovative companies. We provide empirical evidence that venture capital financing is related to product market strategies and outcomes of start-ups. Using a unique hand-collected database of Silicon Valley high-tech start-ups we find that innovator firms are more likely to obtain venture capital than imitator firms. Venture capital is also associated with a significant reduction in the time to bring a product to market, especially for innovators. Our results suggest significant interrelations between investor types and product market dimensions, and a role of venture capital for innovative companies

The role that financial innovation plays in financial markets is very controversial. To provide insight into this role, we examine how market participants use the highly successful Treasury STRIPS program. We find that investors use the option to create Treasury‐derivative STRIPS primarily to make markets more complete and take advantage of tax and accounting asymmetries. Although liquidity‐related factors help explain differences in the prices of Treasury bonds and STRIPS, we find little evidence that the option to strip and reconstitute securities is used for speculative or arbitrage‐related purposes

Markets for Clean Air is the definitive text on the U.S. acid rain program. This innovative program uses a cap-and-trade approach, rather than the traditional command-and-control approach, to reduce sulfur dioxide emissions. The authors conclude that the program was successful in cutting the costs of SO2 emission reductions by about half, saving tens of billions of dollars. Both scholars and policy makers will have a better sense of the virtues and pitfalls of market-based regulation after reading this

Arguments for creating a market to allow trading the portfolio of all endowments in the entire world, the “market portfolio”, are considered. This world share market would represent a radical innovation, since at the present time only a small fraction of world endowments are traded. Using a stochastic endowment economy where preference are mean variance, it is shown that creating such a market may be justified in terms of its contribution to social welfare. It is also argued that creating a market for world shares is attractive for certain reasons of robustness and simplicity

Arguments for creating a market to allow trading the portfolio of all endowments in the entire world, the "market portfolio," are considered. This world share market would represent a radical innovation, since at the present time only a small fraction of world endowments are traded. Using a stochastic endowment economy where preferences are mean variance, it is shown that creating such a market may be justified in terms of its contribution to social welfare. It is also argued that creating a market for world shares is attractive for certain reasons of robustness and simplicity

In recent years, securitization and other financial innovations have provided unprecedented opportunities for banks to reduce substantially their regulatory capital requirements with little or no corresponding reduction in their overall economic risks – a process termed “regulatory capital arbitrage”. These methods are used routinely to lower the effective risk-based capital requirements against certain portfolios to levels well below the Basel Capital Accord’s nominal 8% total risk-based capital standard. This paper discusses the principal techniques used to undertake capital arbitrage and the difficulties faced by bank supervisors in attempting to deal with these activities under the current capital framework