Knowledge that Transforms

We examine the effects of cross-border supervisory arbitrage on corporate lending and firm performance. We show that subsidiaries of banking groups improve loan conditions for firms when the group’s opportunities to take risks in other countries are curbed. The expansion in lending is targeted towards firms of higher quality and firms that the group is already familiar with. The improved lending conditions have positive real effects, allowing recipient firms to increase capital spending and leading to higher profits. Taken together, our results suggest that there can be benefits for firms in countries that receive lending inflows due to the supervisory arbitrage.

We develop a model to examine how rational risk-averse individuals react and rearrange their consumption and investment choices in the presence of tax exclusions on the returns from risky assets that exclude a fixed amount of capital gains from taxation. We are specifically interested in the implications and efficacy of these special kinds of tax incentives that are commonly used to encourage investments in risky assets internationally. We also allow for tax rate uncertainty. We show that the effects of these tax exclusions on investors are nuanced and may not always achieve the desired policy objective of stimulating higher investments in risky assets. We identify the endogenously computed regions with shared common boundaries where increasing capital gains tax exclusions will stimulate higher demand for risky assets, have no effect on demand at all, or even have an opposite effect by reducing demand. While our results apply to tax exclusions in general, we provide two specific examples using (i) data from the United States housing market, and (ii) the United Kingdom stock market, for a CRRA investor. We also provide insights on the pricing and related issues for these tax-favored risky assets.

Relative performance evaluation (RPE) increases competition and limits pay-for-luck by rewarding executives for outperforming rivals. This study tests whether institutional investors reduce RPE use when they own stakes in competing firms. Contrary to this, the Big Three asset managers – BlackRock, Vanguard, and State Street – demonstrate strong preferences for RPE, reflected in portfolio firms’ RPE adoptions, say-on-pay vote support, and peer group selections. No evidence suggests that common ownership by these or other institutional investors reduces RPE, as confidence bounds and point estimates are near zero. Overall, the rising prevalence of RPE challenges concerns about anticompetitive effects from common ownership.

This study investigates a phenomenon we call “carbon home bias”: the tendency of investors to disproportionately allocate investments towards domestic carbon-intensive assets. Using a confidential security-by-security euro area holdings database, we show that European investors favor domestic over foreign carbon-intensive investments. We provide evidence for substantial carbon home bias, utilizing a newly developed measure of portfolio carbon home bias that measures domestic carbon bias in excess of home bias. Our study highlights home advantages as possible motivation for carbon home bias. Using the introduction of the French Energy Law Article 173 as a positive shock to decarbonization incentives, we find that French institutional investors maintain their domestic carbon-intensive holdings, while other European institutional investors reduce theirs. Higher domestic institutional ownership is associated with about 50% lower carbon emissions in the five years after the regulatory change and excess returns of about 3% per year. Our results further provide evidence for a foreign carbon premium, while the domestic carbon premium is insignificant. Consequently, the phenomenon of carbon home bias cannot be attributed to differences between home and foreign carbon risk premia.

Investment-financing maturity mismatches are common among firms worldwide, yet little is known about how government interventions can tackle them. This paper investigates China's Industry-Finance Cooperation Pilot Program as a quasi-natural experiment to examine whether, to what extent, and through what mechanisms government policies can address maturity mismatches. Using a multi-period difference-in-differences (DID) model and a sample of publicly listed A-share firms in China from 2014 to 2022, we find that the pilot program significantly reduces maturity mismatches by improving bank-firm information flows, reducing banks' concerns over moral hazard, and narrowing the term spread between short- and long-term interest rates. These findings provide empirical evidence that government policies can simultaneously tackle both supply and demand causes of maturity mismatches. Cross-sectional analyses reveal that the mismatch alleviation effect is strongest among non-state-owned enterprises, firms with low collateral availability, financially constrained firms, and those in highly competitive industries. Further, we find that alleviating maturity mismatches enhances firm stability, lowers financial distress, and improves market valuation, suggesting that these mismatches often reflect firms' “forced choices” rather than strategic preferences. Finally, analysis of bank-level data shows that the pilot program not only benefits firms but also reduces banks' credit and financial risks. Overall, this paper offers novel insights for policymakers by demonstrating how government interventions can improve corporate financing decisions while reducing systemic financial risks. It contributes to the broader corporate finance literature by highlighting the importance of credit availability in fostering financial stability and sustainable growth, particularly in emerging markets.

We examine California Assembly Bill No. 979 (AB 979), the first law mandating racial, ethnic, and other forms of diversity on corporate boards. Conventional t-tests show that stock returns around the enactment of the law are negative, economically large, and statistically significant; returns are more negative for smaller firms and firms with no diverse directors, suggesting higher compliance costs. However, statistical significance disappears after controlling for event date cross-correlation, when comparing returns on event dates to the pre-event distribution of returns, and in multivariate regressions. At least 90 % of firms comply with the first stage of AB 979 and the qualifications of mandated directors are largely similar to those of benchmarks, suggesting compliance costs are low. We also find no evidence that compliance affects firm operating performance. Overall, our results suggest that the diversity mandate has statistically and economically small effects relative to typical variation in stock returns and firm outcomes, which highlights the importance of considering appropriate counterfactuals and examining multiple dimensions when analyzing the impact of such mandates.

We assess small banks' responses to announcements of state-level proposals of Privacy Protection Acts (PPAs). Employing a Difference-in-Differences framework, we uncover the proactive actions taken by U.S. small banks in anticipation of these proposals. Our findings reveal that the announcement of PPA proposals leads to a 35.46% increase in IT investment by U.S. small banks, primarily driven by market pressure, with regulatory pressure playing a more limited role. Particularly, evidence suggests that banks with greater competitive threats from their rivals are motivated to enhance their IT investments due to market pressures. However, our research also finds that this surge in IT investment does not immediately translate into benefits for small banks.

The influence of external institutional environments on the internal functioning of business groups remains a critical yet underexplored area of research. In this paper, we focus on China's pro-market judicial reforms and examine how these reforms affect internal product and service transactions within business groups, finding that such reforms significantly reduce intra-group transactions. We further demonstrate that this decline reflects a strategic substitution toward external market transactions rather than an overall contraction in firm operations, and that the effect is not driven by managerial self-dealing but aligns with institutional voids theory. The effect is particularly pronounced in regions with underdeveloped product markets and weaker informal institutions, and in firms with lower reputations and stronger political connections. Moreover, our results hold consistently across various transaction types, whether seller- or buyer-initiated, service- or goods-related, and remain robust across alternative regression models, explanations, and regardless of the geographic proximity of group firms. These findings contribute to understanding the role of internal transactions within business groups in addressing institutional voids and add to the broader literature on how business groups emerge and adapt in response to gaps in institutional frameworks.