This paper examines the implications of market microstructure for asset pricing. I argue that asset pricing ignores the central fact that asset prices evolve in markets. Markets provide liquidity and price discovery, and I argue that asset pricing models need to be recast in broader terms to incorporate the transactions costs of liquidity and the risks of price discovery. I argue that symmetric information‐based asset pricing models do not work because they assume that the underlying problems of liquidity and price discovery have been solved. I develop an asymmetric information asset pricing model that incorporates these effects.

Maureen O'Hara, Trading Mechanisms and Stock Returns: An Empirical Investigation: Discussion, The Journal of Finance, Vol. 42, No. 3, Papers and Proceedings of the Forty-Fifth Annual Meeting of the American Finance Association, New Orleans, Louisiana, December 28-30, 1986 (Jul., 1987), pp. 554-555

This paper analyzes the economic role of commodity bonds by examining the nature of the demand for these securities. I show that while commodity bonds protect against relative price changes, they do so by introducing variability into the future real income stream. This variability limits the desirability of using commodity bonds to provide “price insurance” for future consumption. However, this variability may allow commodity bonds to hedge risks to consumption caused by stochastic changes in income. The analysis also suggests that it is this “income insurance” rather than “price insurance” that is important in hedging risks to future consumption.

This paper analyzes the economic role of commodity bonds by examining the nature of the demand for these securities. I show that while commodity bonds protect against relative price changes, they do so by introducing variability into the future real income stream. This variability limits the desirability of using commodity bonds to provide “price insurance” for future consumption. However, this variability may allow commodity bonds to hedge risks to consumption caused by stochastic changes in income. The analysis also suggests that it is this “income insurance” rather than “price insurance” that is important in hedging risks to future consumption.

Dynamic analysis has greatly increased our understanding of the microfoundations of the general firm. Unfortunately, however, little attention has been focussed on the dynamic nature of the banking firm. Instead, most theoretical work has derived the optimal behavior for the bank in a single period context. This approach, while yielding insight into the function of the bank as a broker between borrowers and lenders, has proven incapable of capturing many essential elements of the banking firm. The role of capital, for example, is understated if the risk of bankruptcy is not considered. Perhaps more importantly, the role of banks in transforming risks in an uncertain environment cannot be captured if the problem of handling these risks over time is not considered. This paper incorporates these dual roles of brokerage and risk transformation in a cohesive model of the banking firm.

Dynamic analysis has greatly increased our understanding of the microfoundations of the general firm. Unfortunately, however, little attention has been focussed on the dynamic nature of the banking firm. Instead, most theoretical work has derived the optimal behavior for the bank in a single period context. This approach, while yielding insight into the function of the bank as a broker between borrowers and lenders, has proven incapable of capturing many essential elements of the banking firm. The role of capital, for example, is understated if the risk of bankruptcy is not considered. Perhaps more importantly, the role of banks in transforming risks in an uncertain environment cannot be captured if the problem of handling these risks over time is not considered. This paper incorporates these dual roles of brokerage and risk transformation in a cohesive model of the banking firm.

This paper investigates the effect on bank equity values of the Comptroller of the Currency's announcement that some banks were “too big to fail” and that for those banks total deposit insurance would be provided. Using an event study methodology, we find positive wealth effects accruing to TBTF banks, with corresponding negative effects accruing to non‐included banks. We demonstrate that the magnitude of these effects differed with bank solvency and size. We also show that the policy to which the market reacted was that suggested by the Wall Street Journal and not that actually intended by the Comptroller.