One striking feature of international portfolio investment is the extent to which equity portfolios are concentrated in the domestic equity market of the investor—the home bias puzzle. I examine the role of investors' perception of foreign investment risk on their portfolio choices. The expected returns and risk of foreign investment are specified through an asset pricing model with the home portfolio being the benchmark asset—Pastor's (2000) domestic CAPM. The model serves as a reference point around which investors can center their prior beliefs. I focus on investors' prior beliefs that are consistent with the literature on confidence in the familiar—foreign equities, in terms of both expected returns and risk, being viewed less favorably than domestic equities. These prior beliefs are then combined with the data on G7 equities, and the revised beliefs are used to obtain the global optimal asset allocation. To hold predominantly domestic equities, each G7 investor has to believe that the risk of foreign investment is several times higher than the actual risk. The home bias is more of a puzzle for a U.S. investor during the 1970s. Specifying investors' prior beliefs around the world CAPM does not help resolve the puzzle.

We examine how financial statement informativeness, analyst following, and news relate to the information asymmetry between insiders and outsiders. Corporations’ timely disclosures of value relevant information and information collection by outsiders reduce information asymmetry, limiting insiders’ ability to trade profitably on private information. We use the profitability and intensity of insider trades to proxy for information asymmetry. We find that increased analyst following is associated with reduced profitability of insider trades and reduced insider purchases. Financial statement informativeness is negatively associated with the frequency of insider purchases. However, company news, good or bad, is positively associated with insider purchase frequency.

We examine Chinese companies that issue both A-shares in mainland China and H-shares in Hong Kong. A-shares are restricted to mainland Chinese investors, while H-shares are available to Hong Kong and international investors. We find that H-shares exhibit significant exposure to Hong Kong market factors and behave more like Hong Kong stocks than mainland Chinese stocks. However, H-shares retain significant exposure to their domestic market and therefore provide foreign investors with diversification opportunities. We find a large time-varying H-share price discount relative to A-shares, and this discount is highly correlated with domestic and foreign market factors and relative market illiquidity.

Since the emergence of early endogenous growth models (Larry E. Jones and Rodolfo E. Manuelli, 1990; Sergio Rebelo, 1991), a large body of work has studied the growth effects of tax reform. While virtually all of this literature has confined itself to the analysis of flat-rate taxes, tax codes are generally progressive. This paper, therefore, explores the effects of progressive taxes in conventional growth models with heterogenous households. In such frameworks, the tax code helps to determine simultaneously the pre-tax income distribution and the rate of technical progress. We present three main findings. First, we show that when variations in tax codes stem from differences in progressivity, shares of tax revenue in GDP or income may constitute poor proxies for average marginal tax rates. In particular, we find that the decrease in progressivity associated with the Tax Reform Act of 1986 (TRA-86) lowered the U.S. average marginal tax rate by 0.06 to 0.37 percentage points depending on the model used. At the same time, however, the endogenous adjustment in the distribution of income produced by this progressivity change contributed to raising the tax share of income by approximately 0.8 percentage points. Because marginal tax rates are not easily observable, empirical work often has to make use of tax shares in income as an alternative. To the degree that lower marginal rates entail less tax distortion, our study suggests that relying on tax shares may cause less progressive tax codes to be incorrectly perceived as more distortional. Second, we find that the progressivity decrease implied by TRA-86 helped raise U.S. per capita GDP growth by 0.12 to 0.34 percentage points. Given the prominence of TRA-86 compared with other U.S. tax reforms over the past four decades, these growth effects, while not negligible (as in Robert E. Lucas, 1990), shed doubt on the potential for tax policy to alter significantly prospects for U.S. long-run growth. Finally, consistent with previous work, our analysis suggests that the progressivity change associated with TRA-86 had a significant effect on income inequality, resulting in a 20to 24percent increase in the Gini coefficient of income. We carry out our analysis using two prototypical endogenous growth models augmented to include a nondegenerate distribution of income. These models, one first formulated by Robert J. Barro (1990) and the other by Rebelo (1991), account for two polar extremes regarding the use of tax proceeds. On the one hand, in Rebelo’s two-sector framework, tax revenue is spent in a way that affects neither the marginal utility of private consumption nor the production possibilities of the private sector. On the other hand, in the environment envisioned by Barro (1990), all tax revenue serves to finance public services that enhance private production. Interestingly, the results we have just described emerge irrespective of the framework under consideration.

There are a number of circumstances in finance in which it is useful to estimate diffusion processes conditional on some event. In this paper, we develop the theoretical and numerical tools necessary to perform conditional estimation of diffusion processes within a generalized method of moments framework. We illustrate our method by estimating a univariate diffusion process for a standard time-series of interest rate data conditioned to remain between lower and upper boundaries. A test statistic fails to reject by a wide margin the linearity of the conditionally estimated drift coefficient.

The objective of this study is to examine the market valuation of environmental capital expenditure investment related to pollution abatement in the pulp and paper industry. The total environmental capital expenditure of $8.7 billion by our sample firms during 1989–2000 supports the focus on this industry. In order to be capitalized, an asset should be associated with future economic benefits. The existing environmental literature suggests that investors condition their evaluation of the future economic benefits arising from environmental capital expenditure on an assessment of the firms' environmental performance. This literature predicts the emergence of two environmental stereotypes: low-polluting firms that overcomply with existing environmental regulations, and high-polluting firms that just meet minimal environmental requirements. Our valuation evidence indicates that there are incremental economic benefits associated with environmental capital expenditure investment by low-polluting firms but not high-polluting firms. We also find that investors use environmental performance information to assess unbooked environmental liabilities, which we interpret to represent the future abatement spending obligations of high-polluting firms in the pulp and paper industry. We estimate average unbooked liabilities of $560 million for high-polluting firms, or 16.6 percent of market capitalization.

We present a model of delegation with self-interested and privately informed experts. A team of experts with extreme but opposite biases is acceptable to a wide range of decision makers with diverse preferences, but the value of expertise from such a team is low. A decision maker wants to appoint experts who are less partisan than he is in order to facilitate information pooling by the expert team. Selective delegation, either by controlling the decision-making process or by conditioning the delegation decision on his own information, is an effective way for the decision maker to safeguard own interests while making use of expert information. © 2004 by The University of Chicago. All rights reserved.

This paper compares the comovement of individual stock returns across emerging markets. Campbell et al. and Morck et al. have shown that the United States saw rising firm-specific stock return variations, and thus declining comovement, over the second half of the twentieth century. We detect a similar, albeit weaker, pattern in most, but not all, emerging markets. We further find that higher firm-specific variation is associated with greater capital market openness, but not goods market openness. Moreover, this relationship is magnified by institutional integrity (good government). Goods market openness is associated with higher marketwide variation.