Showing papers in "The Journal of Law and Economics in 2007"

Independent Actor or Agent? An Empirical Analysis of the Impact of U.S. Interests on International Monetary Fund Conditions

Abstract: In this paper, we analyze whether International Monetary Fund (IMF) conditionality is exclusively designed to be in line with observable economic indicators or whether it is partly driven by the IMF's major shareholder, the United States. A panel data analysis of 206 letters of intent from 38 countries, submitted during the period April 1997 through February 2003, revealed that the number of conditions on an IMF loan depended on a borrowing country’s voting pattern in the UN General Assembly. Closer allies of the United States (and other Group of 7 [G7] countries) received IMF loans with fewer conditions, especially prior to elections. These results are relevant to current public policy debates on the role and process of setting IMF loan conditions and provide broader insight into the influence of the United States and other G7 countries on international institutions.

Trading with Bandits

Abstract: Is it possible to trade with bandits? When government is absent, the superior strength of some agents makes it cheaper for them to violently steal what they desire from weaker agents than to use trade to obtain what they want. Such was the case with middlemen who interacted with producers in late precolonial west central Africa. In the face of this threat, producers employed two mechanisms to make exchange with middlemen possible. On the one hand, they used credit to alter middlemen’s cost‐benefit structure of engaging in plunder versus trade. On the other hand, producers demanded tribute from traveling traders as a risk premium. By transforming traveling traders’ incentive from banditry to peaceful trade and reducing producers’ costs associated with interacting with middlemen, these mechanisms enhanced both parties’ ability to capture the gains from exchange.

The Political Economy of European Merger Control: Evidence using Stock Market Data

Abstract: The objective of this paper is to investigate the determinants of European Union (EU) merger control decisions. We consider a sample of 167 EU mergers between 1990 and 2002 and evaluate their competitive consequences by the reaction of the stock market price of competitors to the merging firms. We then account for the discrepancies between the actual and optimal decisions as indicated by the stock market in terms of the political economy surrounding the cases. Our results suggest that the commission’s decisions cannot be solely accounted for as protecting consumer surplus. The institutional and political environment does matter. As far as influence is concerned, however, our data suggest that the commission’s decisions are not sensitive to firms’ interests. Instead, the evidence suggests that other factors—such as market definition and procedural aspects, as well as country and industry effects—do play a significant role.

Heavy alcohol use and crime: evidence from underage drunk-driving laws

Abstract: This paper provides new evidence on the causal effect of alcohol use and crime. I use variation induced by the adoption of strict zero‐tolerance (ZT) drunk‐driving laws, which significantly reduced binge drinking by males aged 18–20 years but did not affect slightly older males aged 22–24 years. I use age‐specific arrest data for police agencies in metropolitan statistical areas to estimate the effect of ZT laws on crime, controlling for both year and police agency fixed effects. I find that ZT laws significantly increased the fraction of adult male arrests for driving under the influence attributable to 18–20‐year‐olds and decreased the fraction of nuisance and property crime arrests attributable to 18–20‐year‐olds, with no effects on violent crime. These results are validated by important null findings: ZT laws did not affect arrests in any crime category for males aged 22–24 years. These results suggest that heavy alcohol use causes the commission of property and nuisance crimes.

Upstream Competition and Vertical Integration in Electricity Markets

Abstract: Many studies have found substantial market failures in electricity markets that have been restructured to allow wholesalers to set prices. Vertical integration of firms may partially mitigate market power since integrated firms have a reduced interest in setting high prices. These producers sell electricity and also are required to buy power, which they provide to their retail customers at set rates. This paper examines the importance of vertical integration in explaining firm behavior during the first summer following the restructuring of the Pennsylvania, New Jersey, and Maryland wholesale market. I compare the behavior of other firms with that of two producers that, owing to variation in state policy, had relatively few retail customers. I conclude that restructuring led to an increase in anticompetitive behavior by large net sellers but that overall vertical integration both mitigates market power and diminishes its distributional impacts.

Domestic Code Sharing, Alliances, and Airfares in the U.S. Airline Industry

Abstract: This paper examines the impact of domestic code‐sharing alliances on airfares. Our analysis yields two novel and somewhat surprising findings that have yet to be documented in the literature. First, unlike with international code sharing, we find that the overwhelming majority of domestic code‐share itineraries involve a single operating carrier, a phenomenon that we refer to as virtual code sharing. Second, we find that these virtual code‐sharing itineraries are priced lower than itineraries operated and marketed by a single carrier in the same market. We suggest that carriers may be using virtual code sharing—in large part—as a generic product to compete for the most price‐sensitive passengers.

Financial Contracting in Biotech Strategic Alliances

Abstract: We analyze 125 strategic alliance contracts, all of which concern early‐stage research at small biotechnology research and development companies. Staged investment is ubiquitous, but solutions to agency problems vary. The cycle of equity participation in alliances resembles what we observe in venture capital contracts: they involve convertible equity and sometimes contain antidilution provisions, warrants, and board seats. Contracts rights vary explicitly with the size of the equity stake. Contracts contain explicit provisions linking equity participation to subsequent initial public offerings and contain clauses designed to insulate both parties from multitasking problems. Contracts often specify provisions that are unobservable or difficult to verify, which suggests a role for expected litigation as an enforcement tool in contract design.

The Impact of Post‐9/11 Airport Security Measures on the Demand for Air Travel

Abstract: We examine the impact of two post‐9/11 airport security measures—baggage screening and federalization of passenger screening—on demand for air travel in the United States. Exploiting the phased introduction of security measures across airports, we find that baggage screening reduced passenger volume by about 6 percent on all flights and by about 9 percent on flights departing from the nation’s 50 busiest airports. In contrast, federalizing passenger screening had little effect on passenger volume. We provide evidence that the reduction in demand was an unintended consequence of baggage screening and not the result of contemporaneous price changes, airport‐specific shocks, schedule changes, or other factors. This decline in air travel had a substantial cost. Back‐of‐the‐envelope calculations indicate that the airline industry lost about $1.1 billion because of the decline, which is 11 percent of the loss attributed directly to 9/11.

Is Crime Contagious

Abstract: Understanding whether criminal behavior is “contagious” is important for law enforcement and for policies that affect how people are sorted across social settings. We test the hypothesis that criminal behavior is contagious by using data from the Moving to Opportunity (MTO) randomized housing mobility experiment to examine the extent to which lower local area crime rates decrease arrest rates among individuals. Our analysis exploits the fact that the effect of treatment group assignment yields different types of neighborhood changes across the five MTO demonstration sites. We use treatment by site interactions as instruments for measures of neighborhood crime rates, poverty, and racial segregation in our analysis of individual arrest outcomes. We are unable to detect evidence in support of the contagion hypothesis. Neighborhood racial segregation appears to be the most important explanation for across‐neighborhood variation in arrests for violent crimes in our sample, perhaps because drug market ...

Managerial Leverage Is Limited by the Extent of the Market: Hierarchies, Specialization, and the Utilization of Lawyers’ Human Capital

Abstract: This paper examines the role of hierarchies in the organization of human‐capital‐intensive production. We develop an equilibrium model of hierarchical organization and provide empirical evidence based on confidential data on thousands of law offices. The equilibrium assignment of individuals to hierarchical positions varies with the degree of field specialization, which increases as the extent of the market increases. As individuals’ knowledge becomes narrower but deeper, managerial leverage—the number of workers per manager—optimally increases to exploit this depth. Consistent with our model, the share of lawyers who work in hierarchies and the ratio of associates to partners increase as market size increases and lawyers field specialize. Other results provide evidence against alternative interpretations that emphasize unobserved differences in the distribution of demand, or firm‐size effects, and lend additional support to the view that, in legal services, hierarchies help exploit increasing re...

The Law and Economics of Company Stock in 401(k) Plans

Abstract: Some 11 million participants in 401(k) plans invest more than 20 percent of their retirement savings in their employer’s stock. Yet investing in the stock of one’s employer is risky: single securities are riskier than diversified portfolios, and an employee’s human capital typically is positively correlated with the company's performance. In the worst‐case scenario, workers can lose their jobs and much of their retirement wealth simultaneously. For workers who expect to work for a company for many years, a dollar of company stock can be valued at less than 50 cents after accounting for risk. However, employees still invest voluntarily in their employer's stock, and many employers insist on making matching contributions in stock. We provide evidence that employees underestimate the risk of owning company stock, while employers overestimate the benefits associated with employee stock ownership. We then analyze the likely effects of current and proposed regulations in this context.

Does Public Scientific Research Complement Private Investment in Research and Development in the Pharmaceutical Industry

Abstract: This paper analyzes how pharmaceutical research and development (R&D) investment responds to publicly supported biomedical research performed mainly at universities and nonprofit institutions. New microlevel data on investment, by the U.S. National Institutes of Health, allow measures of public basic and clinical research in seven medical classes to be included in a distributed lag model explaining pharmaceutical R&D investment. Using a panel of medical classes observed over 18 years, the analysis found strong evidence that public basic and clinical research are complementary to pharmaceutical R&D investment and thereby stimulate private‐industry investment. However, differences in the relevance and degree of scientific and market uncertainty between basic and clinical research lead to differences in the magnitude and timing of the pharmaceutical investment response.

Financial Development and Pathways of Growth: State Branching and Deposit Insurance Laws in the United States, 1900–1940

Abstract: This paper studies the effect of state‐level banking regulation on financial development and on components of state‐level growth in the United States from 1900 to 1940. We use these banking laws to assess the findings of a large recent literature that has argued that financial development contributes to economic growth. We contend that the institutional mechanism leading to financial development is important in determining its consequences and that some types of financial development can even retard economic growth. For the United States from 1900 to 1940, we argue that the financial expansion induced by expanded bank branching accelerated the mechanization of agriculture and spurred growth in manufacturing. In contrast, financial expansions induced by state deposit insurance had negative consequences for both the agricultural and manufacturing sectors.

The Home Court Advantage in International Corporate Litigation

Abstract: Using a comprehensive sample of 2,361 public U.S. corporate defendants and 715 public foreign corporate defendants in U.S. federal courts in the period 1995–2000, we find that the market reaction at the announcement of a U.S. federal lawsuit is less negative for U.S. corporate defendants than for foreign corporate defendants. We find that this market reaction is rational; U.S. firms are less likely to lose than are foreign firms when we control for year, industry, type of litigation, size, and profitability. This finding may still reflect a sample selection bias. We control for this bias, and the results remain unchanged. We thus cannot rule out that U.S. firms have a home court advantage in U.S. federal courts.

The Economics of Slotting Contracts

Abstract: Slotting fees, per‐unit‐time payments made by manufacturers to retailers for shelf space, have become increasingly prevalent in grocery retailing. Shelf space contracts are shown to be a consequence of the normal competitive process when retailer shelf space is promotional, in the sense that the shelf space induces profitable incremental individual manufacturer sales without drawing customers from competing stores. In these circumstances, retailer and manufacturer incentives do not coincide with regard to the provision of promotional shelf space, and manufacturers must enter shelf space contracts with retailers. Retailers are compensated for supplying promotional shelf space at least partially with a per‐unit‐time slotting fee when interretailer price competition on the particular product makes compensation with a lower wholesale price a more costly way to generate equilibrium retailer shelf space rents. Our theory implies that slotting will be positively related to manufacturer incremental profi...

Bankruptcy Decision Making: An Empirical Study of Continuation Bias in Small-Business Bankruptcies

Abstract: Many small businesses attempt to reorganize under Chapter 11 of the U.S. Bankruptcy Code, but most are ultimately liquidated instead. Little is known about this shutdown decision. It is widely suspected that the bankruptcy process exhibits a continuation bias, allowing failing businesses to linger under the protection of the court, which resists liquidation even when it is optimal. This paper examines the shutdown decision in a sample of Chapter 11 bankruptcy cases filed in a typical bankruptcy court over the course of a year. The presence of continuation bias is tested along several dimensions—the extent of managerial control over the bankruptcy process, the accuracy and speed with which viable and nonviable businesses are distinguished, and the characteristics of the hazard of shutdown compared with the predictions of a formal model. Contrary to conventional wisdom, the paper finds that continuation bias is either absent or empirically unimportant.

Airline Code‐Share Alliances and Their Competitive Effects

Abstract: Code‐share alliances have become a prominent feature in the competitive landscape of the airline industry. However, policy makers are extremely hesitant to approve proposed code‐share alliances when the potential partners’ route networks have significant overlap. The main concern is that an alliance may facilitate price collusion on partners’ overlapping routes. This article shows how policy makers can use a structural econometric framework to quantify the competitive effects of proposed code‐share alliances, where potential alliance partners compete on overlapping routes in the prealliance industry. As an example, I apply the econometric model to the Delta/Continental/Northwest alliance. This proposed alliance was initially greeted with skepticism by the U.S. Department of Transportation owing to the potential partners’ unprecedented level of route network overlap. For the markets considered in my analyses, it appears as though the ultimate approval of the alliance by policy makers was justified.

Diabetes Treatments and Moral Hazard

Abstract: In the face of rising rates of diabetes, many states have passed laws requiring health insurance plans to cover medical treatments for the disease. Although supporters of the mandates expect them to improve the health of diabetics, the mandates have the potential to generate a moral hazard to the extent that medical treatments might displace individual behavioral improvements. Another possibility is that the mandates do little to improve insurance coverage for most individuals, as previous research on benefit mandates has suggested that mandates often duplicate what plans already cover. To examine the effects of these mandates, we employ a triple‐differences methodology comparing the change in the gap in body mass index (BMI) between diabetics and nondiabetics in mandate and nonmandate states. We find that mandates do generate a moral hazard problem, with diabetics exhibiting higher BMIs after the adoption of these mandates.

Monopoly Quality Degradation and Regulation in Cable Television

Abstract: Using an empirical framework based on the Mussa-Rosen model of monopoly quality choice, we calculate the degree of quality degradation in cable television markets and the impact of regulation on those choices. We find lower bounds of quality degradation ranging from 11 to 45 percent of offered service qualities. Furthermore, cable operators in markets with local regulatory oversight offer significantly higher quality, less degradation, and greater quality per dollar, despite higher prices.

Why Are There Serial Defaulters? Evidence from Constitutions

Abstract: Presidential democracies were 4.9 times more likely than parliamentary democracies to default on external debts between 1976 and 2000. In this article I argue that the explanation for the serial defaults by a number of sovereign borrowers lies in their constitutions. Ceteris paribus, parliamentary democracies are less likely than presidential democracies to default on their liabilities because the confidence requirement creates a credible link between economic policies and the executive's political survival. This link tends to strengthen the repayment commitment when politicians are opportunistic. I show that this effect is large in the contemporary world even when the comparison is restricted to countries that are similar in terms of colonial origin, geography, and economic variables. Since a country's form of government is typically chosen at the time of independence and is highly persistent over time, constitutions can explain why debt policies in developing countries are related to individual...

Tort reform and accidental deaths

Abstract: Theory suggests that tort reform could have two possible impacts on accidents. Reforms could increase accidents as tortfeasors internalize less of the cost of externalities and have less incentive to reduce the risk of accidents. Alternatively, tort reforms could decrease accidents as lower expected liability costs result in lower prices, enabling consumers to buy more risk‐reducing products such as medicines, safety equipment, and medical services, and could result in consumers increasing precautions to avoid accidents. We test these effects by examining the relationship between tort reform and non‐motor‐vehicle accidental death rates using panel data techniques. We find that noneconomic damage caps, a higher evidence standard for punitive damages, product liability reform, and prejudgment interest reform are associated with fewer accidental deaths, while reforms to the collateral source rule are associated with increased deaths. Overall, the tort reforms in the states between 1981 and 2000 are associated with an estimated 24,000 fewer accidental deaths.

Cartel Code Attributes and Cartel Performance: An Industry-Level Analysis of the National Industrial Recovery Act

Abstract: This paper uses the cartel‐enabling National Industrial Recovery Act (NIRA) of 1933 to gain insight into cartel performance. I employ a monthly panel of 66 industries that passed an NIRA code of fair competition to examine how specific attributes of these cartel codes affected the ability to achieve collusive outcomes. I find that output growth was significantly lower during cartel months, consistent with cartel theory, and that industries with more complex codes were more successful than those with simpler ones. Furthermore, industries with code restrictions on new productive capacity, production quotas, and requirements to file data with a central board were the most successful at reducing output, which suggests that these types of provisions were the most effective in helping firms attain collusive outcomes. Finally, I find that the effectiveness of data‐filing provisions was limited to the early months of the NIRA, prior to a wave of cartel breakdown occurring in spring 1934.

Advertising Restrictions and Competition in the Children’s Breakfast Cereal Industry

Abstract: In this article I analyze the consequences of advertising in the children’s breakfast cereal market I take advantage of the prohibition on advertising directed at children in the province of Quebec to examine the nature of advertising and to determine whether the restriction hinders competition I show that prices are higher in Quebec than in Canadian provinces that permit advertising This finding suggests that the informative role of advertising dominates any persuasive role, since the most likely explanation is that the restriction prevented firms from announcing products' existence or characteristics and thus from overcoming perceived differentiation If advertising is informative, restricting it should increase the market shares of older, better‐known brands and decrease the market shares of newer and/or less well known brands Empirical analysis supports this prediction: market shares of established brands are larger in Quebec than in the rest of Canada, and the opposite is true for nonest

Economies of Density and Regulatory Change in the U.S. Railroad Freight Industry

Abstract: Two reform acts, the Staggers Railroad Act of 1980 and the Railroad Revitalization and Regulatory Reform Act of 1976, represented big changes in U.S. policy toward railroads. An important welfare gain from these changes predicted by researchers was the efficiency gain from increased densities in rail freight traffic. However, few retrospective studies have analyzed the accuracy of these predictions. The present paper fills this gap by analyzing the effects of regulatory changes on freight traffic density, through simulation of the cost savings from gains in density, using a newly estimated rail cost function, and by comparison of these results with earlier predictions. Our results indicate net benefits of $7–$10 billion per year (as of 2001), stemming from cost savings from increased traffic densities relative to what would have occurred under regulation. These benefits are substantially higher than those predicted by researchers in the 1970s and early 1980s, for reasons explained in the paper.

Did Reform of Prudent Trust Investment Laws Change Trust Portfolio Allocation

Abstract: This paper investigates the effect of changes in state prudent trust investment laws on asset allocation in noncommercial trusts. The old prudent‐man rule favored “safe” investments and disfavored “speculation” in stock. The new prudent‐investor rule directs trustees to craft an investment portfolio that fits the risk tolerance of the beneficiaries and the purpose of the trust. Using state‐ and institution‐level panel data from 1986–97, we find that after adoption of the new prudent‐investor rule, institutional trustees held about 1.5–4.5 percentage points more stock at the expense of “safe” investments. Our findings explain roughly 10–30 percent of the overall increase in stock holdings in the period studied. The rest of the increase appears to be attributable to stock market appreciation. We conclude that, even though trust fiduciary laws are nominally default rules, institutional trustees are nonetheless sensitive to changes in those rules.

Deserters, Social Norms, and Migration

Abstract: Fourteen percent of Union Army soldiers were deserters. Were these men, who were known in their home communities to have failed cause and comrades, reintegrated into their communities? We construct a rich micropanel data set of U.S. Civil War soldiers from pro‐war and anti‐war communities to present new evidence on how community social norms shape soldiers’ postwar experiences. Relative to control groups, deserters were more likely to leave home, particularly if they were from pro‐war communities, to move to anti‐war communities and to reinvent themselves by changing their names.

Concentration-Based Merger Tests and Vertical Market Structure

Abstract: In this article I derive a concentration measure for markets with multiple vertical segments. I derive the measure using a model of vertical contracting in which upstream and downstream firms bargain bilaterally and may be integrated. The resulting vertical Hirschman‐Herfindahl index provides a measure of the degree of distortion in the vertical chain as a result of both the horizontal concentration in a segment and the degree of its vertical integration. This measure distinguishes between the differing competitive impacts of upstream and downstream competition, establishes the relative size of integrated firms in each segment, and provides a quantitative threshold test for vertical mergers.

Are Prudential Supervision and Regulation Pillars of Financial Stability? Evidence from the Great Depression

Abstract: Drawing on the variation in financial distress across U.S. states during the Great Depression, this article suggests how bank supervision and regulation affected banking stability during the Great Depression. In response to well‐organized interest groups and public concern over the bank failures of the 1920s, many U.S. states adopted supervisory and regulatory standards that undermined the stability of state banking systems in the 1930s. Those states that prohibited branch banking, had higher reserve requirements, granted their supervisors longer term lengths, or restricted the ability of supervisors to liquidate banks quickly experienced higher state bank suspension rates from 1929 to 1933.