Staff working papers in the Finance and Economics Discussion Series (FEDS) investigate a broad range of issues in economics and finance, with a focus on the U.S. economy and domestic financial markets.

FEDS 2023-011
Using U.S. Business Registry Data to Corroborate Corporate Identity: Case Study of the Legal Entity Identifier

William Treacy and Scott Okrent

Abstract:

This paper offers a fresh perspective on fundamental issues in using official incorporation records to corroborate the identity of corporate entities by comparing two publicly-available sets of information, namely, business registry incorporation records and reference data from the Legal Entity Identifier (LEI) system, with some focus on the monitoring function performed by LEI issuers as agents for LEI data users. Three modes of analysis are used to consider these issues, high-level analysis of LEI system data about U.S. entities with LEIs, interviews conducted with U.S. business registries, and entity-level comparisons of business registry and LEI records for entities with LEIs incorporated in the states of Ohio and Massachusetts. The fresh perspective provided here includes attention to key comparison issues such as truncation of Legal Names in official records; significant state-level variation in requirements to provide business address information in incorporation records or periodic reports; recognition that some key business register data may not be readily available or available only at a cost; whether in this context enhancements can be made to the expectations for, and disclosures by, LEI issuers in their monitoring role; and to what extent the high incidence of non-renewal of LEIs might play a role in the quality of LEI reference data. The paper develops measures of scope and degree for many key issues that can arise in using business registry information within an identity-corroboration context. The exceptional transparency of the LEI system allows for detailed comparisons that connect its data quality and value proposition with its sources and methods.

Keywords: anti-money laundering, corporations, counterparty risk, data mapping, financial supervision and regulation

DOI: https://doi.org/10.17016/FEDS.2023.011

FEDS 2023-010
IT Shields: Technology Adoption and Economic Resilience during the COVID-19 Pandemic

Myrto Oikonomou, Nicola Pierri, Yannick Timmer

Abstract:

We study the labor market effects of information technology (IT) during the onset of the COVID-19 pandemic, using data on IT adoption covering almost three million establishments in the US. We find that in areas where firms had adopted more IT before the pandemic, the unemployment rate rose less in response to social distancing. IT shields all individuals, regardless of gender and race, except those with the lowest educational attainment. Instrumental variable estimates–leveraging historical routine employment share as a booster of IT adoption– confirm IT had a causal impact on fostering labor markets’ resilience. Additional evidence suggests this shielding effect is due to the easiness of working-from-home and to stronger creation of digital jobs in high IT areas.

Keywords: Unemployment Rate, Technology, IT Adoption, Inequality, Skill-Biased Technical Change

DOI: https://doi.org/10.17016/FEDS.2023.010

FEDS 2023-009
Does Private Equity Over-Lever Portfolio Companies?

Abstract:

Detractors have warned that Private Equity (PE) funds tend to over-lever their portfolio companies because of an option-like payoff, building up default risk and debt overhang. This paper argues PE-ownership leads to substantially higher levels of optimal (value-maximizing) leverage, by reducing the expected cost of financial distress. Using data from a large sample of PE buyouts, I estimate a dynamic trade-off model where leverage is chosen by the PE investor. The model is able to explain both the level and change in leverage documented empirically following buyouts. The increase in optimal leverage is driven primarily by a reduction in the portfolio company’s asset volatility and, to a lesser extent, an increase in asset return. Counterfactual analysis shows significant loss in firm value if PE sub-optimally chose lower leverage. Consistent with lower asset volatility, additional tests show PE-backed firms experience lower volatility of sales and receive greater equity injections for distress resolution, compared to non PE-backed firms. Overall, my findings broaden our understanding of factors that drive buyout leverage.

Keywords: Private Equity; Capital Structure; Default Risk; Trade-off Theory

DOI: https://doi.org/10.17016/FEDS.2023.009

FEDS 2023-008
Recession Signals and Business Cycle Dynamics: Tying the Pieces Together

Abstract:

Examining a parsimonious, yet comprehensive, set of recession signals yields three lessons. First, signals from financial markets, leading indicators of activity, and gauges of the macroeconomic environment are each useful at different horizons, with leading indicators and financial signals informative at short horizons and the state of the business cycle at medium horizons. Second, approaches emphasizing the yield curve overstate the recession signal from the term spread if other factors are not considered; given correlations among indicators, these differences are often small, but were large in 2022. Finally, simulations of a reduced-form vector autoregression of unemployment and financial conditions, which captures the time-series properties of the series well, suggest the patterns are consistent with a typical hump-shape characterization of business cycle dynamics; this synthesis tightens the connections of the recession prediction literature with the business-cycle literature.

DOI: https://doi.org/10.17016/FEDS.2023.008

FEDS 2023-007
Who Pays For Your Rewards? Redistribution in the Credit Card Market

Abstract:

We study credit card rewards as an ideal laboratory to quantify redistribution between consumers in retail financial markets. Comparing cards with and without rewards, we find that, regardless of income, sophisticated individuals profit from reward credit cards at the expense of naive consumers. To probe the underlying mechanisms, we exploit bank-initiated account limit increases at the card level and show that reward cards induce more spending, leaving naive consumers with higher unpaid balances. Naive consumers also follow a sub-optimal balance-matching heuristic when repaying their credit cards, incurring higher costs. Banks incentivize the use of reward cards by offering lower interest rates than on comparable cards without rewards. We estimate an aggregate annual redistribution of $15 billion from less to more educated, poorer to richer, and high to low minority areas, widening existing disparities.

DOI: https://doi.org/10.17016/FEDS.2023.007

FEDS 2023-006
Monetary Policy and Home Buying Inequality

Abstract:

Does monetary policy influence who becomes a home owner? Home purchases by low- and moderate- income households may be particularly sensitive to mortgage interest rates, as these households' budgets are tighter and they more frequently come up against binding payment-to-income ratio constraints in credit decisions. Exploiting the timing of high-frequency observations of mortgage applicants locking in their interest rates around monetary policy shocks, I find that a 1 percentage point policy-induced increase in mortgage rates lowers the presence of low-income households in the population of home buyers by 1 percentage point, and of low- and moderate-income households by 2 percentage points, immediately following the shock. Effects are substantially stronger among first-time home buyers, and persist for approximately one year.

DOI: https://doi.org/10.17016/FEDS.2023.006

FEDS 2023-005
Beyond "Horizontal" and "Vertical": The Welfare Effects of Complex Integration

Margaret Loudermilk, Gloria Sheu, Charles Taragin

Abstract:

We study the welfare impacts of mergers in markets where some firms are already vertically integrated. Our model features logit Bertrand competition downstream and Nash Bargaining upstream. We numerically simulate four merger types: vertical mergers between an unintegrated retailer and an unintegrated wholesaler, downstream "horizontal" mergers between an unintegrated retailer and an integrated retailer/wholesaler, upstream "horizontal" mergers between an unintegrated wholesaler and an integrated retailer/wholesaler, and integrated mergers between two integrated retailer/wholesaler pairs. We find that mergers that have both horizontal and vertical characteristics typically harm consumers. We apply the model to the Republic/Santek merger as a real-world example.

Keywords: bargaining models, merger simulation, vertical markets, vertical mergers

DOI: https://doi.org/10.17016/FEDS.2023.005

FEDS 2023-004
Earnings Business Cycles: The Covid Recession, Recovery, and Policy Response

Jeff Larrimore, Jacob Mortenson, and David Splinter

Abstract:

Using a panel of tax data, we follow the earnings of individuals over business cycles. Compared to prior recessions, the Covid policy response and recovery were far more progressive. Among workers starting in the bottom quintile, median real earnings including fiscal relief increased 66 percent in 2020 and earnings increases offset relief decreases in the 2021 recovery. After the prior two recessions, this measure had decreased by 24 percent. Among those starting in the top quintile, median and average real earnings were approximately unchanged. This difference from prior recessions is largely attributable to larger Covid-era stimulus payments and unemployment insurance.

Keywords: Covid-19, wages, earnings, stimulus checks, unemployment insurance, countercyclical policy, government transfers

DOI: https://doi.org/10.17016/FEDS.2023.004

FEDS 2023-003
The Information Value of Past Losses in Operational Risk

Filippo Curti and Marco Migueis

Abstract:

Operational risk is a substantial source of risk for US banks. Improving the performance of operational risk models allows banks’ management to make more informed risk decisions by better matching economic capital and risk appetite, and allows regulators to enhance their understanding of banks’ operational risk. We show that past operational losses are informative of future losses, even after controlling for a wide range of financial characteristics. We propose that the information provided by past losses results from them capturing hard to quantify factors such as the quality of operational risk controls, the risk culture, and the risk appetite of the bank.

Keywords: Banking; Operational Risk; Risk Management

DOI: https://doi.org/10.17016/FEDS.2023.003

FEDS 2023-002
Welfare and Spending Effects of Consumption Stimulus Policies

Christopher Carroll, Edmund Crawley, Ivan Frankovic, and Håkon Tretvoll

Abstract:

Using a heterogeneous agent model calibrated to match measured spending dynamics over four years following an income shock (Fagereng, Holm, and Natvik (2021)), we assess the effectiveness of three fiscal stimulus policies employed during recent recessions. Unemployment insurance (UI) extensions are the clear "bang for the buck" winner, especially when effectiveness is measured in utility terms. Stimulus checks are second best and have the advantage (over UI) of being scalable to any desired size. A temporary (two-year) cut in the rate of wage taxation is considerably less effective than the other policies and has negligible effects in the version of our model without a multiplier.

DOI: https://doi.org/10.17016/FEDS.2023.002

FEDS 2023-001
Bad News, Good News: Coverage and Response Asymmetries

Luca Gambetti, Nicolò Maffei-Faccioli, and Sarah Zoi

Abstract:

We study the dynamic link between economic news coverage and the macroeconomy. We construct two measures of media coverage of bad and good unemployment figures based on three major US newspapers. Using nonlinear time series techniques, we document three facts: (i) there is no significant negativity bias in economic news coverage. The asymmetric responsiveness of newspapers' coverage to positive and negative unemployment shocks is entirely explained by the effects of these shocks on unemployment itself; (ii) consumption reacts to bad news, but not to good news; (iii) bad news is more informative to the agents and affects their expectations more than good news.

Keywords: News Coverage, Agents' Information, Business Cycles, Asymmetry, Threshold-SVAR.

DOI: https://doi.org/10.17016/FEDS.2023.001

Disclaimer: The economic research that is linked from this page represents the views of the authors and does not indicate concurrence either by other members of the Board's staff or by the Board of Governors. The economic research and their conclusions are often preliminary and are circulated to stimulate discussion and critical comment.

The Board values having a staff that conducts research on a wide range of economic topics and that explores a diverse array of perspectives on those topics. The resulting conversations in academia, the economic policy community, and the broader public are important to sharpening our collective thinking.

ISSN 2767-3898 (Online)

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Last Update: January 04, 2023