Essays in capital markets

The thesis is composed of three chapters. The first chapter proposes that financial innovation induces endogenous changes in the composition of market participants, which can both increase the interest rate and reduce the risk premia earned on pre-existing assets. We consider an exchange economy with endogenous participation. Competitive investors can freely borrow and lend, but must pay a fixed entry cost to invest in risky assets. Security prices and the participation structure are jointly determined in equilibrium. We show existence and constrained optimality of equilibrium under general conditions, and then specialize to a CARA-normal framework with finitely many risk factors. The model reconciles a number of features that have characterized financial markets in the past three decades: substantial financial innovation; a sharp increase in investor participation; improved risk management practices; an increase in interest rates; and a reduction in the risk premium. In the second chapter, we study the effect of margin constraints on volatility and welfare in an intertemporal financial economy. We find that margin requirements do not necessarily reduce market volatility and can generate non-monotonic redistributive effects. The setup allows for full flexibility in setting margin requirements and is well suited to address regulatory issues. We study in detail two types of margin rules. The uniform rule, in which margin constraints are constant over time and states, and the practitioners' rule of tightening margin constraints in bear markets and relaxing them in bull market.

Department dc:contributor.department

Massachusetts Institute of Technology. Dept. of Economics.

Grantor dc:publisher

Massachusetts Institute of Technology

Year dc:date.issued

2001

Author dc:creator

• Sodini, Paolo, 1968-

Advisor dc:contributor.advisor

• Dimitrios Vayanos and Jiang Wang.

• Economics.

Statement dc:rights

• M.I.T. theses are protected by copyright. They may be viewed from this source for any purpose, but reproduction or distribution in any format is prohibited without written permission. See provided URL for inquiries about permission.

Licence dc:rights.uri

• http://dspace.mit.edu/handle/1721.1/7582

Language dc:language.iso

eng

Handle dc:identifier.uri

http://hdl.handle.net/1721.1/35489

OAI identifier oai:identifier

oai:dspace.mit.edu:1721.1/35489